Fitch Ratings has affirmed Calpine Corp.'s Long-term Issuer Default
Rating (IDR) at 'B+'. The Rating Outlook is Stable. Fitch has affirmed
Calpine's first lien senior secured debt at 'BB+' with a Recovery Rating
(RR) of 'RR1' (implying 91% - 100% recovery). The first lien senior
secured debt includes first lien term loans, first lien senior secured
notes and the revolving credit facility, all of which are pari passu.
Fitch has also affirmed Calpine's senior unsecured debt at 'BB-/RR3'.
The 'RR3' rating implies a 51% - 70% recovery.
In addition, Fitch has affirmed Calpine Construction Finance Company,
L.P.'s (CCFC) Long-term IDR at 'B+' and senior secured debt rating at
'BB+/RR1'. The Outlook is Stable.
The affirmation reflects Fitch's view that Calpine can continue to
generate stable levels of EBITDA even during periods of extremely low
natural gas prices. Given the relative efficiency of Calpine's fleet
compared to the market, low natural gas prices can boost the run times
for its generation fleet, thus, offsetting the compression in generation
margins to a large extent. Fitch's base deck for natural gas prices has
seen a series of revisions over the last few months and currently stands
at $2.25/$2.50/$2.75 per MMBtu in 2016/2017/2018, respectively. At these
prices, Fitch expects Calpine to generate 2016 adjusted EBITDA within
its stated guidance range of $1.8 billion - $1.95 billion, which
compares with 2015 adjusted EBITDA of $1.98 billion. Beyond 2016, Fitch
expects adjusted EBITDA to modestly increase reflecting Fitch's
expectations of modest improvement in natural gas prices and
contribution from the already announced new generation projects and
recently completed Granite Ridge acquisition.
Fitch's rating concern primarily lies with Calpine's high leverage; in
particular the net adjusted Debt/EBITDA has consistently trailed
management's stated 4.5x target. Calpine's year-end 2015 gross adjusted
Debt/EBITDA was 6.1x and the net adjusted debt/EBITDA was 5.7x. The
timing of the debt issuance for Granite Ridge acquisition does have a
bearing; however, in general, management has opted to operate at or
above net adjusted debt/EBITDA of 5.5x. Any deterioration in the EBITDA
outlook from factors such as: a further drop in natural gas prices,
adverse capacity auction outcomes, compression in heat rates or
expiration of above-market contracts, would be worrisome and bear
negative rating pressure if not accompanied by commensurate debt
reduction.
The individual security ratings at Calpine are notched above or below
the IDR, as a result of the relative recovery prospects in a
hypothetical default scenario. Fitch values Calpine's power generation
assets using a net present value (NPV) analysis. Fitch's updated NPV
analysis has seen a material degradation in value, in particular for
Calpine's California portfolio. Any incremental first lien issuance and/
or further degradation in power generation values will put downward
rating pressure on the senior unsecured ratings.
KEY RATING DRIVERS
EBITDA Resiliency Through Cycles
Calpine's adjusted EBITDA has proved to be resilient in different
natural gas price scenarios. While Calpine's adjusted EBITDA remains
biased towards higher natural gas prices given the relative efficiency
of its fleet compared to the market, low natural gas prices have boosted
the generation output as gas-fired generation displaces coal. This level
of adjusted EBITDA stability is quite unique among merchant generation
companies and is usually seen for those generators that sell under
long-term contracts with minimum fuel risk.
Measured Approach to Growth
Fitch has a positive view of management's measured approach to growth,
which has been largely geared towards new generation that is backed with
long-term power purchase agreements with credit worthy counterparties,
and merchant facilities where Calpine has significant cost advantages
over other new entrants. Calpine has also been an active and
opportunistic buyer and seller of generation assets, monetizing non-core
assets and increasing scale in core regions. Enhancements to annual
capacity auctions in PJM and New England will benefit Calpine's existing
dual-fuel generation fleet and support Calpine's strategy of targeting
new builds and acquisitions in these regions. Fitch expects management
to continue to monetize its assets in non-core regions. Any asset
purchases are likely to be measured, as demonstrated by management's
past actions, and will probably consist of natural gas fired assets so
as to maintain the company's relatively clean environmental profile. Any
large scale, predominantly debt funded acquisition is likely to put a
downward pressure on ratings given the minimal headroom in credit
metrics. Fitch's current view does not incorporate any major foray by
Calpine into the renewable sector, such as wind and solar over the
near-term.
Favorable Generation Mix
The combination of efficient natural-gas fired combined cycle plants and
Geysers (geothermal) assets make Calpine's fleet cleaner than other coal
heavy IPPs. Calpine's fleet is also much younger than its peers. As a
result, Calpine is comparatively much less vulnerable to both existing
and potential stringent environment regulations addressing greenhouse
gas emissions, other air emissions including SOx, NOx, Mercury and coal
ash as well as water use. For these reasons, Fitch views Calpine's
business mix as relatively strong compared with other merchant
generators. Over the medium to long term Calpine's dependence on natural
gas could be a disadvantage given the rapid penetration and growing
threat from renewables, particularly in California and Texas.
Capital Allocation Geared Toward growth and Share Repurchases
Fitch expects Calpine to generate approximately $500 million of free
cash flow in 2016; annual free cash flow could increase to more than
$700 million by 2017. These free cash flow estimates incorporate both
maintenance and growth capex based on announced new projects.
Significant covenant cushion, incremental first-lien debt capacity and
robust free cash flow generation even in commodity trough affords
Calpine tremendous financial flexibility to deploy capital. The pace of
share repurchases has been tracking above Fitch's expectations. As of
December 31, 2015, Calpine had repurchased ~$2.25 billion in stock over
2013-2015. This elevated level was, in part, driven by asset sales.
Reinvestment of capital in new generation projects under long-term
contracts would be viewed positively by Fitch.
Improvement in Credit Metrics
Fitch expects Adjusted Debt to EBITDAR ratio to be 6.5x in 2016 and
improve to 5.5x in 2018. The improvement is driven by scheduled debt
amortizations, incremental debt reduction as contemplated by management
and modest improvement in EBITDA from new generation projects coming on
line. FFO adjusted leverage is expected to be 6.8x in 2016 and improve
to 5.7x in 2018. Coverage ratios have deteriorated somewhat in 2015 with
the timing of debt issuance to finance the Granite Ridge acquisition and
are likely to remain in the 2.75x - 3.25x range over 2016-2018, in line
with its 'B+' credit profile.
Rating Linkages
There are strong contractual, operational and management ties between
Calpine and CCFC. CCFC sells a majority of its power plant output under
a long-term tolling arrangement with Calpine's wholly owned marketing
subsidiary. CCFC is also a party to a master operation and maintenance
agreement and a master maintenance services agreement with another
wholly owned Calpine subsidiary. For these reasons, in accordance with
its Parent and Subsidiary Rating Linkage Criteria, Fitch assigns the
same IDR to CCFC as the parent even though its standalone credit profile
is stronger.
RECOVERY ANALYSIS
Fitch values the power generation assets that guarantee the parent debt
using a NPV analysis. A similar NPV analysis is used to value the
generation assets that reside in non-guarantor subs and the excess
equity value is added to the parent recovery prospects. The generation
asset NPVs vary significantly based on future gas price assumptions and
other variables, such as the discount rate and heat rate forecasts in
California, ERCOT and the Northeast. For the NPV of generation assets
used in Fitch's recovery analysis, Fitch uses the plant valuation
provided by its third-party power market consultant, Wood Mackenzie as
well as Fitch's own gas price deck and other assumptions. The NPV
analysis for Calpine's generation portfolio yields approximately
$1,100/kw for the geothermal assets and an average of $425/kw for the
natural gas generation assets.
KEY ASSUMPTIONS
--Natural gas prices of $2.25/$2.50/$2.75 per MMBtu for 2016/2017/2018,
respectively;
--Expected generation hedged per management estimates of 80%, 38% and
25% for 2016, 2017 and 2018, respectively. Hedged margin of $19/27/34
per MWh for 2016/2017/201817, respectively;
--Growth and maintenance capex of approximately $1.9 billion over
2016-18;
--No additional growth projects except those already announced and under
construction;
--In absence of additional growth projects, Fitch has assumed that free
cash flow generation can support approximately $300 million stock
buyback program annually.
RATING SENSITIVITIES
Positive: Positive rating actions for Calpine and CCFC appear unlikely
unless there is material and sustainable improvement in Calpine's credit
metrics compared with Fitch's current expectations. Management's net
leverage target of 4.5x effectively caps Calpine's IDR at the 'B+'
category.
Negative: Future developments that may, individually or collectively,
lead to a negative rating action include:
--Weak wholesale prices due to unfavorable power demand and supply
dynamics, regulatory interference and /or distortion in market pricing
signals that depress Calpine's EBITDA and FFO below Fitch's expectations
on a sustained basis;
--An enhanced pace of share repurchases without hitting or sustaining
the stated net leverage target of 4.5x;
--An aggressive growth strategy that diverts significant proportion of
growth capex towards merchant assets and/ or inability to renew its
expiring long-term contracts leading to a higher open position;
--Inability to reduce its FFO adjusted leverage to below 7.0x, and total
adjusted debt/EBITDAR below 6.0x over Fitch's forecast period; and
--Incremental first lien leverage and/or further deterioration in NPV of
the generation portfolio that leads to downward rating pressure on the
unsecured debt.
LIQUIDITY
Calpine's liquidity position is adequate. Calpine recently extended the
maturity of its $1.5 billion revolver to June 2020 and increased the
size by $178 million until June 2018. As of Dec. 31, 2015, Calpine had
approximately $906 million of cash and cash equivalents at the corporate
level and ~$1.2 billion of availability under the corporate revolver.
There is no corporate debt maturity until 2019 when Calpine's first lien
term loan of $800 million matures. The scheduled project debt
amortizations approximate $200 million annually.
FULL LIST OF RATING ACTIONS
Fitch affirms the following with Stable Outlook:
Calpine Corp.
--IDR at 'B+';
--First Lien Term Loans at 'BB+/RR1';
--First Lien Senior Secured Notes at 'BB+/RR1';
--Revolving Credit Facility at 'BB+/RR1';
--Senior Unsecured Notes at 'BB-/RR3'.
Calpine Construction Finance Company, L.P.
--IDR at 'B+';
--First Lien Term Loans at 'BB+/RR1'.
Additional information is available on www.fitchratings.com
Applicable Criteria
Corporate Rating Methodology - Including Short-Term Ratings and Parent
and Subsidiary Linkage (pub. 17 Aug 2015)
https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=869362
Additional Disclosures
Dodd-Frank Rating Information Disclosure Form
https://www.fitchratings.com/creditdesk/press_releases/content/ridf_frame.cfm?pr_id=1003346
Solicitation Status
https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=1003346
Endorsement Policy
https://www.fitchratings.com/jsp/creditdesk/PolicyRegulation.faces?context=2&detail=31
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