TEXT-S&P release on Colowyo Coal Funding Corp

(The following statement was released by the rating agency)

April 29 - Standard & Poor's Ratings Services said today it affirmed its 'BB' rating on Colowyo Coal Funding Corp.'s $192.8 million bonds due 2011 and 2016. The outlook is negative.

"The rating reflects the transaction's structural weakness caused by a broadly defined force majeure clause," said Standard & Poor's credit analyst Matthew Hobby.

During the first and second halves of 2007, the project recorded debt service coverage ratios (DSCR) of 0.97x and 0.96x, respectively, requiring about $780,000 of draws on its debt service reserve letter of credit (LOC). At Dec. 31, 2007, about $20.8 million of the LOC remained, down from $21.7 million at Dec. 31, 2006. A cash-funded debt service reserve has been exhausted. A DSCR of slightly less than 1x is expected from time to time, requiring moderate draws on the LOC.

The Colowyo transaction securitizes the coal production payments generated from two long-term coal sales contracts between the Colowyo coal mine in Colorado and the Craig Station power generating facility about 27 miles away by rail. The Craig Station contracts expire in 2017, after the debt matures. A third contract with the city of Colorado Springs expired at the end of 2004. Colowyo is a special-purpose entity formed to securitize the coal production payments generated from these contracts. Cash flow available for debt service is calculated as gross price per ton of coal delivered (about $29 in 2007) minus transfer payments to Colowyo per ton of coal delivered (about $20 in 2007). Twice a year, the contract pricing is adjusted according to inflation indices. Once every five years, the contract pricing is adjusted to the market price, but the maximum adjustment each time is limited to 15% of the base price.

W.R. Grace & Co. (not rated) has committed to pay all unpaid principal and interest in excess of the long-term coal contract revenues and the debt service reserve (now exhausted), up to a maximum of $25 million. The LOC guarantees this commitment. Kennecott Colorado has committed to pay all operating and capital costs of Colowyo Coal Co. L.P. Rio Tinto America (BBB+/Watch Pos/A-2) has an ownership interest in Kennecott Colorado.

If the Colowyo transaction had been more tightly structured, the rating would have reflected the lowest of those on the counterparties involved, using Standard & Poor's "weak-link" approach. However, because the project has some significant structural weaknesses, its rating is considerably lower than those on the counterparties. The project's primary structural weakness is a broadly defined force majeure clause contained in the coal sales contracts that allows purchasers to take less coal during force majeure events. This weakness is problematic for the project when the market price is substantially below the contract price and coal purchasers have an incentive to take advantage of this clause. In the late 1990s, when coal prices were depressed, Colowyo's coal purchasers made a series of force majeure claims that drove the DSCR from operations below 1x. The project avoided a payment default by tapping its debt service reserve, which is now depleted. Colowyo, through a legal challenge, was able to invalidate many of the coal purchasers' force majeure claims, and, as part of a 2000 settlement process, the purchasers agreed to a tighter definition of a force majeure event. The coal purchasers have not made any significant force majeure claims since that time, and the DSCR has remained close to 1x. Nonetheless, the project remains vulnerable because a forced outage at the purchasers' power plant is still regarded as a force majeure event. As forced outages are not unusual, Colowyo could experience further cash flow shortfalls that it would have to supplement with the debt service reserve LOC.

The negative outlook reflects our concern that the debt service reserve will continue to decline whenever the DSCR falls below 1x. When the DSCR rises above 1x, which could happen if market prices for Colowyo coal continue to rise for an extended period of time, then Colowyo must use any surplus cash flow to repay Rio Tinto, the parent, for price support it has provided in the past to maintain the DSCR at 1x.

Complete ratings information is available to subscribers of RatingsDirect, the real-time Web-based source for Standard & Poor's credit ratings, research, and risk analysis, at www.ratingsdirect.com. All ratings affected by this rating action can be found on Standard & Poor's public Web site at www.standardandpoors.com; select your preferred country or region, then Ratings in the left navigation bar, followed by Credit Ratings Search. (New York Ratings Team)