Fitch Affirms Saka Energi at 'B+'; Outlook Negative

(Fitch Ratings - Singapore - 06 Apr 2022)--Fitch Ratings has affirmed PT Saka Energi Indonesia's Long-Term Issuer Default Rating (IDR) at 'B+'. The Outlook is Negative. The agency has also affirmed Saka's senior unsecured US-dollar bonds at 'B+' with a Recovery Rating of 'RR4'.

Saka's ratings benefit from a two-notch uplift from its Standalone Credit Profile (SCP) of 'b-', based on our assessment of its parent's - PT Perusahaan Gas Negara Tbk (PGN, BBB-/Stable) - 'Medium' incentive to provide support, in line with our Parent and Subsidiary Linkage Rating Criteria.

The Negative Outlook stems from uncertainty around Saka's position within PGN's structure and the risk of a continued decline in its business profile in the absence of large reserve replenishments. We expect that PGN will be required to help Saka repay or refinance its US-dollar notes due in 2024.

Fitch continues to assess Saka's SCP at 'b-', reflecting the weak operating and financial profile. Saka maintained its proved reserve life at 4.8 years at end-2021 (2020: 4.9 years) despite marginally higher production during the year. Fitch believes that risks of a decline in Saka's operating profile remain high in the absence of inorganic growth plans.

Key Rating Drivers

Parent's 'Medium' Incentive to Provide Support: We assesses PGN's incentive to support Saka as 'Medium' in light of significant reputational risk. This is driven by legal linkages from the presence of cross-default provision between PGN and its significant subsidiaries. We expect Saka, which is fully owned by PGN, to account for around 30% of PGN's consolidated EBITDA until 2023. Saka's branding is also integrated with PGN's in its marketing and financial materials.

Legal Linkages Remain Moderate: We believe Saka qualifies as a material subsidiary, as defined in the bond documentation of PGN's USD1.35 billion notes. Consequently, a default by Saka would trigger a cross-default provision in PGN's bonds, which mature after Saka's USD405 million notes due in 2024. However, we believe PGN's legal incentives to support Saka are only 'Medium', as its bond documents are vague about the definition of a material subsidiary, giving PGN some discretion. Continued deterioration in Saka's asset profile and earnings could further weaken its materiality to PGN.

Saka Misaligned in Group Structure: Saka's position in PGN's structure is uncertain. PGN has explicitly expressed its intention to provide liquidity support to Saka, but we believe Saka's strategic importance to PGN is 'Weak'. Overall, we assess the operational incentive to provide support as 'Medium', given PGN's control over Saka's board and management. Saka's strategic and operational importance to PGN has decreased since mid-2018 amid a restructuring of state-owned oil and gas companies that transferred the state's 57% ownership of PGN to PT Pertamina (Persero) (BBB/Stable).

Weakening Operating Profile: Saka's operating profile remains weak, with proved reserves of 50.6 million barrels of oil equivalent (mmboe) (2020: 46 mmboe) and proven and probable reserves of 87.2mmboe as of December 2021. Saka added 15.2 mmboe to its proved reserves against production of 10.6 mmboe during 2021 (2020 production: 9.4 mmboe). However, reserves and production are still at the lower end of 'B' rated peers. We believe there are risks to Saka's operating profile in the absence of inorganic growth.

Financial Profile Improvement Transient: We estimate Saka's leverage, defined by net debt/EBITDA, to improve to 1.6x in 2022, from 2.7x in 2021, due to higher oil prices and lower debt. However, we expect leverage to exceed 2.0x by 2023 and 4.0x by 2024, as we forecast lower oil prices and a drop in production volumes.

Parental Support Required for Bond Repayment: We expect Saka to require PGN's support to repay or refinance its US-dollar notes due in 2024. We estimate that Saka's EBITDA will improve to USD330 million in 2022, but then drop by USD100 million-200 million a year until 2025. Saka's earnings derive some stability from its large share of earnings from long-term fixed-price gas contracts. We include USD361 million in shareholder loans in Saka's debt.

Inorganic Investments Unlikely: Saka is unlikely to make inorganic investments until its ownership structure is finalised. We estimate capex for organic exploration and the developments of existing fields at around USD100 million during 2022 and 2023 (2021: USD106 million), rising to USD190 million in 2024.

Derivation Summary

Saka's ratings benefit from a two-notch uplift due to the 'Medium' incentive of support from its parent. Saka's 'b-' SCP is comparable with that of other small independent oil and gas companies rated globally. The ratings of Gran Tierra Energy International Holdings Ltd. (GTE, B-/Stable) and Frontera Energy Corporation (B/Stable) are constrained to the 'B' category given the inherent operational risks associated with the small scale and low diversification of their oil and gas production profiles.

Saka's small production size of 29 million of barrels of oil equivalent per day (mboepd) is similar to that of 'B' rated peers. We expect Saka's production to average at around 28mboepd, which is slightly lower than GTE's forecast production of 34mboepd. GTE and Frontera have 1P reserve lives of 6.8 years and 6.5 years, respectively, which is higher than Saka's 4.8 years. The Negative Outlook on Saka's rating reflects risks to further weakening in its operating profile.

Key Assumptions

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

- Oil price of USD100/barrel in 2022, USD80/barrel in 2023, USD60/barrel in 2024 and USD53/barrel thereafter.

- Oil and gas production at 28mboepd in 2022 and 2023, 24mboepd in 2024 and 22mboepd in 2025 (2021: 29mboepd)

- Capex of around USD100 million in 2022 and 2023, USD190million in 2024 and USD100million in 2025 (2021: USD106 million)

RATING SENSITIVITIES

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

- The Outlook maybe revised to Stable upon clear evidence of adequate support from PGN that can strengthen Saka's operating profile and upon clarity on Saka's position with the group structure, in which case we may assume that linkages between PGN and Saka and Saka's SCP remain unchanged.

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

- Weakening of linkages with PGN in the absence of significant additional support and a deterioration in Saka's position within the group structure.

- Weakening of Saka's SCP, including, but not limited to, declining reserves or production in the absence of reserve acquisitions, or a weakening of its liquidity position.

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

Liquidity Support from Parent Required: Saka will require additional funding to repay its bond on maturity in 2024 based on our forecasts. We expect that Saka would require PGN to rollover shareholder loans of USD77.6 million due in January 2023 and need additional funding support to repay its 2024 bonds. Apart from the shareholder loans, Saka does not face any near-term debt maturities, with its bonds of USD405 million falling due in 2024.

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

Saka's ratings benefit from a two-notch uplift from its SCP based on our assessment of moderate linkages between Saka and its parent.

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)