Rating action

Scope Ratings GmbH (Scope) has today affirmed its B+ rating on the senior unsecured bonds issued by PolSolar Kft. The rating action reflects the issuance of the bonds on 22 April 2022 and the exercise of the overallotment option, increasing the total issuance volume to HUF 70.7bn. The higher-than-expected issuance volume has no impact on the credit risk of the transaction because it reduces the need for additional funding and does not affect the expected financial leverage during the construction phase.

Transaction overview

The issuance proceeds will contribute to funding the construction of five photovoltaic power plants with a total capacity of 233.5 MW_AC located in Mezöcsát, in the north-east of Hungary. Each plant will have a capacity of 46.7 MW_AC. The project will also be financed by additional expected funding of HUF 1.8bn, which is planned to be raised before 30 June 2022.

The project is in ready-to-build status and construction has not started yet apart from some enabling works. Expected final handover date is 30 September 2023, and the final commissioning deadline is 31 December 2023.

The issuer and holdco, PolSolar Kft, will on-lend the bond proceeds to the five individual opcos, which respectively own the five solar plants. The issuer’s obligations are guaranteed by the five opcos. Each opco has the right to sell the electricity produced to the Hungarian transmission service operator, MAVIR Zrt, under a feed-in tariff (the KÁT tariff) according to the generation permits provided by the Hungarian Energy and Public Utility Regulatory Authority (“HEPURA”). In case of missing the commissioning deadline, the project would not be eligible to receive the full KÁT tariff.

The sponsors of the project, Voyager Private Equity Fund and Central European Opportunity Private Equity Fund, are both midsized Hungarian equity funds, focusing on the Central and Eastern European market. The sponsors have limited experience in renewable energy projects. Sponsors’ economic incentives in the project are high because of their substantial equity contribution of 25% of total investment costs.

Rating rationale

The B+ rating reflects the total expected loss (EL) of 11.06% over the loan’s life until maturity (equivalent to a 9.85-year constant-exposure expected risk horizon).

The project is characterised by high construction risks, average operational risk, stable and predictable cashflows, high refinancing risk and a very weak financing and legal framework. The bonds are unsecured, and the covenant package and terms of the financing documents are not in line with our expectations for a typical project finance transaction. The fixed rate bonds amounting to HUF 70.7bn were subscribed by the Hungarian National Bank and commercial investors. Additional funding totalling up to HUF 1.8bn is planned to be raised until 30 June 2022. The rated bond proceeds will be put on an escrow account and cannot be drawn before the additional funding is raised. Additional funding can be raised as debt, which will be unsecured and rank pari passu with the rated bonds.

• Construction risks account for 42.0% of total EL. Bondholders are significantly exposed to construction risk, which is managed under a multi-contracting strategy introducing contractor interface risks. All five PV plants still have to be built and must commence commercial operation until December 2023 to be eligible for the full KÁT tariff.
   
• Operational risks account for 8.2% of total EL. Operational complexity is average and the technology used is suitable. The project benefits from a 25-year, full-service O&M contract with a midsized Hungarian construction company belonging to a listed Hungarian oil & gas group.
   
• Revenue risks account for 5.0% of total EL. The project benefits from a fixed feed-in tariff under the KÁT regulatory regime that is subject to inflation-linked indexation, and mandatory offtake by the transmission system operator (MAVIR Zrt) for 24 years. Completion delays would reduce the support period, which has a fixed end date. We assess solar resource risk as low.
   
• Financial strength accounts for 11.4% of total EL. The rated bonds will not amortise fully until maturity and 50% of initial debt amount will have to be refinanced in 2037, which represents a significant balloon repayment of c. HUF 35bn. We note that the assumed refinancing debt will fully amortise before the end of the regulatory period in our rating case.
   
• Project structure and other account for 33.4% of total EL. The project's financing and legal framework does not meet the standards of a typical project finance transaction. The contractual structure lacks standard protections to investors usually available in similar project finance transactions and presents substantial legal risks in relation to the issuer’s bankruptcy-remoteness. No security package was provided. The covenant package is light in comparison with similar transactions. The financing documents have not been reviewed by lender’s legal adviser, and no legal opinion confirming the legal integrity of the structure was provided.

Key rating drivers

Stable and predictable cashflows (positive). The project benefits from fixed feed-in tariffs set out by the KÁT regulatory regime in Hungary (rated BBB+ by Scope) and a good-quality solar resource, underpinning cashflow stability for a 24-year period, beyond the rated bonds tenor of 15 years.

Average operational risk (positive). The technology used is proven and manufacturers of key equipment are reputable companies. Technical failure risks are somewhat diversified across the five PV parks. Limited operational complexity and a 25-year full-service O&M contract pose low operational risks.

Limited equity sponsors experience and disclosure (negative). The sponsors have limited experience in developing a solar project of such scale. There is limited information available about sponsors’ financial standing and, as a result, about the likelihood of equity support in the event of difficulties. These uncertainties are reflected in our assumption of moderate to weak credit quality of the sponsors.

Material construction risk (negative). We consider the construction schedule with regard to the long-stop date in December 2023 tight. Delays beyond the long-stop date would lead to a reduction in the feed-in tariff. The risks of delayed delivery of equipment from the Chinese panel supplier and the weak credit quality of the main EPC contractor are also credit negative. Delays in the construction phase could trigger cost overruns. Potential higher costs would mainly be absorbed by the project as contractor liquidated damages and security would only provide limited mitigation due to the chosen multi-contracting strategy and related interface risks. While the construction of the project depends on the timely raise of additional funding which is pending to date, the funding risk is largely mitigated by the escrow account mechanism.

High refinancing risk (negative). The balloon repayment at maturity represents around 50% of the bonds initial size. The strong dependence on market conditions prevailing around the bond’s maturity date exposes the issuer to significant refinancing risk.

Weak legal and financing framework (negative). The legal and financial framework is not in line with our expectations for a project finance transaction of this kind. The financing framework has not been reviewed by lender’s legal adviser and no customary legal opinion was provided. The covenant package is light compared with similar project finance transactions. The financing structure, combined with the unsecured nature of the bonds, limits lenders’ ability to take over and restructure the transaction in the event of difficulties and substantially increases legal risks in an enforcement scenario.

Rating-change drivers

Positive rating-change drivers:

• On-time and on-budget construction completion, as well as better than expected cashflows along with continued deleveraging could lead us to upgrade the rating.

Negative rating-change drivers:

• Delayed completion beyond the long-stop date and significant cost overruns during construction, or failure to obtain the required funding could result in a rating downgrade. Lower than expected revenues and cashflows due to insufficient irradiation, O&M issues, additional unforeseen costs, or failure to refinance the bonds could negatively impact the rating during the operational phase.

Quantitative analysis and assumptions

The total EL on the rated instrument is commensurate with a B+ rating. We calculated an EL of 11.06% over the lifetime of the instrument (equivalent to a constant exposure expected risk horizon of 9.85 years) under our rating case scenario (Scope’s rating case), which is similar to the sponsor’s base case scenario. The rating case assumes P90 energy yield, 2.0% p.a. module degradation the first two years, 0.7% afterwards, a 380 HUF/EUR exchange rate, an inflation of 8.2% in 2022, of 4.2% in 2023, of 3.5% from 2024 to 2026 and 3% afterwards.

We calculated an expected impairment likelihood of 24.57% for this project, commensurate with a PD strength of b+ when expressed using the levels of our idealised PD curves, as per our methodology. The project’s PD strength and EL results from the aggregated risk of the construction and operational phases.

We calculated a total expected recovery rate of 54.96% on credit impairments for the project. The total expected recovery rate is the probability-weighted average recovery rate of all 16 credit impairment events.

We performed a detailed estimation of the expected severity of the three credit impairment events that are most relevant for investors. These are: i) Construction delay; ii) Cost overrun; and iii) Refinancing issues. These three credit impairment events together contribute 39.4% of the EL for investors.

Sensitivity analysis

Scope tested the resilience of the rating against deviations of the main input parameters: risk factors and expected recovery rates. This analysis has the sole purpose of illustrating the sensitivity of the rating to input assumptions and is not indicative of expected or likely scenarios.

The following shows how the results for the senior notes change compared to the affirmed credit rating in the following scenarios:

• The model-implied rating would be CC, or two rating categories lower, if all 23 risk factor scores are reduced by one level
   
• The model-implied rating would be CC, or two rating categories lower, if the most relevant risk factor scores are reduced by two levels.
   
• A 25% haircut to the expected recovery rate implies a rating of B.

ESG risks

The rated bond is a green bond that meets the criteria defined by the Green Bond Principles 2021 and the Green Loan Principles 2021, certified by Sustainalytics on 29 March 2022.

The project contributes to Hungary's aim to increase the share of renewable energy in its generation mix since the rated project will be the largest solar park in the country to date.

Stress testing
Scope Ratings' General Project Finance Methodology considers a rating case that embeds stress when compared to the sponsor’s base case. Additionally, the recovery analysis takes into consideration the extreme events in the recovery distribution curves. These elements can be considered a form of stress testing. The stresses of the rating case incorporate haircuts to the cash flows for investors using the project’s financial model.
Scope Ratings stressed the key inputs to the project’s financial model based on the conditions implied by the respective credit impairment event. For example, the stresses applied to estimate the expected recovery rate in revenue deterioration events cover two key revenue drivers: expected energy yield and plant availability. Scope Ratings derived the expected recovery rate by calculating the net present value of all cash flows available for debt service under the assumptions of the respective most relevant credit impairment event.

Cash flow analysis
Scope Ratings relied on the project’s financial model originally prepared by the issuer and reviewed by EQUILOR Befektetési Zrt for the cash flow analysis of the transaction. The cash flow analysis incorporates Scope Ratings' own assumptions over the economic life of the project, considering the transaction’s main structural features, such as the bonds’ notional amount and coupons. The cash flow analysis is used to assess the different risk factors and recovery risk factors as well as to determine the expected recovery of the top three credit impairment events, considered in Scope Ratings' General Project Finance Methodology. 

Methodology
The methodology used for this Credit Rating, (General Project Finance Rating Methodology, 15 November 2021), is available on https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
The model used for this Credit Rating is (Project Finance Expected Loss model v1.2), available in Scope Ratings’ list of models, published under https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
Information on the meaning of each Credit Rating category, including definitions of default, recoveries, Outlooks and Under Review, can be viewed in ‘Rating Definitions – Credit Ratings, Ancillary and Other Services’, published on https://www.scoperatings.com/governance-and-policies/rating-governance/definitions-and-scales. Historical default rates of the entities rated by Scope Ratings can be viewed in the Credit Rating performance report at https://scoperatings.com/governance-and-policies/regulatory/eu-regulation. Also refer to the central platform (CEREP) of the European Securities and Markets Authority (ESMA): http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. A comprehensive clarification of Scope Ratings’ definitions of default and Credit Rating notations can be found at https://www.scoperatings.com/governance-and-policies/rating-governance/definitions-and-scales. Guidance and information on how environmental, social or governance factors (ESG factors) are incorporated into the Credit Rating can be found in the respective sections of the methodologies or guidance documents provided on https://scoperatings.com/governance-and-policies/rating-governance/methodologies.

Solicitation, key sources and quality of information
The Rated Entity and/or its Related Third Parties participated in the Credit Rating process.
The following substantially material sources of information were used to prepare the Credit Rating: public domain, the Rated Entity, the Rated Entities’ Related Third Parties, third parties and Scope Ratings’ internal sources.
Scope Ratings considers the quality of information available to Scope Ratings on the Rated Entity or instrument to be satisfactory. The information and data supporting the Credit Rating originate from sources Scope Ratings considers to be reliable and accurate. Scope Ratings does not, however, independently verify the reliability and accuracy of the information and data.
Prior to the issuance of the Credit Rating action, the Rated Entity was given the opportunity to review the Credit Rating and the principal grounds on which the Credit Rating are based. Following that review, the Credit Rating was not amended before being issued.

Regulatory disclosures
The Credit Rating is issued by Scope Ratings GmbH, Lennéstraße 5, D-10785 Berlin, Tel +49 30 27891-0. The Credit Rating is UK-endorsed.
Lead analyst: Michel Graire, Senior Analyst
Person responsible for approval of the Credit Rating: Aaron Konrad, Executive Director
The Credit Rating was first released by Scope Ratings on 14 April 2022

Potential conflicts
See www.scoperatings.com under Governance & Policies/EU Regulation/Disclosures for a list of potential conflicts of interest related to the issuance of Credit Ratings.

Conditions of use / exclusion of liability
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