Fitch Ratings has affirmed AES Panama Generation Holdings, S.R.L.'s (AESPGH) Long-Term Foreign and Local Currency Issuer Default Ratings (IDRs) at 'BBB-' and the Long-Term National Scale Rating at 'AA+(pan)'.

The Rating Outlook on all ratings is Stable. Fitch has also affirmed the company's USD1.38 billion senior secured notes ratings at 'BBB-' and 'AA+(pan)' on the international and national scales, respectively.

Fitch expects AESPGH to deleverage to around 3.7x gross leverage, measured as total debt/EBITDA, by 2024 from 6.4x in 2020 due to scheduled debt amortizations, increased LNG storage fees, and contracted price step-ups on its hydro power purchase agreements (PPAs). A parent and subsidiary relationship exists between AESPGH and The AES Corporation (BBB-/Stable) due to the latter's pledge of shares in the operating companies, but Fitch rates AESPGH on a standalone basis, not assuming implicit support from the parent company.

Key Rating Drivers

Strong Market Position: AESPGH is the largest private electricity generator in Panama, commanding a strong market position due to a large and diversified portfolio of assets and a flexible cost structure. Fitch estimates that the combined generation across the three generation companies (AES Panama SRL, AES Changuinola SRL, and AES Colon) accounted for 36% of the country's generation in 2022, and that it should maintain and supplement its market share by expanding into wind and solar. Fitch expects that the company's diversified asset base should provide an important mitigating factor amid near-term lower hydrology conditions driven by El Nino.

Improving Leverage Profile: The company's gross leverage profile, defined as total debt to EBITDA, improved materially in 2022 to 3.0x, down from 5.5x in 2021 and 6.4x in 2020, due to extraordinary revenues from third party LNG sales, increased generation volumes, and ongoing debt amortization. Leverage is anticipated to steadily decline (below the pre-2022 level) over the next three years, mostly attributable to debt repayment of USD172 million from its amortizing USD1.4 billion outstanding note and related company loans, and incremental EBITDA from AES Colon LNG sales and terminal storage fee growth.

EBITDA is estimated to approach USD390 million by 2025, up from an expected USD361 million at year-end 2023, resulting in leverage averaging 3.7x and EBITDA to interest expense averaging 5.0x in the intermediate term, both consistent with the 'BBB' rating category.

Diversified Asset Base: AESPGH's asset base is highly dependent on hydrology, which represents two-thirds of its installed capacity totalling 1.2GW. The company mitigates the risk of the country's periodic drought with a diversified portfolio that includes an efficient thermal AES Colon plant and solar and wind assets. Fitch's base case assumes that the company will be in a net buying position of power over the next five years, which exposes the company to over-contracting risk for hydroelectric revenues during dry years.

The base case also assumes that AES Colon will reduce generation in the near-term, as Generadora Gatun (Gatun, a 670MW thermal gas-fired plant), comes online in late-2024 and is expected to operate at a lower and more economical heat rate than AES Colon. AES Colon will fulfill its contracted volumes from spot market purchases. Gatun's added capacity to the market is expected to lower spot prices.

Strong Cash Flow Generation: The company's predictable and stable cash flows are supported by an average contract life of seven years with investment grade off-takers. Cash flow from operations (CFO) is estimated to average USD287 per annum, supportive of annual capex and debt maturities. Fitch expects the company will maintain its dividends policy to be 100% of excess cash flow, while aiming maintaining a minimum annual cash balance of USD65 million.

Regulatory Risk: The company's ratings also reflect its exposure to regulatory risk, as the government remains a majority shareholder in AES Panama. Historically, generation companies in Panama were competitive, unregulated businesses free to implement their own commercial strategies. An escalation in electricity prices due to market inefficiencies and an over-dependence on hydroelectricity catalyzed a push to diversify the country's energy matrix. This transition has helped reduce end-user prices, provide greater system redundancy, and preclude the need for undue regulatory interference.

Derivation Summary

AESPGH's credit profile is commensurate with investment-grade, diversified electric generation companies (Gencos) in the region, such as Kallpa Generacion S.A. (Kallpa, BBB-/Stable) of Peru, AES Andes S.A. (BBB-/Stable) of Chile and Isagen S.A. E.S.P.'s (Isagen) of Colombia.

Fitch expects AESPGH's leverage to be between 4.4x and 3.7x between 2023 and 2024 before falling to 3.4x and below in 2025 and thereafter. This capital structure is in line with that of Kallpa, which is expected to have leverage of around 4.0x over the medium term. Kallpa also features a diversified asset base of both natural gas and hydroelectric production. AESPGH's capital structure is also comparable with that of AES Andes, for which Fitch estimates EBITDA leverage to remain between 3.5x and 4.0x over the rating horizon, peaking at 4.0x by the end of 2023. AES Andes has considerably higher installed capacity of 5.2GW, well above AEPGH's 1.2GW.

AESPGH's capital structure is slightly more aggressive than Colombian peer Isagen S.A. E.S.P.

(BBB-/Stable), which is expected to have medium-term leverage of 3.3x. Isagen's IDR is constrained by Colombia's Country Ceiling at 'BBB-', as the company operates entirely within Colombia, and does not have substantial offshore cash or EBITDA from other countries rated above the Country Ceiling.

Isagen's IDR reflects its leading business position in the Colombian electricity generation market and portfolio of diversified generation assets, and stability of EBITDA driven by a well-contracted position. Both AESPGH and Isagen have significant hydroelectric capacity and have the ability to mitigate El Nino risk with back-up thermal capacity.

The company's national scale rating of 'AA+(pan)'/Stable is comparable to Empresa de Transmision Electrica S.A.'s rating (ETESA; AAA[pan]/Stable). ETESA has higher projected medium-term leverage, with expected 2023 gross leverage of 6.0x, but operates in the electricity transmission subsector, which is highly regulated and considerably less volatile than electricity generation. AESP's sister company, AES Changuinola SRL (AA+(pan)), expects an ongoing leverage of around 3.6x in the intermediate term.

Key Assumptions

Hydrology conditions and plant load factors will follow long-term historical averages (including yoy variability and the dryer effects of El Nino) in 2023 and beyond;

Monomic contract prices for 2023 through 2026 for each company are: USD100/MWh for AES Panama SRL; USD114/MWh for AES Changuinola; and $108 for AES Colon;

Long-term hydro and renewable PPA prices have fixed prices where some of them adjust with inflation, and prices for capacity are fixed with no change over the life of the contract;

Expiring large user hydro PPAs will be renewed with similar terms;

Thermal PPA prices adjust based on the cost of fuel and capacity prices are fixed;

Spot prices to approximate USD100/MWh in 2023; then reduce to an average USD88/MWh thereafter as new system capacity is added;

Generadora Gatun, a 670MW LNG-fired plant, enters operation in 2H24 and contracts LNG storage with Costa Norte. AESPGH will purchase energy from the spot market at projected costs to offset the step-down in production at the AES Colon plant;

No significant asset sales occur during the rating horizon without corresponding debt rebalancing;

Dividends average USD236 million through 2027, with year-end cash estimated at no less than USD65 million.

RATING SENSITIVITIES

Factors that could, individually or collectively, lead to positive rating action/upgrade:

Sustained gross leverage below 3.0x over the medium term;

A conservative contracting strategy that promotes cash flow stability and the ability to withstand hydrological shocks to the system;

Continued evidence of sustainable spot price stabilization as a result of asset diversification in Panamanian electricity matrix.

Factors that could, individually or collectively, lead to negative rating action/downgrade:

Sustained gross leverage above 4.0x and net leverage above 3.5x over the medium term;

Increased government intervention in the sector, coupled with a weakening regulatory framework;

Deterioration in the company's ability to mitigate spot-market risk;

Payment of dividends coupled with high leverage levels;

Significant asset sales causing an adverse change in financial structure.

Best/Worst Case Rating Scenario

International scale credit ratings of Non-Financial Corporate 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 four 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.

Liquidity and Debt Structure

Adequate Liquidity: Fitch expects the combined company to generate strong free cash flow (FCF) of an average annual USD55 million in years 2023-2025, after capex and conservative dividend distribution assumptions. FCF will be nearly sufficient to support ongoing annual debt amortizations near-term, and remain supportive of an overall solid yoy liquidity position that Fitch assumes should sustain at around USD65 million or above per year going forward.

The combined companies held a robust USD154 million in readily-available cash and equivalents as of March 31, 2023. The majority of the company's debt is long term, with just over USD1.2 billion due in 2030.

Issuer Profile

AESPGH is indirectly owned by AES to finance operations in Panama and is the issuer of USD1.38 billion amortizing notes. AESPGH owns and operates a large portfolio of electricity generation and LNG assets in Panama.

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.

ESG Considerations

Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of '3'. This 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. For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/esg

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