Fitch Ratings has affirmed Italian Acea S.p.A.'s Long-Term Issuer Default Rating (IDR) and senior unsecured rating at 'BBB+'.

The Outlook on the IDR is Stable.

The affirmation reflects the company's 2022-2024 visible prospects, underpinned by its focus on water and electricity regulated networks in central Italy, combined with prudent commodity hedging in its commercial supply offer.

We expect Acea to manage its net debt at around 3.0x EBITDA, which is a key factor in the assessment of its Standalone Credit Profile (SCP) at 'bbb+' given negligible headroom of funds from operations (FFO) net leverage under its current negative sensitivity threshold of 5.0x.

Our projections do not factor in strategic opportunities such as the potential waste-to-energy plant serving the City of Rome. Such investments could affect the ratings, if fully debt funded or not adequately offset by asset disposals or investment rationalisation.

Key Rating Drivers

Standalone GRE Rating Drivers: Fitch views Acea as a government-related entity (GRE) under its criteria, given the City of Rome's majority ownership (51%). This drives our assessment of 'Strong' control and ownership, which is counterbalanced by 'Weak' support track record and expectation, 'Moderate' socio-political implications of a default, and 'Weak' financial implications of a default.

Limitations of Shareholder Links: We continue to rate Acea at its Standalone Credit Profile (SCP) level, reflecting also our assessment of 'insulated' access and control by the parent based on Acea's public listing status, the presence of strong minority shareholders and negligible financial integration with Rome. Legal ringfencing is seen as overall 'porous', in light of Acea's publicly and clearly defined leverage policy and record of adherence. Under our criteria Acea has reached the maximum rating differential from the City of Rome's, constraining rating upside in the short term.

Defensive Business Profile: Acea's predominant exposure to regulated distribution network businesses (over 80% of consolidated EBITDA in 2022-2024) has little to no volume/price risk and satisfactory protection from inflationary effects. We view the Italian regulator ARERA as independent and supportive, while the regulatory frameworks for electricity and gas distribution as some of the most mature in Europe. Under ARERA supervision, we expect water network to continue to improve its predictability, while waste treatment activities to gradually benefit from the long-term stability granted by recently introduced regulatory asset-based (RAB) principles.

Commodity Market Volatile but Manageable: We expect limited impact from the current exceptionally high and volatile commodity price environment. This is due to the limited contribution (around 10%-15%) of merchant activities to Acea's consolidated operating cash flow, and a prudent internal hedging policy. This limits Acea's open position on commodity to a minimal, mitigating its structurally long exposure to supply versus generation. Together with a pragmatic switch to a variable-priced supply offer for customers, it should allow Acea to navigate unstable market conditions without large volatility to results.

Manageable Political Risk: The Italian government's initiatives aimed at easing the burden of increasing energy bills will have a limited impact on Acea's results, in our view. The one-off 25% windfall tax on higher profits for the October 2021-April 2022 period compared with prior year and generation's clawbacks for excess profit above the settled price reference should not weigh heavily on Acea. Further, we do not expect the option of energy bill instalments to create a large working capital burden, given the company's improved record of effective working-capital management.

Negative FCF from Capex Expansion: Under our updated projections Fitch-defined EBITDA is EUR1.37 billion in 2024 versus EUR1.2 billion in 2021, and net debt is EUR4.6 billion versus EUR3.9 billion. This underlines another three years of expected strong growth (annual investment above EUR850 million), which we expect to result in negative free cash flow (FCF).

Negligible Leverage Headroom: Acea targets long-term consolidated net debt at 3x EBITDA. We expect the company to defend its targeted capital structure, as demonstrated by the disposal of its 60% stake of its solar business to Equitix, although we expect Acea to tolerate small breaches. The company's target remains consistent with the 'BBB+' rating, but our rating case foresees FFO net leverage at around 4.9x until 2024 (5.0x in 2021), implying very little headroom under our negative sensitivity.

Long-Term Business Plan Key: Acea's business plan is now expected to be released in autumn, outlining its 10-year strategic priorities and financial targets. We currently rate Acea based on in-continuity assumptions for its network exposure and leverage targets. The latter, in particular, does not include the effect of a potential large waste-to-energy plant to be tendered by the municipality of Rome and its associated capex, which we view as negative if fully debt-funded.

Acea has an ESG Relevance Score of '4 'for group and governance structure, reflecting large third-party minority rights in its water business and potential intervention by its majority shareholder (City of Rome) in management and strategy, respectively.

Derivation Summary

Acea has a better business profile than other Fitch-rated Italian multi-utilities such as Iren S.p.A. (BBB/Stable) and Alperia S.p.A. (BBB/Stable), as it benefits from a higher EBITDA contribution of fully regulated activities at around 80% compared with around 50% at Iren and 20% at Alperia. In contrast, compared with fully regulated gas distributor Italgas S.p.A. (BBB+/Stable), Acea has a lower debt capacity for the same rating (downgrade at 7.0x FFO net leverage for Italgas versus 5.0x for Acea), due mainly to the presence of unregulated activities and a less mature regulatory framework for water than gas in Italy.

In comparison with pure international water network peers such the Spanish FFC Aqualia S.A. (BBB-/Stable), the Polish Aquanet S.A. (BBB+/RWN), Acea is more diversified (electricity networks, etc.) and benefits from a more predictable and developed regulatory framework, granting a higher debt capacity at the same rating level. It shares a similar debt capacity with Spain's Canal de Isabel II, S.A. (BBB+/Stable), whose business mix is almost fully regulated, largely under its 50-year water concession agreement in the Region of Madrid.

Key Assumptions

Fitch's Key Assumptions Within Our Rating Case for the Issuer

EBITDA of grid and water divisions to rise to almost EUR400 million and EUR700 million, respectively (excluding net income from associates), by 2024

Energy division's EBITDA to progressively increase to EUR165 million by 2024, with developed solar assets in JV contributing to FFO only through dividends of up to EUR15 million per year in 2024

Doubling of EBITDA contribution from the environment-services division by end of the business plan (around EUR115 million), with new investments and external expansion strongly fuelling waste- treatment volume growth

Working-capital outflow in 2022 of around EUR80 million due to the impact of energy bill instalments optionality for customers before normalising to an outflow of EUR30 million per year until 2024

Capex and selected acquisitions for EUR2.7 billion across 2022-2024

Cumulative dividends of more than EUR530 million in 2022-2024

No major additional acquisitions or investments outside the latest business plan

RATING SENSITIVITIES

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

Upside is constrained by our view of the creditworthiness of the City of Rome, Acea's majority shareholder

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

FFO net leverage above 5.0x, or FFO interest coverage below 3.5x over a sustained period, for example, as a result of debt-funded acquisitions/investments beyond our expectations

A shift in the activity mix towards unregulated, affecting the predictability of cash flows

Deterioration, in our view, of the creditworthiness of the City of Rome, or stronger links between the City of Rome and Acea

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

Solid Liquidity: At end-March 2022, cash and cash equivalents amounted to slightly more than EUR980 million, including EUR290 million of short-term deposits. Together with EUR750 million available facilities (revolving credit facilities and an undrawn European Investment Bank loan), this will cover maturities within the next 24 months of around EUR490 million and expected negative FCF of around EUR505 million.

Issuer Profile

Acea is one of the largest Italian multi-utilities by revenue. It predominantly operates in the urban area of Rome, but it is also present in other parts of central Italy, mainly in Lazio, Umbria, Campania and Tuscany.

Criteria Variation

Fitch views the contractor business of Italian utilities in the context of approved eco-bonus on the energy requalification of buildings as a pass-through item. This is mainly due to a clear recovery framework through tax credits in the following years.

In light of the prolongation of most of these bonuses and Acea's activity in the energy-efficiency field, we reverse the impact on leverage metrics caused by related investments/working-capital drains.

Summary of Financial Adjustments

Factoring related to securitisation (EUR300 million at end-2021); receivable sale (EUR114 million) and reverse factoring (EUR55 million) is added to debt

Short-term deposits (EUR270 million at end-2021) are added to cash & cash equivalent

Third-party net income attributable to Gori, Acquedotto del Fiora, Aqua Azul, Aqua San Pedro and Servizio Idrico Integrato is deducted from FFO

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

Acea has an ESG Relevance Score of '4' for group and governance structure, reflecting large third-party minority rights in the water business and potential intervention from majority shareholder, respectively. These, together with the weaker creditworthiness of the City of Rome, have a negative impact on the credit profile, and are relevant to the rating in conjunction with other factors.

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

(C) 2022 Electronic News Publishing, source ENP Newswire