Fitch Affirms Kleen Energy Systems; Assigns Stable Outlook

CHICAGO--(BUSINESS WIRE)-- Fitch Ratings has removed from Rating Watch Negative and affirmed the 'BBB-' ratings on Kleen Energy Systems, LLC's (Kleen) $435 million term loan A due 2018 and $295 million term loan B due 2024. The Rating Outlook is Stable. The rating action reflects the commencement of commercial operations at the Kleen facility prior to contractual termination dates.

Key Rating Drivers

--Fixed price agreements: Kleen's revenues are initially derived from fixed-price tolling and capacity agreements with investment-grade counterparties, effectively 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 operating performance consistent with projections. 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.

--Strong financial profile: Fitch-projected projected debt service coverage ratios (DSCRs) exceed 1.40 times (x) under various stress scenarios, including a combination of low availability, high gas prices, and technical underperformance. Absent unanticipated operational challenges, Fitch estimates that Kleen should achieve a 1.50x DSCR in the second half of 2011. The rating is not constrained by financial performance during the merchant period, primarily due to declining debt service.

--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

--Operating performance shortfall: Persistently low availability or an accelerated degradation in heat rates would reduce revenue and potentially subject the project to contractual penalties.

--Lower counterparty credit quality: The rating could be downgraded if counterparty credit quality deteriorates. Kleen relies upon contractual revenues, particularly during the tolling period.

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

Credit Update

The Stable Outlook reflects the commencement of commercial operations at the Kleen facility. Fitch no longer views completion risk, specifically the potential for early termination of the tolling agreement, as a credit concern. Fitch had initially assigned the Rating Watch Negative following the February 2010 explosion at the facility. Fitch had linked resolution of the Rating Watch to the completion of the facility prior to the tolling agreement's July 29, 2011 termination date.

The Kleen facility declared commercial operations on July 19, 2011 under the tolling agreement and is currently delivering energy to Connecticut Light and Power (CL&P; Fitch IDR of 'BBB' with a Positive Outlook). Kleen also satisfied the conditions to commercial operations under the capacity agreement. Initial performance testing of the facility has thus far fulfilled contractual requirements, though additional operating history is required before consistent performance can be reliably established.

Kleen has retained approximately $25 million of unspent contingency and liquidated damages, which should be adequate to reach final completion status. Kleen fully funded the scheduled payment of debt service on June 30, 2011 and intends to pay the next installment of debt service with a combination of retained contingency and cash from operations.

Fitch views the potential liability in outstanding litigation as consistent with the current rating, based upon the amount of insurance held by O&G Industries (O&G, the EPC contractor) and Kleen. The litigation against O&G and Kleen is connected with the injuries and fatalities that resulted from the February 2010 explosion.

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. Constellation Energy Group, Inc. (Fitch IDR of 'BBB-' with a Stable Outlook) has partially guaranteed CCG's contractual obligations.

Additional information is available at 'www.fitchratings.com'

Applicable Criteria and Related Research:

--'Rating Criteria for Infrastructure and Project Finance' (Aug. 16, 2010);

--'Rating Criteria for Thermal Power Projects' (June 20, 2011).

Applicable Criteria and Related Research:

Rating Criteria for Infrastructure and Project Finance

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=548345

Rating Criteria for Thermal Power Projects

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=639073

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Fitch Ratings
Primary AnalystChristopher Joassin, +1-312-368-3166
Director
Fitch, Inc.
70 West Madison Street
Chicago, IL 60602
or
Secondary AnalystNicole Farucci, +1-212-908-0684
Analyst
or
Committee ChairpersonGregory Remec, +1-312-606-2339
Senior Director
orCindy Stoller, +1-212-908-0526 (New York)
[email protected]

Source: Fitch Ratings