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Rating action

Scope Ratings GmbH (Scope) has affirmed the BB+/Stable issuer rating of Hungarian utility ALTEO Energiaszolgáltató Nyrt along with the BBB- long-term senior unsecured debt rating and S-3 short-term debt rating.

Rating rationale

ALTEO’s creditworthiness is supported by its solid cash flow derived from its balanced and gradually growing outreach as a multi-utility. Despite its small size in the context of the Hungarian energy market, the company’s balanced exposure to regulated and unregulated electricity and heat generation provides over 80% of recurring EBITDA and ensures robust operating cash flow and a solid position as an energy supplier in the domestic market. ALTEO has a generation capacity of around 70 MW renewable energy generation capacity, around 70 MW of thermal capacity from small-scale gas-fired power plants and almost 200 MW heat generation capacity. Scope expects the company’s competitive position to be further enhanced along the investment phase, which focuses on a capacity ramp-up addressing the current asset concentration on two wind farms within the power generation portfolio. Two main factors constrain the business risk profile at BB+: the industry-inherent volatility regarding fluctuating power prices that could strongly impact the company’s exposure to outright (unregulated) power production and its comparatively small size and limited outreach to markets outside of Hungary.

The utility’s combined generation portfolio of volatile renewable assets, peak-load capable combined heat generation gas-fired power plants and new storage facilities give an edge to its competitive position and cash flow. The operation of a ‘virtual power plant’ in Hungary through ALTEO’s Control Centre puts the company in a favourable position to provide balancing energy services to the grid operator. This entails delivering solid cash flow upside when balancing is in increasing demand alongside the strong ramp-up of volatile renewable energy capacities – primarily photovoltaic generation assets – in Hungary (ESG factor: credit-positive environmental factor). Balancing services are expected to provide cash flow upside, as evidenced in 2021 and 2022.

Scope believes that ALTEO’s position would be partially protected should Russian gas flows come to a halt. Whilst ALTEO’s power generation and supply depend on steady gas flow and sufficient gas storage inventories in Hungary (with half of the electricity generation portfolio being exposed to gas-fired power plants). These event risks do not determine Scope’s base case given the close ties between Hungary and Russia. ALTEO’s exposure to the provision of balancing capacity (something that would gain further importance in the event of severe supply chain disruptions of Russian gas flows) and its exposure to the supply of heat would put it in a favourable position should gas flows be rationed.

The utility’s updated investment strategy earmarks HUF 35bn for 2022-2026 and clearly signals the focus on asset-intensive areas of power generation from renewables and the optimisation of balancing capacities. The execution risk regarding the integration of developed or acquired assets is limited given the granularity of growth projects and ALTEO’s track record in relevant infrastructure segments. The development of ALTEO’s virtual power plant infrastructure alongside a growing asset base of generation capacities should enhance its competitive position over the next few years.

Scope expects strong credit metrics from ALTEO in 2022 following the company’s performance in 2021. These metrics are outside the boundaries that define Scope’s rating case and Scope expects they will not be sustained following a potential reversion of achievable power prices for balancing volumes and the company’s update of its investment and dividend plan. Nonetheless, the company’s financial risk profile is strengthened by its improved operating cash flow and retained cash, which are expected to be used to a large extent for the capex programme. Overall, Scope regards the company’s financial setup as commensurate with a BBB- financial risk profile (compared to BB+ under the old rating case). Credit metrics would likely stand at even stronger levels should achievable prices for outright power production and balancing services remain at very strong levels for a longer time period. However, in such case Scope believes that ALTEO would adapt its policy on capex and/or shareholder remuneration once more. Likewise, it would be likely that the Hungarian government/regulator would implement additional measures that would restrict continuously strong margins and cash flow in power generation for utilities such as ALTEO.

ALTEO’s stepped-up investment plan does not provide much room for active deleveraging over the next few years. The investment plan covers organic growth and smaller bolt-on acquisitions with a focus on single project companies in renewables, cogeneration capacities and waste management facilities, paired with increased shareholder remuneration. Scope expects the company’s net debt as measured by its Scope-adjusted debt to gradually increase from HUF 20.9bn at YE 2021 to over HUF 30bn by YE 2024.

Leverage as measured by a Scope-adjusted debt/Scope-adjusted EBITDA is expected to be volatile given the effects of the pricing environment on ALTEO’s unregulated power generation. As Scope does not regard the EBITDA generated in 2021 and expected for 2022 to be sustained if/when electricity and balancing prices normalise from 2023, the comparatively low leverage of around 2x for 2021 and 2022 is not representative of ALTEO’s rating case. With a sustained EBITDA of about HUF 7.5bn to HUF 9.0bn expected for 2023 and 2024 in conjunction with the rising debt exposure, ALTEO’s leverage is expected to settle at the lower end of the leverage range that defines Scope’s rating case (3.5x-4.5x).

Similarly, debt protection as measured by Scope-adjusted EBITDA interest coverage is strongly impacted by the volatile EBITDA development. As such, the high debt coverage of above 10x in 2021 and 2022 are not determinant for the rating case. Considering the interest rate environment in Hungary, and the expectation of a growing debt exposure over the next few years and a normalised EBITDA, debt protection is expected to revert to 5x-7x.

The company’s free operating cash flow is expected to fluctuate around breakeven. While it remains uncertain to what extent ALTEO dedicates its growth capex to organic growth and dynamic growth opportunities related to smaller bolt-on acquisitions, a large part of organic growth can likely be funded internally through the cash buffer and operating cash flow. Scope expects that the HUF 5bn-8bn of annual capex aimed at organic growth could roughly be covered by the expected operating cash flow. However, additional capex for M&A will likely require external funding. Overall, Scope does not see a rising risk in the company’s larger capex programme constraining its financial setup and requiring much additional debt without being justified by the company’s operating strength.

Scope regards ALTEO’s liquidity position as sound. Upcoming debt maturities in 2022-2024 totalling HUF 3.7bn of which HUF 2.3bn is related to two bonds that have already been redeemed from ALTEO’s cash buffer in January and June 2022 (remaining refinancing volumes of HUF 0.4bn in 2022; HUF 0.4bn in 2023; HUF 0.5bn in 2024) should comfortably be covered by the cash buffer estimated at above HUF 3.0bn as of June 2022, free operating cash flow ranging between HUF -0.1bn and HUF 1.1bn until 2024 and freely available overdraft facilities of over HUF 2.5bn at YE 2021.

Scope regards ALTEO’s financial policy as prudent. While the envisioned dividend payout of HUF 2.0bn for 2021 (from HUF 455m for 2020) is material, it is deemed reasonable given ALTEO’s strong operating performance and improved credit metrics. Dividends kept at this level would not jeopardise ALTEO’s credit profile. Dividends would likely be scaled back (as they were in 2020 amid the Covid-19 crisis) if needed to preserve the company’s credit profile, which seems a clear focus of management.

One or more key drivers of the credit rating action are considered an ESG factor.

Outlook and rating-change drivers

The Stable Outlook reflects Scope’s expectation that ALTEO’s financial position will be retained at a solid level along its partially debt-funded growth strategy as displayed by a Scope-adjusted leverage (Scope-adjusted debt/Scope-adjusted EBITDA) remaining at the lower end of the range for the rating (3.5x-4.5x) and an EBITDA interest coverage staying above 5x.

Despite the company’s very solid credit metrics, a positive rating action signalling the company entering investment-grade quality is remote. This is due to the company’s still limited overall size and outreach and the accompanying potential cash flow volatility. Nonetheless, Scope could consider a positive rating action if Scope-adjusted debt/Scope-adjusted EBITDA were kept solidly below 3.5x and EBITDA interest coverage improved to over 7x for a prolonged period alongside a significant business expansion following the updated investment plan.

ALTEO has strongly increased its headroom to a potential negative rating action. A negative rating action could be considered if growth did not materialise as expected, e.g. through significantly lower earnings contributions from the new power generation capacities or if further debt-financed M&A projects weighed on leverage, resulting in a Scope-adjusted debt/Scope-adjusted EBITDA of above 4.5x and EBITDA interest coverage of below 5x on a sustained basis.

Long-term and short-term debt ratings

Scope has affirmed the BBB- rating for senior unsecured debt issued by ALTEO. Recovery expectations for senior unsecured debt remain ‘above-average’, even after senior secured debt (primarily non-recourse project finance debt and finance leases) has been fully covered. Recovery expectations are based on an expected liquidation value in a hypothetical default scenario of around HUF 36bn after administrative claims.

ALTEO’s S-3 short-term debt rating has been affirmed, reflecting ALTEO’s sound liquidity profile with the expectation of comfortable internal and external liquidity metrics and solid access to external funding (i.e. banks and capital markets).

Stress testing & cash flow analysis
No stress testing was performed. Scope Ratings performed its standard cash flow forecasting for the company.

Methodology
The methodologies used for these Credit Ratings and/or Outlook, (Corporate Rating Methodology, 6 July 2021; European Utilities Rating Methodology, 17 March 2022; European Utilities: Renewable Energy Corporates Rating Methodology, 17 January 2022), are available on 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.
The Outlook indicates the most likely direction of the Credit Ratings if the Credit Ratings were to change within the next 12 to 18 months.

Solicitation, key sources and quality of information
The Credit Ratings were not requested by the Rated Entity or its Related Third Parties. The Credit Rating process was conducted:
With the Rated Entity or Related Third Party participation          YES
With access to internal documents                                             YES
With access to management                                                      YES
The following substantially material sources of information were used to prepare the Credit Ratings: public domain, the Rated Entity 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 Ratings 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 Ratings and/or Outlook and the principal grounds on which the Credit Ratings and/or Outlook are based. Following that review, the Credit Ratings were not amended before being issued.

Regulatory disclosures
These Credit Ratings and/or Outlook are issued by Scope Ratings GmbH, Lennéstraße 5, D-10785 Berlin, Tel +49 30 27891-0. The Credit Ratings and/or Outlook are UK-endorsed.
Lead analyst: Sebastian Zank, Managing Director
Person responsible for approval of the Credit Ratings: Philipp Wass, Executive Director
The Credit Ratings/Outlook were first released by Scope Ratings on 7 August 2019. The Credit Ratings/Outlook were last updated on 29 July 2021.

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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