S&P: PT Perusahaan Gas Negara Tbk. 'BBB-' Ratings Affirmed; Outlook Negative

(SINGAPORE (S&P Global Ratings) Aug. 27, 2020)--S&P Global Ratings today took the rating actions listed above. We affirmed the ratings and removed them from CreditWatch to reflect our view that PGN remains strategically important to its parent. The ratings on PGN therefore benefits from a two-notch uplift for group support from the stand-alone credit profile (SACP).

We now have greater clarity on PGN's strategic role and fit within the Pertamina group. Pertamina has become more articulate in its strategic goals for PGN as the group's main gas subsidiary. All natural gas transmission and distribution businesses, including Pertamina's liquefied natural gas (LNG) business will be housed under PGN. Pertamina has assigned some of its gas-related policy roles to PGN to deliver on Pertamina's public service obligations.

PGN's role is important as the gas subsidiary of Pertamina, notwithstanding that PGN will not be able to achieve operational integration with Pertamina's other businesses across the oil supply chain due to the nature of PGN's gas business.

Nonetheless, some strategic integration exists between PGN and Pertamina, in our view. This is because PGN is still closely linked to the Pertamina group. Pertamina is the ultimate oil and gas holding company in Indonesia following the government's consolidation of state-owned enterprises in the oil and gas sector. Pertamina is also the key feedstock supplier for PGN, and PGN is starting to execute some gas projects for Pertamina's refinery and pipeline.

As one of PGN's main gas suppliers, Pertamina has supported PGN by adjusting upstream prices sold to PGN. This follows the Indonesian government's decree in April 2020 to cap industrial gas prices at US$6 per million British thermal units (mmbtu) for seven industrial sectors. In addition, the government, via the regulator, will maintain its oversight of PGN's gas sourcing prices and will actively participate in gas price negotiations between gas producers and PGN as the offtaker.

That said, PGN's long-term normalized business mix and capital structure is still evolving. Pertamina and PGN, together with the Indonesian government, remain in discussions regarding the businesses that will be transferred to PGN, with the aim to achieve the most optimal outcome for both companies and their shareholders.

While Pertamina's restructuring of its six core businesses remains far from complete, we understand the company is evaluating a possible re-organization of PGN's upstream subsidiary, PT Saka Energi Indonesia, and the sale of the remaining 49% stake in PT Pertamina Gas (Pertagas) to PGN. One of the key issues for consideration is the possible tax implications of the re-organization of Saka and Pertagas. As such, the timing and nature of the transactions remain uncertain.

In our view, coordination between PGN and Pertamina is improving. While the linkages are not seamless at this point, Pertamina is gradually increasing its oversight and coordination of its subsidiaries, including PGN. Such coordination is crucial because it will enable Pertamina to take timely corrective actions and support PGN, if required.

Any intention to materially increase debt at PGN will require consultation with Pertamina. This is because an increase in PGN's leverage will also have a direct impact on Pertamina's financial leverage. The monitoring also reflects the importance of PGN's credit standing for Pertamina's capital structure as well as the existence of cross-default clauses with PGN's debt in some of Pertamina's facilities. This could incentivize Pertamina and the government to provide support to PGN in the event of financial distress.

In our view, Pertamina's increasing coordination with, and monitoring of PGN's operational and financial obligations, will improve Pertamina's supervision of PGN. Pertamina is the major shareholder, and has privileges granted through power of attorney by the government to appoint PGN's commissioners and directors, ensuring that PGN's strategies are aligned with Pertamina's overall strategies. As such, the government continues to have the ability, indirectly, to influence PGN via Pertamina.

The Indonesian government maintains significant influence over PGN via its "golden share" (which provides it with special veto rights). The government has direct control over PGN's ultimate ownership and any matters relating to acquisitions, mergers, and liquidation.

There is no track record of financial support from Pertamina for PGN. However, this is because PGN did not require such support in the past and the company remains profitable and financially viable. Pertamina has confirmed that it can, and will, provide support to PGN, if required. We expect such support to include shareholder loans and equity injection via subscription to rights issuances.

Over the next 12 to 24 months, we will continue to watch out for greater clarity on Pertamina's business strategies and plans for its different "sub-holdings" as they evolve, including the final fit for Saka and Pertagas. This includes greater clarity in PGN's ultimate business mix and capital structure.

A key consideration in our assessment of PGN as a strategically important subsidiary of Pertamina is evidence of the parent-subsidiary relationship and the parent's willingness to support PGN, particularly when PGN's stand-alone credit quality has weakened.

Our assessment of PGN's SACP of 'bb' continues to reflect the company's increasingly less predictable cash flows due to its declining gas spreads, notwithstanding the light-handed regulations for gas tariffs. PGN is also exposed to the small scale and high risk in its exploration and production business. However, PGN has a dominant market position in the gas transmission and distribution segment in Indonesia. We expect PGN's adjusted ratio of funds from operations (FFO) to debt to be 22% in 2020 and 18% in 2021, with sufficient headroom against the downgrade trigger of 15%.

The negative outlook on PGN reflects the outlook on Pertamina and in turn the outlook on the sovereign credit rating on Indonesia.

We may lower the rating on PGN if:

• We lower the sovereign credit rating on Indonesia to 'BBB-';

• PGN's SACP falls by two notches to 'b+'; or

• PGN's importance to, and the likelihood of support from, Pertamina weakens, and PGN's SACP falls to 'b+'. The lack of a well-defined support mechanism could result in a lack, or delay, in support to PGN, indicating a decrease in importance.

We may revise downward our assessment of PGN's SACP by one notch if:

• The government no longer maintains its oversight on PGN's gas sourcing prices and does not actively participate in gas price negotiations between producers and PGN as the offtaker;

• PGN suffers a permanent loss in margins due to adverse regulatory decisions and is unable to recover and be compensated for the loss; or

• The company's FFO-to-debt ratio falls below 15% on a sustained basis. This could happen if PGN suffers continuing margin compression, its capital spending increases substantially with no commensurate improvement in cash flows, or the company or its subsidiaries face further unexpected cash tax outflows.

We are unlikely to raise our ratings on PGN, given the pressure on the company's margins and the negative outlook on Pertamina. (ends)