Fitch Ratings has affirmed Orazul Energy Peru S.A.'s (Orazul) Long-Term Foreign and Local Currency Issuer Default Ratings (IDRs) and USD363.2 million senior unsecured notes at 'BB'.

The Rating Outlook is Stable.

Orazul's ratings reflect the company's predictable cash flows supported by its contractual position, historically efficient and reliable hydroelectric generation assets, and cost structure flexibility. Fitch estimates gross leverage will decline to an average of 4.6x over the rated horizon compared to the elevated 6.5x level seen in 2020.

Key Rating Drivers

Contracted Cash Flows: Orazul's ratings primarily reflect its stable and predictable cash flows, supported by revenues generated through capacity (availability) payments and generation requirements mostly contracted through U.S. dollar-linked power purchase agreements (PPAs). During 2022, the company generated approximately 2.021GWh, with around 90% of its capacity contracted (compared to 79% the year prior, or roughly the company's annual target).

As of 2023, PPAs have 6.5 years of remaining life with strong credit quality off-takers, with around 58% of contracts lasting six years or more. The total contracted level should decline in 2024 to 1.5GWh, a decline to 75% of total power generation, as certain contracts expire. Fitch expects the company is likely to recontract its capacity, given limited competition and capacity in the country, but does not consider recontracts in its rating case until PPAs have been signed and completed.

Increased Exposure to Spot Market Sales: Fitch estimates that Orazul will sell 25% of its total generation in the spot market in 2024, or a 130% increase compared to 2022 spot sales. The rating case assumes that a 17% decline in 2024 contracted revenue (USD14 million) will be partially offset with a concurrent USD14 million in net spot market revenue. Fitch approximates that contracted leverage, measured as total debt/approximated EBITDA from contracted sales, will spike to around 7x that year but reduce thereafter.

Leverage Profile; Coverage Ratio: Fitch expects gross leverage, measured as total debt/EBITDA, to increase in 2024 to 5.2x (from 4.7x the prior year) for one year as certain PPAs and associated capacity payments terminate, resulting in one year of reduced EBITDA. Thereafter, increased PPA prices and spot sales from higher demand will cause EBITDA to rebound and drive leverage to 4.6x and below (or 5.5x and below for contracted EBITDA alone) on a sustained basis, consistent with the 'BB' rating category.

Projections assume total debt of USD363 million and EBITDA averaging USD79 million (a 64% margin), and cash-funded capex averaging USD5.4 million over the next five years. EBITDA/interest expense will remain robust at 3.4x and above over the rating horizon.

Market Position, Reliable Generation: Orazul, the fourth largest hydroelectric provider in Peru, is considered baseload in the Peruvian system, prioritized within the country's order of dispatch. The company has limited asset diversification and a relatively small business scale; however, its two run-of-river hydroelectric plants are efficient generators with an average capacity factor of around 66%. The plants: Canon del Plato (266MW) and Carhuaquero (110MW), have a total installed capacity of 376MW. They operate a combined 11 turbines in two separate rivers, the flows from which have yielded minimal historical hydrological variation over time, enabling the company to contribute a consistent 4% of Peru's energy generation year-on-year.

Derivation Summary

Orazul's closest peers are generation companies in the region, such as Kallpa Generacion S.A. (BBB-/Stable), Fenix Power Peru S.A. (BBB-/Stable) and AES Andes S.A. (BBB-/Stable). Their ratings reflect stable, diversified asset bases and predictable cash flows supported by solid contractual positions embodied in medium- to long-term PPAs with financially strong counterparties, and manageable volume exposure or strong shareholder support.

Orazul is rated two notches below Kallpa, as Kallpa benefits from a diversified generation mix and has a stronger market position as the largest private generator in Peru. Orazul is also rated two notches below AES Andes to the latter's lower leverage and a longer-dated PPA average life (around 11 years). Like Orazul, AES Andes' consolidated gross leverage improved following the deconsolidation of a large asset, Alto Maipo.

Key Assumptions

Spot injection prices average USD40/MWh, and average withdrawal prices of USD45/MWh through 2025;

Around 75% contracted level in 2024 as existing contracts expire, then around 77% of capacity contracted going forward, with spot sales accounting for the balance of capacity sold;

An increase in average regulated PPA prices to USD65/MWh and unregulated PPA prices to USD39/MWh in the next five years;

Average annual dividends of USD47 million, while maintaining a minimum YE cash balance of USD10 million;

Capex of USD9.3 million in 2023, mostly minor improvements to Canon del Pato, then minor capex averaging USD4.4 million in the next four years;

Ongoing capacity factor averaging 68% between the two plants, and future hydrological conditions consistent with low historical volatility.

RATING SENSITIVITIES

Factors that could, individually or collectively, lead to positive rating action/upgrade:

Gross leverage, measured by total debt/EBITDA, falling below 4.0x on a sustained basis;

Maintenance of an adequate contracted position with similar terms contributing to cash flow predictability.

Factors that could, individually or collectively, lead to negative rating action/downgrade:

Total debt/EBITDA substantially exceeding 5.0x on a sustained basis;

Excessive cash distribution to shareholders;

A material rebalancing of the contractual base, resulting in significant cash flow volatility.

Best/Worst Case Rating Scenario

International scale credit ratings of Non-Financial Corporate issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579.

Liquidity and Debt Structure

Solid Liquidity: At March 31, 2023, Orazul's cash position was USD32 million, and it had no short-term debt. Annual liquidity is stable and supportive of interest and capital spending costs. It is driven by reliable cash flows and a USD25 million undrawn committed credit line. Fitch expects the company to maintain its liquidity policy of more than its YE minimum cash balance of USD10 million following distributions of excess cash to shareholders.

The company's only outstanding debt is a USD363.2 million bullet bond that matures in 2027. Fitch expects the company to refinance this debt well ahead of its stated maturity.

Issuer Profile

Orazul Energy Peru S.A. (OEP) owns and operates two hydroelectric power plants in northern Peru with a combined capacity of 376 MW, and represents the fourth largest hydroelectric complex within the Peruvian system.

REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING

The principal sources of information used in the analysis are described in the Applicable Criteria.

ESG Considerations

Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of '3'. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/esg

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