S&P: PLN outlook to stable from positive on expected persisting high leverage; 'BB' rating affirmed
Thursday, June 30 2016 - 04:06 PM WIB
"The outlook revision to stable reflects our assessment that PLN's cash flow adequacy and debt-servicing ratios will remain thin over the next three to four years," said S&P Global Ratings credit analyst Abhishek Dangra.
The postponement of a new tariff mechanism that we originally expected to kick off from June 2016 and support PLN's growing investment plan will likely be postponed to 2017 at the earliest. At the same time, we believe the company will remain committed to stepping up its investment substantially to increase power capacity, as mandated by the government, requiring further debt funding. We therefore lowered our stand-alone credit profile (SACP) on the company to 'b+' from 'bb-'. The lower SACP on the company means that we no longer expect to raise the rating on the company if we raise the sovereign rating on Indonesia.
We earlier expected that the government was going to implement the proposed Performance-Based Review (PBR) Mechanism starting June 2016. That mechanism would have provided some clarity regarding the rate of return on PLN's investments, tariffs, and pass through of costs. The government has not yet implemented the PBR. The actual terms of the PBR also remain unknown and the revised timing for implementation is uncertain. We now believe it could only take place in 2017 at the earliest. That delay is credit negative, in our view, because we had viewed its implementation as essential for PLN to meet its enlarged investment needs and ongoing debt service needs amid reducing dependence on government subsidies.
Growing capital spending over the next three years will also weigh on PLN's debt servicing capacity, in our view. The company planned investment of about Indonesian rupiah (IDR) 80 trillion annually through 2019 is significantly higher than the historical level of IDR25 trillion to IDR40 trillion it spent annually in the past few years. We acknowledge that it could be difficult for the company to reach the spending targets as it needs to further build up its project management and execution capacity, acquire land, tender engineering and construction contracts, and tie up funding. Still, we regard the higher spending plan to be more likely to materialize than before.
Our base-case assumption contemplates a gradual pickup of capital spending to more than IDR60 trillion annually in 2016 and 2017. This is somewhat short of the company's stated goal of IDR80 trillion in annual investments as some projects in its headline spending plan are bound to be delayed. Still, the higher spending will likely translate into annual negative free operating cash flows exceeding IDR20 trillion over the period. In the absence of an established tariff or support mechanism from the government, we believe the company's ratio of funds from operations (FFO) to debt is likely to stay between 8% and 10% through 2017 and unlikely to recover comfortably above 12%, a level that we would consider commensurate with a 'bb-' SACP.
The government of Indonesia has injected equity in the past to support investment at state-owned companies. PLN received about IDR5 trillion in equity injections from the government in 2015. The government has allocated further funding to assist state-owned companies, including PLN, to reach their investment plans. Nevertheless, we believe that any future equity infusion will be directed toward capital expenditure.
"Despite likely subdued debt servicing capacity, we affirmed our 'BB' corporate credit rating on PLN. In our view, the company still benefits from its status as a government-related entity. The company is one of the most important state-owned enterprises and plays key strategic roles in Indonesia's integrated power sector. It has a critical role in carrying out the bulk of power generation and distribution of electricity domestically, including subsidized power. We also consider the company's link with the government to remain very strong," said Mr. Dangra.
We expect PLN to remain solely-owned by the government for the next three years at least. A significant deterioration in the company's creditworthiness would significantly affect the government's reputation, in our view, given PLN's size and profile. In light of these considerations, we still believe the company will benefit from an extremely high likelihood of government support if required and PLN's corporate credit rating incorporates two notches of uplift for government support.
PLN has yet to publish its audited financials for the year ended Dec. 31, 2015. We understand that the delay is due to a change in accounting associated with, among other factors, the treatment of purchase power agreements, and that we understand PLN intends to publish its audited statements by June 30, 2016. The absence of a filing of audited annual financial statements within 180 days of the yearend reporting period could represent a technical event of default under the covenants in the company's medium-term note program, subject to a 30-day grace period. It could also reflect some shortcomings in the company's internal controls and reporting as it grows more complex. In the event PLN further delays its reporting, however, we see little incentives for bondholders to trigger an event of default and accelerate debt repayment. This reflects the company's status as one of the largest companies in Indonesia and its government ownership.
The stable outlook reflects our expectation that PLN will continue to benefit from extraordinary financial support from the government if necessary over the next three to four years given its critical policy role and relationship with its government shareholder. (ends)