Fitch Ratings has affirmed Rio Smart Lighting S.ar.l.'s senior secured notes issuance of BRL925 million due in 2032 at 'AA+'.
The Rating Outlook is Stable.
RATING RATIONALE
The rating reflects a transaction supported by a USD267 million guaranty provided by U.S. International Development Finance Corporation (DFC, not publicly rated) that will be in place throughout the entire life of the notes. Fitch views the DFC's credit quality as directly linked to that of the United States (AAA/F1+/Stable). The unconditional and irrevocable guaranty covers a fixed amount that represents a buffer above the notes' issuance amount.
As the guaranty is denoted in USD and the notes are denominated in Brazilian reais (BRL) the guaranty buffer may be reduced in case the BRL appreciates. Even though the guaranty may not cover the full payment of principal under all circumstances (full wrap), it prevents default in most macroeconomic scenarios that are consistent with the assigned rating. This denotes expectations of very low default risk. The notes are senior secured, fully amortizing and fixed rate.
KEY RATING DRIVERS
Payment Source from End-User [Revenue Risk: Midrange]
The public-private partnership (PPP) agreement with the municipality of Rio de Janeiro (RJ) establishes that the remuneration of the project is a percentage of the COSIP, a tax created in 2009 to fund the public lighting system embedded in the electricity bill of all end-user consumers in the city, upon completion of certain milestones, with limited deductions due to performance.
The project bears some volume risk as COSIP collections can fluctuate due to electricity consumption seasonality, and delinquencies of electricity bills, for example. COSIP is collected by Light S.A., which is legally required to transfer the gross amount collected to an escrow account managed by Caixa Economica Federal, that ultimately transfers the payments to the concessionaire. The tariff for COSIP is already fixed and is annually readjusted by the municipality.
Low Operational Risk [Operational Risk: Midrange]
Operational risk is fairly mitigated by the straightforward nature of running and maintaining the city of RJ's public lighting system. The project will be operated and maintained by several experienced operators in the area. According to Arcadis (Independent Engineer), this is a common practice in the sector to allow the parallel advancement of different workstreams and timely replacement of operators, if needed.
According to the Independent Engineer's report, the scope of O&M services comprises performance, execution, conclusion of services, preventive and corrective maintenance and efficiency services of the lighting points in urban streets, places and communities. However, it excludes any supply of materials. Costs are expected to be predictable and stable from 2025 onwards, after all the main works are performed in the first two years of the concession. The transaction includes a three-month O&M reserve account.
Adequate Plan for the Infrastructure Development & Renewal [Infra & Renewal: Midrange]
Main works for the project are expected to occur in the first years of the concession and are heavily concentrated on the exchange of the LED bulbs of RJ street lighting. Main maintenance works are embedded in the O&M contracts. The main risk for the project is technology obsolescence, as the PPP contract requires the project to upgrade certain IT equipment and systems of the Control Center at their own cost.
DFC Guarantee Enhances Debt Structure [Debt Structure: Stronger]
The debt structure benefits from a guaranty provided by DFC, that covers principal and interest to prevent the notes' default. The guaranty is capped at USD267 million for the principal payments during the notes' tenor. If the guarantee is triggered, DFC has the option, but not the obligation, to accelerate the notes upon several conditions. If not accelerated, DFC will continue to make the debt service payments directly to the trustee. The debt structure includes a six-month debt service reserve account, as well as strong covenants such as dividend distribution triggers at 1.20x.
Financial Profile
The maximum guaranteed amount will be fixed until March of 2026, and after that it will be reduced by an amount in U.S. dollars equal to the principal amount paid, at the exchange rate of the transaction's closing. The guaranty is expected to fully cover the principal payments in different scenarios of BRL appreciation. Considering the currency mismatch between the guaranty cap (USD) and the debt (BRL), the exchange rate (BRL/USD) breakeven is 3.06 in May 2025, and decreases over time. This implies a very low risk of default considering the current exchange rate and future expectations through the tenor of the debt.
Fitch ran base and rating cases to evaluate the credit quality of the underlying project. Under the rating case, the average debt service coverage ratio (DSCR) is of 1.07x and minimums are below 1x, in 2024 and 2025, mainly due to increase in capex related to the project's amended scope.
Fitch rating case projects a BRL129 million shortfall in 2024 that should be covered with additional equity. According to management, a BRL120 million equity injection is expected to take place still in March/2024 with a new round of contributions in the second semester of the year. Up to December/2023, sponsors have already made available BRL95 million through equity injections.
The revenue structure depends on fluctuating COSIP collections and tight metrics, in the rating case, drives the underlying credit quality of the project, without the guarantee, to be consistent with a 'B' category rating.
PEER GROUP
Rio Smart's debt structure is comparable with Pirapora Solar Holding S.A.'s first issuance of debentures (Pirapora, A+/AAA(bra)/Stable), due to the guarantee provided by Inter-American Development Bank (IDB; Long-Term Issuer Default Rating [IDR] AAA/Stable) and Inter-American Investment Corporation (IDB Invest; Long-Term IDR AAA/Stable). The guarantee is limited to a maximum amount of BRL315.3 million during the debentures' tenor. Both guarantees are provided by counterparties with a very strong credit quality, but there are differences in the exposure to macroeconomic conditions or operational stresses of both transactions.
Smart Luz presents stronger protection to investors, as the notes are not indexed to inflation but are fixed rate. Scenarios under which Rio Smart's guarantee would not fully cover the outstanding notes are more remote than under Pirapora's guarantee.
RATING SENSITIVITIES
Factors that Could, Individually or Collectively, Lead to Negative Rating Action/Downgrade
Any change in Fitch's view of the credit quality of the DFC counterparty could result in the notes being downgraded.
Factors that Could, Individually or Collectively, Lead to Positive Rating Action/Upgrade
Positive actions are unlikely given the transaction's debt structure.
TRANSACTION SUMMARY
Smart RJ Concessionaria de Iluminacao Publica SPE S.A. (Smart RJ/Smart Luz) is an SPV that holds the right to modernize, operate and maintain the public lighting system of the city of Rio de Janeiro, in the state of Rio de Janeiro. The total investment for these services is BRL1.4 billion (~USD250 million), which includes two cycles of investments throughout the 20 years of concession. The second cycle of investments begins in May 2033, after the rated instrument maturity.
Rated notes were issued by an offshore SPV, Rio Smart Lighting S.ar.l., and are BRL denominated. The notes include a guarantee from DFC at an amount of USD267 million. Sources are being used to fund the first phase of the PPP Public Lighting capex.
CREDIT UPDATE
In 2023, Rio Smart signed its first contract rebalancing related to the compensation for: (i) roughly 18% more lighting spots than defined by the concession contract (a total of 533,000 instead of 454,000 previously expected); (ii) additional investments and costs regarding newly added areas defined in the 2nd amendment; (iii) changes in special projects list defined by the grantor; (iv) the hiring of additional teams to support operations in areas of difficult access; (v) Transference of COR (Center of Operations) activities to the concessionaire. The rebalancing led to an additional BRL9.65 million monthly payment that will be adjusted by inflation in a yearly basis. It also led to an increase in capex requirements totaling BRL125 million for 2024 and BRL27 million for 2025.
Remaining milestones have been postponed up to December 24 and additional capex requirements led the concessionaire to be noncompliant with the transaction minimum DSCR covenant. Management is currently working on signing a waiver with DFC to solve the matter.
According to the non-audited figures provided for 2023, the company has recorded net revenues of BRL110 million, significantly below the base case expectations of BRL200 million. The decrease was mainly due to milestones postponement and COSIP collection below projections. Total opex also is considerably higher at BRL57 million versus the BRL35 million expected and can be explained by the mobilization necessity to perform additional capex.
As of the date of this release, the terms of the second concession rebalancing that Rio Smart has been negotiating are unknown, and their approval is expected by 2Q2024. This rebalancing derived from the reduction to 18% from 32%, that the Rio de Janeiro state's government applied in June 2022 to the ICMS, an indirect power tax. This led to a decrease in the collected COSIP, since it is calculated over the total electricity bill, after taxes, resulting in a loss of revenue for the concessionaire. The issuer is asking for lost revenue compensation. Due to the uncertainty regarding how the second rebalancing will be implemented, Fitch has not considered it in its cases.
FINANCIAL ANALYSIS
Fitch ran base and rating cases for the purpose of evaluating the underlying credit risk of the asset. For the assumptions, Fitch used the macroeconomic assumptions detailed in its 'Global Economic Outlook' report, published in December 2023, operating costs and investments recommended by Arcadis plus additional amounts related to the signed rebalancing. COSIP collection projections have been updated to Petrona Capital projections, that considers ICMS decrease effects.
Inflation assumptions are 4.00% in 2024, 3.50% in 2025 and, 3.00% from 2026 onwards.
Performance factor was assumed between 93% and 95%, resulting in a 2% discount in revenues in the rating case. The base case assumed a performance score between 95% and 100%, which resulted in no deductions in the revenues.
Milestones achievement schedule has been updated according to the 3nd concession contract amendment and historical values for milestones, performance indicators and COSIP collection up to February 2024 have been updated.
For base case minimum DSCR is below 1x, in 2024, and average DSCR is of 1.10x. For rating case minimum DSCRs are below 1x, in 2024 and 2025, and average DSCR is of 1.07x.
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.
PUBLIC RATINGS WITH CREDIT LINKAGE TO OTHER RATINGS
Guaranty from U.S. International Development Finance Corporation (DFC)
ESG Considerations
The highest level of ESG credit relevance is a score of '3', unless otherwise disclosed in this section. A score of '3' 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. Fitch's ESG Relevance Scores are not inputs in the rating process; they are an observation on the relevance and materiality of ESG factors in the rating decision. For more information on Fitch's ESG Relevance Scores, visit https://www.fitchratings.com/topics/esg/products#esg-relevance-scores.
LIGHT SA 
