Light : Rating report - Fitch

RATING ACTION COMMENTARY

Fitch Downgrades Light's IDRs to 'C'

Fri 14 Apr, 2023 - 14:12 ET

Fitch Ratings - São Paulo - 14 Apr 2023: Fitch Ratings has downgraded the Local Currency and Foreign Currency Long-Term Issuer Default Ratings (IDRs) of Light S.A. (Light) and its wholly owned subsidiaries Light Servicos de Eletricidade S.A. (Light Sesa) and Light Energia S.A. (Light Energia) to 'C' from 'CC'. Fitch has also downgraded the Long-Term National Scale Ratings of these entities to 'C(bra)' from 'CC(bra)'. Fitch has downgraded the foreign currency and local currency debt instruments to 'C'/'RR4' from 'CC'/'RR4' and to 'C(bra)' from 'CC(bra)', respectively.

The downgrade to 'C' follows Light's announcement that it has obtained an "Injunction Relief" from Rio de Janeiro's court, establishing the suspension of enforceability of all obligations related to fnancial instruments and the effects of any declarations of early maturity and/or accelerated amortization. The injunction also approves the commencement of collective mediation proceedings. If Light formally announces a restructuring plan, Fitch will downgrade the ratings to 'RD' to refect a Restricted Default.

KEY RATING DRIVERS

Standstill Obtained: The "Injunction Relief" allows Light to not comply with any of its fnancial obligations for 30 days, beginning April 11. During this term, which is extendable for 30 days, the court will judge the company's claim for a longer standstill. The objective is to preserve cash and ensure the continuity of the business until company, creditors and shareholders reach an agreement related to a potential debt restructuring. Fitch considers this event as a standstill.

Probable Debt Restructuring: Fitch expects Light to launch a debt restructuring process in the coming months that would fall within Fitch's defnition of a default-like process. Light Sesa, Light's main subsidiary, has sizeable cash outfows of BRL 2.8 billion in 2023, comprised of BRL1.0 billion in debt amortization, approximately BRL800 million of capex, and BRL1.0 billion in deferred tax expenses. The company's cash position at its power distribution segment was BRL633 million at the end of 4Q22 and was reduced to BRL457 million on a pro forma basis, after the anticipated payment of the third and the ninth debenture issuances on March 29, 2023. This cash balance is not enough to support those disbursements.

High Refnancing Needs: Fitch believes it is highly unlikely that Light group has the ability to access fnancing to secure its funding needs in the short term. The agency estimates that the group will need up to BRL1.8 billion of fnancing in 2023 and at least BRL1.5 billion in 2024. In case of non-renewal of the Light Sesa concession, the company should receive an indemnity for unamortized assets equal to its asset base, currently valued at BRL10.1 billion. This compares unfavorably with on-balance-sheet consolidated debt of BRL11.1 billion (BRL8.7 billion of which is at Light Sesa's level). The group had a cash position of BRL2.1 billion in December 2022. The indemnifcation would partially support the recovery prospect of debt holders, if needed.

High Leverage: Light's consolidated adjusted leverage should remain high. The rating case estimates a consolidated net adjusted debt/EBITDA above 5.0x in 2023 and 2024, including guarantees provided to Norte Energia S.A. as off-balance sheet debt (BRL730 million in December 2022). As of December 2022, group's consolidated adjusted net leverage reached 5.6x, with 9.2x at Light Sesa's level. EBITDA to interest expense for the company is estimated to be 1.3x in 2023, which leaves small room for capex and debt amortization.

Recovery Analysis: Fitch applies a bespoke approach to recovery for issuers rated 'B+' and below, using the higher of going-concern and liquidation estimates to enterprise valuation. In the case of Light, Fitch estimates recovery rates to be 'RR1' for its secured debts and 'RR3' for unsecured debts, which could potentially lead to uplift on the bonds' rating from Light's FC IDR. However, Fitch's "Country-Specifc Treatment of Recovery Ratings Criteria" caps at 'RR4' the recovery for debt instruments in Brazil, resulting in an instrument rating equal to Light's FC IDR. These caps refect Fitch's concerns over the enforceability of creditor rights in certain jurisdictions, where average recoveries tend to be lower.

DERIVATION SUMMARY

The current IDRs incorporate that Light is currently in a standstill situation and will likely enter a debt restructuring with creditors.

RATING SENSITIVITIES

Factors that could, individually or collectively, lead to positive rating action/upgrade:

--A positive rating action is unlikely and depends upon the company's ability to raise capital and maintain credit lines.

Factors that could, individually or collectively, lead to negative rating action/downgrade:

--The formal announcement of a distressed debt exchange;

--Miss payment of any fnancial obligations after "Injunction Relief" period.

BEST/WORST CASE RATING SCENARIO

International scale credit ratings of Non-Financial Corporate issuers have a best-case rating upgrade scenario (defned as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst- case rating downgrade scenario (defned as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector- specifc best- and worst-case scenario credit ratings, visit https://www.ftchratings.com/site/re/10111579.

LIQUIDITY AND DEBT STRUCTURE

Heightened Refnancing Risk: Light's ability to secure funding in the short term is limited. During the 4Q22, Light's cash position reduced by BRL1.9 billion (or 48%), and the cash and equivalent position as of December 2022, BRL2.1 billion, should not cover the expected debt amortizations (BRL1.0 billion) and expected negative FCF through 2023. Adjusted consolidated debt was BRL11.8 billion and comprises debentures (BRL6.9 billion) and Eurobonds (BRL3.5 billion), with off-balance sheet debt of BRL730 million related to guarantees provided to Norte Energia S.A. There is no debt at the holding level.

ISSUER PROFILE

Light Sesa is the fourth largest power concession in Brazil, serving more than 70% of Rio de Janeiro's consumption and accounts for about 60% of the group's EBITDA. Light Energia has 511 MW of assured energy, from concessions expiring in 2028.

SUMMARY OF FINANCIAL ADJUSTMENTS

Fitch excluded revenues and costs related to construction from income statements.

REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING

The principal sources of information used in the analysis are described in the Applicable Criteria.

ESG CONSIDERATIONS

Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of '3'. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch's ESG Relevance Scores, visit www.ftchratings.com/esg.

RATING ACTIONS

VIEW ADDITIONAL RATING DETAILS

FITCH RATINGS ANALYSTS

Lucas Rios, CFA

Associate Director Primary Rating Analyst +55 11 4504 2205 lucas.rios@ftchratings.com Fitch Ratings Brasil Ltda.

Alameda Santos, nº 700 - 7º andar Edifício Trianon Corporate - Cerqueira César São Paulo, SP SP Cep 01.418-100

Wellington Senter

Director

Secondary Rating Analyst +55 21 4503 2606 wellington.senter@ftchratings.com

Mauro Storino

Senior Director Committee Chairperson +55 21 4503 2625 mauro.storino@ftchratings.com

MEDIA CONTACTS

Elizabeth Fogerty

New York

+1 212 908 0526 elizabeth.fogerty@theftchgroup.com

Additional information is available on www.ftchratings.com

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