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TEXT-Fitch cuts Kleen Energy to 'BB', revises outlook to negative
July 25, 2012 / 6:14 PM / 5 years ago

TEXT-Fitch cuts Kleen Energy to 'BB', revises outlook to negative

 (The following statement was released by the rating agency)
 July 25 - Fitch Ratings has downgraded to 'BB' from 'BBB-' the rating of
Kleen Energy Systems, LLC's (Kleen) $435 million ($362.5 million outstanding)
term loan A due 2018 and $295 million ($286 million outstanding) term loan B due
2024 (the term loans). The rating action reflects a sharp upward shift in
Kleen's cost structure and unexpected shortfalls in contractual revenues. The
Rating Outlook has been revised to Negative from Stable.

KEY RATING DRIVERS

--Fixed Price Agreements: Kleen's revenues are initially derived from
fixed-price tolling and capacity agreements with investment-grade
counterparties, partially mitigating price risks through 2017. Once the tolling
agreement expires, a scheduled step-down in debt service should moderate Kleen's
energy price exposure during the merchant period. Capacity payments should
provide additional revenue support over the long term.

--Lack Of Operational History: Kleen has not yet established a stable cost
profile or demonstrated a pattern of consistent operating performance. Fitch
anticipates that actual costs will exceed original projections by a wide margin,
heightening the potential impact of operational underperformance going forward.
Kleen must meet target availability and heat rate requirements to avoid
contractual penalties and maximize revenues. Favorably, Kleen benefits from
commercially proven, reliable technology operated and maintained by experienced
O&M providers.

--Weakened Financial Profile: Fitch-projected debt service coverage ratios
(DSCRs) range between 1.25x and 1.35x during the tolling period under a revised
Fitch rating case that considers a combination of low availability, technical
underperformance, and further increases to a deteriorating cost profile. The
rating is not constrained by financial performance during the merchant period,
primarily due to declining debt service relative to higher projected revenues.

--Mitigated Refinancing Risk: Fitch believes it is likely that Kleen will fully
prepay the term loan A balloon payment prior to maturity. The supplemental
amortization mechanism relies upon contractual cash flows during the tolling
period, and catch-up provisions provide some protection against temporary
interruptions in cash flow.

WHAT COULD TRIGGER A RATING ACTION

--Cost Escalation: Additional increases in O&M costs would further erode cash
flow and heighten the project's vulnerability to operating event risks.
--Operating Performance Shortfall: Persistently low availability or an
accelerated degradation in heat rates would reduce revenue and potentially
subject the project to contractual penalties.
--Inability To Refinance: In the event that an outstanding balance remains on
the Term Loan A at maturity, market conditions and/or project-specific factors
could prevent Kleen from refinancing.

SECURITY

The collateral includes a first-priority security interest in the ownership
interests in Kleen, all real and personal property, including Kleen's rights
under the project documents, the project accounts, and all revenues.

CREDIT UPDATE

The rating downgrade reflects a sharp upward shift in Kleen's cost structure and
unexpected reduction in contractual revenues. Fitch expects cash flow to fall
short of original projections by an estimated $20 million per year. The Negative
Outlook is based upon the heightened uncertainty surrounding Kleen's cost
structure, as it is unknown whether the current operating budget fully captures
the upward movement in costs or the deterioration in the project's revenue
profile.

Kleen is incurring a combination of unanticipated costs previously excluded from
the sponsor's original projections and an escalation of other operating and
financing costs. The Connecticut Gross Receipts Tax, Regional Greenhouse Gas
Initiative (RGGI) allowances, and interconnection costs were not included in the
sponsor's original financial projections. Other costs, primarily labor,
insurance premiums, and letter of credit fees have risen well above original
projections.

Fitch's revised estimate of Kleen's revenues is driven by a disagreement over
capacity pricing and an expansion of locational marginal price (LMP)
differentials under the tolling agreement. Connecticut Light & Power (CL&P;
Fitch IDR of 'BBB+' with a Stable Outlook) is disputing the forward capacity
market price, and it is uncertain whether the current dispute will be resolved
in Kleen's favor or similar disagreements will arise in the future. Kleen is
also receiving a lower than expected energy payment under the tolling agreement
due to an increase in the LMP differential between Kleen's nodal price and the
contractual Connecticut zonal price.

Fitch expects that increased operating expenses, which exceed original
projections by approximately $13.5 million, will remain a permanent part of
Kleen's cost structure. Kleen may also incur other unanticipated costs that were
excluded from previous projections or an escalation in newly identified variable
costs, such as RGGI compliance or taxes. Revenue reductions account for the $6.5
million balance of the $20 million cash flow shortfall. It is unclear whether
future changes to the forward capacity market or an expansion of the LMP
differential will exacerbate the loss of revenue.

Kleen's operating performance has thus far enabled the project to meet debt
service obligations, including target amortization payments, despite increased
costs and lower revenues. Kleen's operational metrics are consistent with
original projections. Capacity factors have averaged 70% to 75%, and
availability and heat rates have met or exceeded contractual thresholds. There
is no evidence that the process of restoring the facility has negatively
affected Kleen's performance, though additional operating history is required
before consistent results can be reliably established.

Kleen is a special-purpose company created to own and operate the project, which
consists of a 620-megawatt combined-cycle electric generating facility located
near Middletown, CT. Kleen sells capacity under a 15-year agreement with CL&P.
Constellation Energy Commodities Group, Inc. (CCG) purchases the facility's
energy output under a seven-year tolling agreement. Exelon Corp. (Fitch IDR of
'BBB+' with a Stable Outlook), CCG's parent, has partially guaranteed CCG's
contractual obligations.

Additional information is available at 'www.fitchratings.com'. The ratings above
were solicited by, or on behalf of, the issuer, and therefore, Fitch has been
compensated for the provision of the ratings.


Applicable Criteria and Related Research:
--'Rating Criteria for Infrastructure and Project Finance' (July 12, 2012);
--'Rating Criteria for Thermal Power Projects' (June 18, 2012).

Applicable Criteria and Related Research:
Rating Criteria for Infrastructure and Project Finance
Rating Criteria for Thermal Power Projects

 (New York Ratings Team)
 

Our Standards:The Thomson Reuters Trust Principles.
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