2008-08-27 23:35:02 -
- Fitch Ratings has affirmed the 'BBB-' rating of OrCal Geothermal Inc.'s (OrCal) $165 million senior secured notes due 2020. While recent financial results have fallen short of Fitch's original projections, the affirmation reflects Fitch's expectation that OrCal's performance will not be permanently affected by current operational challenges. The Rating Outlook is Stable, as OrCal's revenues are derived from fixed-price power purchase agreements (PPAs) over the next few years.
The rating is based on OrCal's long-term financial profile, when OrCal will be vulnerable to fluctuations in Southern California Edison's (SCE) short-run avoided cost (SRAC). OrCal is primarily dependent upon SRAC-based energy payments received from SCE under two PPAs, which were amended to fix the SRAC price through April 2012.
Once the fixed price period expires, the energy price received under the PPAs will revert to the prevailing SRAC calculation. Though OrCal's credit quality is enhanced during the fixed price period due to the stability of cash flows, revenues remain subject to SRAC price volatility over the long-term.
The anticipated revision of the SRAC formula will negatively affect OrCal's financial performance. The California Public Utilities Commission (CPUC) is currently considering significant changes to the SRAC formula, which is indexed to the price of natural gas. If the proposed changes are adopted by the CPUC, OrCal's debt service coverage ratios (DSCRs) would exceed 1.5x in Fitch's current low natural gas price stress of $4.00/mmbtu. The rating is viewed as consistent with the projected level of debt service coverage in a low gas stress.
OrCal's revenues could improve due to the additional generating capacity provided by the Heber South project, which consists of new production wells and generating equipment installed on the existing geothermal field. Heber South achieved commercial operation in April 2008, and OrCal's parent funded the $40 million cost of the project under a subordinated shareholder loan. Heber South is currently producing below full capacity, but management expects the project to generate 14 MW (net) once start-up issues have been resolved.
In May 2008, OrCal and its counterparties executed PPA amendments which provide OrCal with the opportunity to earn additional energy and capacity payments. The Southern California Public Power Authority (SCPPA) agreed to increase contractual capacity and pay a higher rate for energy deliveries exceeding a certain threshold. Under a separate amendment to the PPA governing Heber 1's output, SCE will purchase an extra 2 MW at the established SRAC price. Other contractual modifications make it possible for OrCal to earn capacity bonus payments; historically, Heber 1's output has been insufficient to meet the bonus requirements. The CPUC has yet to approve the amendment to the SCE PPA, though Fitch has no reason to believe the CPUC will withhold its approval.
Taken together, the PPA amendments and the incremental generating capacity of Heber South could provide higher revenues and enhance OrCal's long-term credit quality. However, OrCal has not yet demonstrated the capability to deliver output consistent with the sponsor's original projections. Financial performance in 2007 was sufficient to support a DSCR of only 1.44x, as calculated by the sponsor, due to lower than originally projected energy production and unexpected major maintenance costs.
Though it is uncertain whether aggregate net output will reach originally projected levels in 2008, year-to-date operating performance through June has been generally positive and reflects a consistent pattern of improvement. Specifically, Heber 1's output has increased after related capital improvements were completed in 2007. The Heber South project is also providing additional output, though OrCal is currently incurring unanticipated costs to bring the project's capacity in-line with expectations. OrCal is also implementing a capital improvement plan to replace aging equipment at the Heber 2 project and prevent future degradation in performance.
While none of these capital expenditures were included in the original projections, OrCal expects the improvements to stabilize long-term output and does not anticipate significant further capital expenditures after 2009. The fixed rates in the PPAs will provide highly stable revenues over the next few years, mitigating the cash flow impact of the expenditures. Fitch believes OrCal will have ample opportunity to resolve operating issues in the medium term.
OrCal is a special-purpose company created to acquire and own the Heber 1 and Heber 2 geothermal power facilities (the Heber projects) located in Imperial County, CA. The Heber projects sell electric energy and capacity to SCE under separate Standard Offer No. 4 PPAs expiring in 2015 and 2023. OrCal also owns the Gould project, which consists of a series of upgrades designed to enhance production and operating efficiency at the Heber projects. The newly built Heber South project supplies energy to SCPPA 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.
Fitch's rating definitions and the terms of use of such ratings are available on the agency's public site, www.fitchratings.com. Published ratings, criteria and methodologies are available from this site, at all times. Fitch's code of conduct, confidentiality, conflicts of interest, affiliate firewall, compliance and other relevant policies and procedures are also available from the 'Code of Conduct' section of this site.
Fitch Ratings
Chris Joassin, 312-368-3166, Chicago
Doug Harvin, 312-368-3120, Chicago
or
Media Relations:
Cindy Stoller, 212-908-0526, New York
