Fitch Ratings has affirmed the 'BBB-' rating of OrCal Geothermal, Inc.'s (OrCal) senior secured notes due December 2020. The Rating Outlook has been revised to Negative from Stable based on concerns over higher variable costs overall and production risks specifically at Heber 1, OrCal's oldest operating plant.
The rating affirmation reflects OrCal's effective operation of its geothermal portfolio over the last three years. OrCal's power plants together have met or exceeded production and revenue projections even though costs have increased above originally projected levels over the period. OrCal's average debt service coverage ratio (DSCR) has been 1.57 times (x) since the senior secured notes were first issued in 2005, which is commensurate with the rating category.
Of concern are variable cost increases from 27% to 39% of total expenses over the last three years which have reduced cash available for debt service. The higher variable costs include incremental field costs to support unplanned capex, and additional labor costs to operate and maintain the existing plants. It is unknown whether these higher variable costs will be required to support production going forward. Fitch notes that the sponsor has funded additional capex out of cash available after debt service and a subordinated long-term loan from the sponsor, reflecting de facto capital investments in the plant that Fitch has viewed positively.
Fitch is also concerned by additional production risks. Heber 1 experienced a noticeable output decline in 2010 from geothermal resource declines that are normal for the life of the plant. While the portfolio performed at production expectations of 81.5 megawatts (MWs) in 2010, this situation may not be sustainable. It is unknown whether recurring sponsor discretionary spending will be necessary to sustain current production. The higher variable costs combined with possible lower production levels could erode debt service to levels below the rating category.
Despite production and revenues that have met or exceeded projections, historical DSCRs have been below Fitch's original projections. The power plants' DSCR of 1.79x in 2010 was below the projected 2.02x due primarily to higher variable costs for well cleanings at Heber 1. Recent DSCRs have also lagged projected levels due to the higher variable costs for unplanned upgrades of worn-out equipment. The lowest DSCR year was 1.35x in 2008 when the plant experienced the highest additional variable costs to date.
In the Fitch rating case, Fitch projects DSCRs of 1.56x average and 1.37x minimum over the remaining life of the debt. The rating case incorporates Fitch's revised variable cost forecasts in line with current baseline spending. In addition, Fitch did not change production forecasts from the original levels, despite some incremental production gains in the OrCal system due to recent sponsor investments. Fitch did not give OrCal credit for unproven output. The rating case also used a reasonably conservative scenario for energy prices after 2012 under two purchase power agreements (PPAs) which convert to market-based rates, as discussed below. Under these conditions, the rating case DSCRs remain commensurate with the existing rating category.
OrCal's financial risk profile has always included the risk of market-based price exposure under two of OrCal's three PPAs. OrCal's risk profile incorporates the change from fixed prices to more volatile Short-Run-Avoided-Cost (SRAC) pricing in 2012 under two PPAs with Southern California Edison (SCE). Close to 84% of OrCal's off-take revenues will be exposed to SRAC pricing after 2012. The SRAC formula is regulated by the California Public Utilities Commission, which recently revised the SRAC formula in December 2010. The SRAC revision appears to be favourable in the medium-term as the transition to a market-based heat-rate will not occur until 2015. Fitch notes that even though OrCal sells a majority of its capacity under a PPA with SCE expiring in 2015, OrCal's status as a qualifying facility and a base-load, renewable generator provides significant assurance that OrCal will receive at least the avoided cost of output for the off-taker utility.
OrCal is a special-purpose company created to acquire the Heber 1 and Heber 2 geothermal power facilities (the Heber power plants) located in Imperial County, CA. The Heber power plants sell electric energy and capacity to SCE under two separate Standard Offer No. 4 PPAs expiring 2015 and 2023. OrCal also owns the Gould 1 and Gould 2 plants which consist of a series of upgrades designed to enhance production and operating efficiency at the Heber power plants. The Heber South power plant, which became operational in 2008, supplies energy to Southern California Public Power Authority under a separate fixed-price PPA. OrCal is an indirect, wholly-owned subsidiary of Ormat Technologies, Inc., a vertically integrated owner and developer of geothermal and other recovered energy projects.
Additional information is available at www.fitchratings.com.
Applicable Criteria and Related Research:
--'Rating Criteria for
Infrastructure and Project Finance' (Aug. 16, 2010);
--'Rating
Criteria for Thermal Power Projects' (June 15, 2010).
Applicable Criteria and Related Research:
Rating Criteria for
Infrastructure and Project Finance
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=548345
Rating
Criteria for Thermal Power Projects
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=528967
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