Fitch Ratings has affirmed at ‘A’ Autoridad del Canal de Panama’s (ACP) Long-Term Issuer Default Rating (IDR) and the rating on USD450 million senior unsecured notes. Additionally, Fitch has affirmed ACP’s Standalone Credit Profile (SCP) at ‘aa’. The Rating Outlook is Negative.
RATING RATIONALE
The ratings reflect an underlying asset that is critical, not only for Panama, but for international commerce, as demonstrated by ACP’s stable volume performance, solid competitive position and well-diversified cargo mix, leading to a volume profile showing high levels of resilience. The ratings also reflect ACP’s strong ability to modify tariffs that have strategically influenced demand and contributed to steady revenue growth. The ratings also incorporate the legal framework that provides autonomy to the entity, as well as Fitch’s view that there are appropriate incentives to keep the asset profitable over the long run. Despite very strong financial metrics under Fitch’s coronavirus rating case of negative leverage and debt service coverage ratios (DSCRs) of over 4.0x post fiscal 2020 that would indicate a higher rating compared to Fitch’s rating criteria for ports, the ratings are constrained at three notches above Panama’s sovereign rating (BBB/Negative), given the linkages between ACP and the Panamanian government.
The Negative Rating Outlook continues to reflect ACP’s rating constraint at three notches above Panama’s sovereign rating (BBB/Negative) due to linkages between ACP and the Panamanian government. Therefore, a downgrade of the IDR of Panama would result in a downgrade of the ratings of ACP.
The outbreak of coronavirus and related government containment measures worldwide create an uncertain global environment for issuers affected by global trade dynamics. While ACP’s performance data through most recently available issuer data may not have indicated impairment, material changes in revenue and cost profile are occurring across its sector and will continue to evolve as economic activity and government restrictions respond to the ongoing situation. Fitch’s ratings are forward-looking in nature, and Fitch will monitor developments in the sector as a result of the virus outbreak as it relates to severity and duration, and incorporate revised base and rating case qualitative and quantitative inputs based on expectations for future performance and assessment of key risks.
KEY RATING DRIVERS
Strategic Asset for Global Trade Flows
The Panama Canal is a key transportation hub in global trade due to its strategic location. Over 3% of world maritime commerce transits the Panama Canal. The Canal offers connectivity to world maritime trade, linking the Atlantic and Pacific Oceans, ports, railways and ancillary services, adding value as the main trans-shipment hub in the region.
Legal Framework Supports ACP’s Autonomy
ACP is an entity of the nation of Panama, established under its constitution with exclusive charge of operation, management and modernization of the Canal. The risk of government interference is adequately mitigated by ACP’s extraordinary legal framework, which provides it with institutional, operational and financial autonomy. Furthermore, incentives are aligned to maintain the Canal’s profitability, given moderate reliance of the sovereign on financial contributions from ACP to meet its financial targets, evidenced by ACP’s long track record of managing profitable operations through different administrations. Moreover, the ratings reflect expectations that the Canal will continue to be managed under the same legal framework.
Strong Market Position – Revenue Risk (Volume): Stronger
The Canal processes a well-diversified mix of cargo types and services a wide array of international trade partners, resulting in a strong demand profile that has exhibited high levels of resilience following global macro trade fluctuations and economic downturns. The Canal’s largest business line consists of container cargo between the eastern U.S. and Asia. While this sector’s industry is competitive, which could cause related volumes to exhibit a moderate level of price elasticity, the Canal benefits from a significant competitive advantage in terms of shipping times and costs over other modes of transit, which has been bolstered even further following the opening of the third set of locks in 2016.
Robust Tariff-Setting Flexibility – Revenue Risk (Price): Stronger
ACP has successfully implemented a toll structure that periodically changes to capture the changing dynamics of the maritime industry. A proactive approach in adjusting tariffs periodically in accordance with varying types of content in cargo, sailing schedules and water levels has provided stable cash flow generation. Notably, shipping line consolidation to improve margins, coupled with transport alternatives, poses economic challenges to the Canal’s pricing flexibility, particularly with regard to its container cargo business.
Modern Facilities, Big-Ship Readiness – Infrastructure Development & Renewal: Stronger
With completion of the USD5.4 billion major Canal expansion, annual capital investments are expected to be lower in the near term. The Canal’s new, eight-year USD2.4 billion capital plan mostly consists of maintenance and strategically related works, including the opening of the Atlantic Bridge that took place in August 2019 and a new roll-on/roll-off terminal over the coming years. Overall, Fitch considers the Canal’s capital funding and planning mechanisms to be strong, evidenced by its ability to fully cash fund all its needs and maintain good dialogue with relevant parties to continue diversifying its revenue profile.
Some Variable-Rate Exposure – Debt Structure: Midrange
Approximately one-half of ACP’s debt is expected to bear unhedged variable rates, causing some uncertainty with respect to the size of future debt service obligations, justifying the midrange assessment, despite its other stronger characteristics. All of ACP’s debt is senior, with approximately 85% of outstanding debt exhibiting a fully amortizing structure while the rest has a balloon structure. Refinancing risk is considered remote given the small portion of balloon debt combined with the relatively small future principal payments relative to ACP’s expected cash flow. Bondholders also benefit from very strong financial covenants through 2028 and ACP’s healthy cash position.
Financial Profile
In Fitch’s rating case, leverage, measured as net debt/cash flow available for debt service (CFADS), is negative with outstanding debt balances completely offset by cash balances, while DSCR levels are very strong at over 4.0x post fiscal 2020. Despite metrics that are very strong for the current rating category, ratings are constrained as the degree of separation between ACP and the Panamanian government is considered not to fully ring-fence the entity under Fitch’s relevant criteria. This is evidenced by state ownership of the asset and the appointment of the majority of board members by the presidents of Panama, although under a staggered regime. Also, while the law dictates that only after all operating costs, including capex, and contingency reserves are funded, the remaining surplus cash can be distributed to the national treasury, the structure does not have an explicit covenant that needs to be complied with to distribute these moneys.
PEER GROUP
Among Fitch’s rated transportation portfolio there is no direct comparison for the Panama Canal. However, Harbor Department of Los Angeles (AA/Stable) is comparable given its large-scale container operations. ACP benefits from a much larger revenue base and less throughput volatility, but Los Angeles´s throughput volatility is mitigated by a much larger percentage of minimum annual guarantee revenue. ACP´s average rating case coverage levels are higher than those of Los Angeles at 4.0x or more, although the rating is currently constrained for other reasons.
RATING SENSITIVITIES
Factors that could, individually or collectively, lead to a negative rating action/downgrade:
–A negative rating action on the sovereign rating of Panama;
–Volume reduction greater than 35% along with the expectation of a slow and extended recovery;
– -An observed and continual deterioration on available liquidity levels to face operating and financial obligations.
Factors that could, individually or collectively, lead to a positive rating action/upgrade:
–A positive rating action is unlikely in the short term.
BEST/WORST CASE RATING SCENARIO
International scale credit ratings of Sovereigns, Public Finance and Infrastructure 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 three 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].
CREDIT UPDATE
Performance Update
In fiscal 2019 (ended Sept. 30), tonnage performance grew over 6.2%, reflecting the continued benefit of the third set of locks that began operations in June 2016; which has permitted vessels of much greater capacity to pass through. Canal revenues and tonnage have grown at a CAGR of 8.0% and 7.8%, respectively, since the opening of the third set of locks. In fiscal 2019, strong growth in cargo volumes has driven revenue outperformance relative to Fitch´s base case expectations, with total revenues growing 6.1% in fiscal 2019 versus Fitch’s expectations of 1.7%. In addition to toll revenue outperformance, expenses were in line with Fitch’s base case expectations. The latter, along with revenue overperformance, caused net debt leverage metrics to be better than expected at negative 0.98x against the originally projected negative 0.65x.
Due to changing rainfall patterns, ACP announced that it would implement – starting February 2020 – a series of measures in order to sustain an operational level of water. These measures comprise a: (i) freshwater surcharge; an (ii) adjustment to the booking system; and a (iii) a vessel visit creation fee. Without these fees and operational changes, ACP’s water levels may drop to levels that could affect the Neopanamax and Panamax locks.
For the first nine months of fiscal 2020, cumulative tonnage levels were above those experienced during the same period of fiscal 2019. However, levels for the months of May and June 2020 have been approximately 15% below the 2019 levels due to the effects of the COVID-19 pandemic, particularly within the grains, vehicle carrier and LNG/LPG segments. Total revenues for these nine months through June 2020 have been 10% above the 2019 levels, but with the same phenomenon taking place in the months of May and June 2020. The increase in revenues for this fiscal year is also due to the freshwater surcharge the canal began charging in February 2020.
During fiscal 2019, arbitration No. 1 of the cofferdam and arbitration No. 5 of the advance payments filed by GUPCSA, concluded with awards in favor of ACP. There are still other claims in process whose contingent liability is approximately USD3.2 billion. However, the final outcomes of the legal proceedings are not expected to materially affect ACP, and Fitch considers the Canal´s financial position sufficiently strong to offset unexpected unfavorable outcomes.
FINANCIAL ANALYSIS
Fitch Cases
Fitch rating case assumes a revenue decline of 10% in fiscal 2020 (ending Sept. 30), reflecting the impact that lower cargo levels could have on revenues, with a recovery in 2021 to levels close to those of 2019. Under this rating case, minimum DSCR is 3.9x in fiscal 2020 and returns to levels above 4.0x thereafter, which is slightly lower than in our last annual review in August 2019, but still strong for the rating category according to applicable criteria.
Fitch also ran an additional sensitivity scenario, considering a prolonged and steeper revenue decline into fiscal 2021 with delayed recovery thereafter. This scenario yields a minimum DSCR of 2.3x in fiscal 2021, which returns to 4.0x thereafter. These metrics remain strong and demonstrate ACP’s financial resilience to extreme cargo and revenue declines.
ADDITIONAL NOTES
ESG CONSIDERATIONS
Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of 3. ESG issuers are credit-neutral of have only a minimal credit impact on the entity, either due to their nature or to the way they are being managed by the entity. For more information on Fitch’s ESG Relevance Scores, visit www.fitchratings.com/esg.
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.
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