DBRS Morningstar Confirms Spy Hill Power L.P. at “A” with a Negative Trend

DBRS Limited (DBRS Morningstar) confirmed Spy Hill Power L.P.’s (the Issuer) Issuer Rating and Series A Senior Secured Amortizing Bonds (the Bonds) rating at "A" with a Negative trend. The Issuer is a special-purpose entity that owns a simple-cycle natural gas-fired 86-megawatt power generation facility (the Project). The Issuer benefits from a 25-year peaking power purchase agreement (PPA) with Saskatchewan Power Corporation (SaskPower) to provide electrical power to the Province of Saskatchewan’s (rated AA (low) with a Stable trend by DBRS Morningstar) transmission system. At this time, DBRS Morningstar does not consider the current rating status of SaskPower as constraining the Issuer Rating and the Bonds rating. The Bonds are secured by the Project’s assets and are fully amortizing with maturity on March 31, 2036, six months prior to the PPA’s expiry.

The PPA insulates the Issuer from electricity price and demand fluctuations as well as fuel price and supply risks, as 100% of fuel supply costs are passed through to SaskPower. The remaining primary risk for the Issuer is performance risk. The Project must (1) meet an availability factor of at least 97%, (2) provide energy at the level requested by SaskPower, and (3) be able to start up within 15 minutes of a dispatch request or else pay liquidated damages, which are capped at $4 million per year, indexed. The Project must also meet specific heat rate requirements or pay a higher operating cost.

In 2020, DBRS Morningstar changed the trend on the ratings to Negative from Stable, reflecting the Project’s underperformance over the last few years. In 2020, the Issuer’s debt service coverage ratio (DSCR) remained low at 1.51 times (x), as was expected (slightly better than projections of 1.47x), because of a forced outage in May 2020 in one of the gas turbines (Unit #1), where a hole was found burned in the stage-one nozzle (S1N) that required the S1N assembly to be changed. The Issuer considers this to be a one-off occurrence, and the gas turbine manufacturer had identified this as an issue that could occur in the installed LM 6000 gas turbines. The forced outage led to approximately $1 million in higher operating expenses and $100,000 in lost availability revenue. The overall Project availability is approximately 97.9%. DBRS Morningstar notes that other than Q2 2020, wherein the availability dropped to 93.5%, the availability for the remaining three quarters was high at approximately 99.4%. In addition, Q1 2021 Project availability remains high at 100%. DBRS Morningstar notes that in 2020 the approximately 1,457 (16.6% annualized) Project operating hours were much less compared with dispatch levels for the six-year period between 2014 and 2019, which averaged approximately 2,830 (32.3% annualized) fired hours. DBRS Morningstar also notes that the gas turbine starts were also lower when compared with previous years. The lower operating hours and gas turbine starts were because of new electricity supply becoming available in Saskatchewan. However, this has no material impact on the Project’s revenues as those are largely driven by availability rather than generation hours.

The average DSCR for the seven-year period between 2014 and 2021 is 1.62x, which is lower than initial DSCR projections of 1.70x. DSCRs for 2021 to 2023 are projected to remain low at between 1.62x and 1.65x because of additional major maintenance reserve account funding as the Project continues to be dispatched at higher levels than originally expected at the time the Bonds were issued and because of higher operating and maintenance costs related to Gas Turbine Hot Section maintenance now projected in 2022/2023. DBRS Morningstar notes that, in April 2021, the Issuer received $500,000 in an insurance settlement related to the low pressure turbine failure that happened in 2019, which has been included in the projected DSCR calculations for 2021. Beyond 2023, the DSCR is expected to be closer to original projections, ranging between 1.65x and 1.85x (with the exception of one year in which the DSCR is projected to be lower at 1.62x because of gas turbine major maintenance). The projected average DSCR starting from 2021 to debt maturity is approximately 1.70x. At this time, DBRS Morningstar is maintaining the Negative trend on the ratings, reflecting the Project's operational and financial underperformance over the last four years. DBRS Morningstar expects Project performance to gradually improve; however, DBRS Morningstar will continue to closely monitor Project performance in the near term and may take a further negative rating action if forced outages continue and/or actual financial results are lower than projections. DBRS Morningstar could change the trend to Stable if forced outages are minimized and Project performance continues to show improvement.

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://www.dbrsmorningstar.com/research/373262.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The principal methodology is Rating Project Finance (September 1, 2020; https://www.dbrsmorningstar.com/research/366229), which can be found on dbrsmorningstar.com under Methodologies & Criteria. Other applicable methodologies include the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (February 3, 2021; https://www.dbrsmorningstar.com/research/373262).

For more information regarding rating methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/357883.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link under Related Documents or by contacting us at info@dbrsmorningstar.com.

The rated entity or its related entities did participate in the rating process for this rating action. DBRS Morningstar had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

Generally, the conditions that lead to the assignment of a Negative or Positive trend are resolved within a 12-month period. DBRS Morningstar trends and ratings are under regular surveillance.

DBRS Morningstar will publish a full report shortly that will provide additional analytical detail on this rating action. If you are interested in receiving this report, contact us at info@dbrsmorningstar.com.

For more information on this credit or on this industry, visit www.dbrsmorningstar.com or contact us at info@dbrsmorningstar.com.

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