MARC ASSIGNS PRELIMINARY RATING OF AA-IS TO JIMAH EAST POWER SDN BHD’S PROPOSED SUKUK MURABAHAH OF UP TO RM10.0 BILLION IN NOMINAL VALUE; OUTLOOK STABLE

MARC has assigned a preliminary rating of AA-_IS to Jimah East Power Sdn Bhd’s (JEP) proposed Sukuk Murabahah of up to RM10.0 billion. The outlook on the rating is stable. The proceeds from the proposed Sukuk Murabahah will be used to develop, design and construct a 2x1,000-megawatt ultra-supercritical coal-fired power plant in Negeri Sembilan.

National utility company Tenaga Nasional Berhad (TNB), the offtaker for the power plant, acquired a 70% equity interest in JEP for RM47 million from 1Malaysia Development Berhad in July 2015 following the latter’s exit as a project sponsor.  The other project sponsor Mitsui & Co., Ltd (Mitsui), via its wholly-owned subsidiary 3B Power Sdn Bhd (3B Power), retains its 30% equity interest in JEP. MARC notes that following a supplemental power purchase agreement (PPA) with TNB to accommodate the change in project sponsor and initial delays in project commencement, project milestones have been deferred by about seven months.

The revised scheduled project completion date is December 15, 2019.  The tariff has been revised upwards to reflect the increase in project cost estimates to RM12.2 billion from the initial RM11.1 billion. Under the current proposed 73.6:26.4 debt and equity financing mix, the Sukuk Murabahah will begin repayment on a semi-annual basis from 2021 onwards with the final repayment in 2038, about six years before the expiry of the 25-year PPA with TNB in 2044. The equity of about RM3.2 billion is in the form of ordinary shares and redeemable preference shares, and is mostly (approximately 92% of the total equity) back-ended after the full utilisation of the Sukuk Murabahah but before the revised scheduled project completion date. The project sponsors will each provide a corporate guarantee corresponding to their respective shareholders’ undertaking for the project’s equity contribution.

MARC’s assigned preliminary rating primarily reflects JEP’s predictable cash flow streams provided by the PPA’s availability-based capacity payments as well as the pass-through of fuel and variable expenses to TNB. MARC currently maintains a senior unsecured debt rating of AAA/Stable on TNB. The assigned preliminary rating also incorporates the strong commitment of the project sponsors TNB and Mitsui, the moderate construction, operations and maintenance (O&M) risks as well as low fuel supply risk. The rating agency believes that the project sponsors have significant strategic and financial interests in the power plant project, particularly TNB. This is evidenced by TNB’s commitment to maintain a minimum 65% direct or indirect shareholding in JEP throughout the Sukuk Murabahah’s tenure.

Constraining rating factors include risks associated with the power plant design and the relatively new ultra-supercritical technology. In addition, the cash flow coverage on JEP’s power plant project is relatively weaker when compared to other power plant projects in the same rating band.

Preliminary engineering, procurement and construction (EPC) works undertaken by a consortium chiefly comprising Japan’s IHI Corporation (IHI) and Toshiba Corporation (Toshiba), and South Korea’s Hyundai Engineering & Construction Co. Limited and Hyundai Engineering Co. Limited had commenced in June 2014 but were suspended in January 2015 as a result of JEP’s delay in achieving financial close. The suspension was resolved in July 2015 via a supplemental EPC contract under which JEP will settle the outstanding sums and suspension costs. Notwithstanding the delay, the rating agency believes that the fixed-price EPC contract has adequate performance guarantees and an achievable revised construction schedule.

The construction-related risk is mostly mitigated by the experience and credit strength of the EPC consortium’s key parties. However, MARC observes that the track record of IHI and Toshiba in supplying boiler and steam turbine generator models in accordance with the project power plant’s specifications is somewhat limited; nonetheless, the independent technical and environmental advisor Pöyry Energy Sdn Bhd has assessed that any technical risk can be sufficiently addressed during the detailed design stage.  The power plant project’s O&M responsibilities will be governed by an O&M agreement (OMA) with TNB’s wholly-owned subsidiary, TNB Repair and Maintenance Sdn Bhd (TNB REMACO), an experienced power utility repair and maintenance service provider. In addition, IHI and Toshiba will provide technical assistance during the initial operational phase and planned outage services for the boilers and steam turbine generators throughout the PPA tenure. This is expected to resolve any difficulties that may arise from the power plant operations. The performance guarantee and warranties provided under the EPC contract on the achievement of the power plant project’s performance targets under the PPA also help to mitigate technical and O&M risks to some extent.

Under the base case financial projections, JEP is expected to generate minimum and average finance service cover ratios (FSCR) with cash balances of 1.57 times and 1.77 times respectively. The base case scenario incorporates a net plant capacity factor of 85%, heat rates within specified limits of the PPA, and drawdowns under working capital facilities to bridge short-term funding gaps which help to smoothen JEP’s FSCR profile under mild stress scenarios. Based on MARC’s sensitivity analysis, the project cash flows are susceptible to construction delays and unplanned outage limit breaches. Nonetheless, the rating agency believes that the timely receipt of liquidated damages from the EPC consortium and insurance claims relating to a delay in the commencement of plant operations would provide some buffer against revenue shortfalls during the initial operating period. MARC also notes that in the event of severe and/or persistent plant underperformance, JEP would need to rely on retained cash to meet its obligations, particularly in 2038 when the principal repayment of the Sukuk Murabahah is the highest. In such a scenario, MARC expects JEP to depend on the working capital facilities for liquidity as well as to shift to a more conservative cash distribution and dividend policy.

The stable outlook reflects MARC’s expectations of timely completion and commissioning of the project power plant within the allocated budget and strong support from the project sponsors. Downward rating pressure could be triggered by project delays and/or construction cost overruns which would weigh on project cash flows.

Contacts: Ng Chun Kean, +603-2082 2230/ chunkean@marc.com.my; David Lee, +603-2082 2255/ david@marc.com.my.

September 2, 2015