NEW YORK--(BUSINESS WIRE)--Fitch Ratings has taken the following rating actions on Edison Mission Energy (EME) and Midwest Generation LLC:
Edison Mission Energy
--Long-term Issuer Default Rating (IDR) downgraded to 'B-' from 'B';
--Senior unsecured debt downgraded to 'CCC/RR5' from 'B-/RR5';
--Short-term IDR affirmed at 'B'.
Midwest Generation
--Long-term IDR downgraded to 'B-' from 'B';
--Secured Working Capital Facility downgraded to 'BB-/RR1' from 'BB/RR1;
--Short-term IDR affirmed at 'B'.
The Rating Outlook for both EME and MWG is Negative. More than $4 billion of long-term debt is affected by the rating actions.
Fitch has also issued a press release today detailing rating affirmations taken on EME's ultimate parent, Edison International (EIX; IDR 'BBB'; Outlook Stable) and Southern California Edison Company (SCE; IDR 'A-'; Outlook Stable).
Key Rating Drivers:
--Margin expectations remain weak due to meaningfully higher costs from environmental regulations and low power prices.
--Power prices significantly below Fitch's expectations could lead to further deterioration in EME's already weak credit profile and future rating downgrades.
--EME's debt leverage is unsustainably high relative to cash flows.
--Identifiable cash flows from project financings and U.S. Treasury cash grants are expected to enhance liquidity and facilitate covenant compliance through 2012.
--EME's $1.2 billion of cash and cash equivalents provides a measure of financial flexibility.
--Ability to refinance expiring bank lines of credit in 2012 and maturing debt in 2013 at reasonable rates.
EME Ratings Determined on a Stand Alone Basis:
The ratings of EME and MWG reflect rating linkage between EME and MWG and assume no future support from ultimate parent EIX. The ratings and Negative Outlook for EME and MWG reflect weak credit metrics due to sharply lower power prices, higher non-traditional gas supply, lower cyclical demand for power and high capacity reserve margins. Narrower dark spreads are likely to remain a challenge in the near to intermediate term.
Recovery Analysis Drives Instrument Ratings:
Fitch's Recovery Rating of 'RR1' for MWG's secured credit facility reflects asset coverage in the range of 90% - 100% based on Fitch's assumptions. As a result, MWG's secured term loan rating is placed three notches above its IDR at 'BB-'. EME's senior unsecured debt is estimated to see recoveries in the 10% - 30% range, resulting in an 'RR5' Recovery Rating and a 'CCC' instrument rating, one notch below the company's 'B-' IDR.
In its recovery analysis, Fitch values the power generation assets using a net present value (NPV) approach and its low gas case and plant valuation data provided by its third-party power market consultant, Wood Mackenzie and other assumptions.
Liquidity Provides Some Flexibility:
Importantly, Fitch's analysis indicates that identifiable cash from distributions to EME from renewable power project financings, U.S. Treasury grants, and operating cash flows will allow the company to remain current on its maturing obligations and comply with its financial covenants through 2013 at least, supporting the IDR of 'B-'. As of March 31, 2011, EME had $1.2 billion of cash and cash equivalents on its balance sheet.
Outlook Negative Reflects Low Energy Prices:
The Negative Outlook reflects Fitch's view that lower-than-expected wholesale power prices during the forecast period would result in future credit ratings downgrades. Fitch assumes modestly higher 2013 - 2015 wholesale power prices. The ratings and Outlook also consider environmental rules regarding sulfur dioxide, nitrogen oxide and mercury and anticipated greenhouse gas legislation, which pose significant long-term challenges for EME, in Fitch's opinion.
An extended cycle of low power prices coupled with meaningfully higher environmental compliance costs, consistent with Fitch's outlook for the U.S. wholesale power market, could render EME insolvent in the longer term. Moreover, an extended period of power prices below those in Fitch's Outlook would likely exacerbate EME's financial distress and accelerate a potential insolvency, supporting the Negative Outlook.
Significantly higher domestic natural gas supply from non-traditional resources combined with relatively high capacity reserve margins are likely to dampen power prices in the near to intermediate term resulting in continuing weak 2011 - 2015 credit metrics, in Fitch's estimation. EME's consolidated debt leverage is high and credit metrics anemic.
As of LTM ending March 31, 2011, EME's FFO-to-interest expense was 1.8 times (x) and is expected to hover near zero in 2012 and 2013. LTM FFO-to-debt was approximately 6.4% at the end of the first quarter of 2011 and is estimated by Fitch to turn negative in 2012 and 2013, rebounding modestly in 2013 - 2014, reflecting a modest increase in power prices beginning in 12 -18 months.
Challenging High Debt Leverage:
Debt leverage is likely to remain high in coming years as EME invests to comply with environmental regulations and selectively expands its presence in national renewable markets. EME's 2007 financial restructuring reduced debt at MWG, freeing-up future borrowing capacity to fund environmental capex. As a result of the company's 2007 financial restructuring, maturities are manageable at EME.
Excluding relatively small scheduled non-recourse maturities, the next scheduled EME maturity is $500 million of senior unsecured notes in 2013. As of March 31, 2011, EME had total debt outstanding of approximately $6.3 billion (including off-balance sheet debt), representing 69% of total capital.
EME had remaining borrowing capacity of $484 million under its $564 million credit facility and MWG $497 million remaining on its $500 million revolver at the end of the first quarter 2011. EME and MWG's secured bank facilities mature in June 2012. As of March 31, 2011, EME had $1.183 billion of cash and cash equivalents on its balance sheet. EME's ability to renegotiate its revolving credit lines and refinance its debt maturities at a reasonable rate is a key rating driver.
Financial Covenant Compliance Expected Through 2012:
Restrictive covenants in EME's current credit agreement require that the company maintain a minimum funds flow-to-interest coverage ratio of 1.20x or higher. The calculated ratio was 2.13x for the trailing four quarters ended March 31, 2011.
Fitch notes that the numerator of the funds flow-to-interest coverage ratio includes funds distributed to EME from financing of certain wind assets and U.S. Treasury cash grants, which Fitch calculates raised the coverage ratio from 1.16x.
Fitch believes that distributions from EME project financings and U.S. Treasury cash grants will be sufficient to enable the company to meet or exceed the minimum funds flow-to-interest coverage ratio of 1.20x through 2012.
EME & MWG Ratings Linked:
The ratings and Outlook for MWG reflect its position within the EME corporate family. MWG has little debt outstanding and benefits from strong debt leverage ratios. However, MWG's debt ratings are linked to EME through an inter-company loan of proceeds from the Powerton and Joliet sale/leaseback agreement from MWG to EME. In addition, EME provides a guarantee (which is pari passu with its senior unsecured notes) of MWG rent payments under the Powerton and Joliet lease agreement.
Rising Environmental Costs a Key Concern:
Environmental challenges loom large on the horizon. EME and MWG continue to evaluate whether to install emission control technologies to comply with existing state and federal regulations in the near to intermediate term or close non-compliant facilities. EME also continues to evaluate the use of alternatives to traditional dry flue-gas desulfurization technology to minimize capital costs and future new money debt financings.
EME's consolidated margin and cash flows could be further challenged in the intermediate to long term by more stringent EPA rules and greenhouse gas regulations. The ratings also consider cost cutting efforts by management including renegotiation of turbine contracts with certain vendors.
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria and Related Research:
--'Corporate Rating Methodology' (Aug. 16, 2010);
--'Recovery Ratings and Notching Criteria for Utilities' (May 12, 2011);
--'Rating North American Utilities, Power, Gas and Water Companies' (May 16, 2011).
Applicable Criteria and Related Research:
Corporate Rating Methodology
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=546646
Recovery Ratings and Notching Criteria for Utilities
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=628491
Rating North American Utilities, Power, Gas, and Water Companies
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=625129
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