Adani Transmission:Potential fallen angel,but it shouldn't Potential fallen angel,but it shouldn't

Negative rating actions

    S&P changed the outlook to negative on Friday for its BBB- rating, following asimilar action by Moody’s in late December. Moody’s rationale was mainlydriven by the ongoing acquisition of Reliance Infrastructure’s assets. S&P isalso concerned about the small delay in a one-off payment of around INR9billion from CERC, which should however come over the next 2-3months.

    What’s next?

    We expect to get clarity on the funding plans for R-Infra’s acquisition postATL’s board meeting later this week. Total purchase consideration should beabout INR126.5billion (including INR5.5billion net working capital, butexcluding regulatory assets). Given its historic funding mix, we think thecompany could raise INR80-85billion in debt and the balance via equity orequity like instruments. The target assets generate EBITDA of INR16billion,implying approx. 5x leverage on the acquisition. Post this, and completion ofongoing growth capex, ATL should have consolidated debt of ~INR200billionand EBITDA of ~INR40billion, again leading to proforma leverage of 5x. To beclear, both organic and inorganic developments are currently happeningoutside the obligor group that has a debt of around INR80billion andgenerates EBITDA of about INR18billion for 4.5x leverage. Cash flows in theobligor group continue to be governed by the cash waterfall mechanism andmaintenance covenants.

    We acknowledge that our consolidated forecasted leverage of 5x is not low,but given the regulated nature of ATL’s power transmission business, it’s nothigh either. From a cash flow perspective, the INR40billion EBITDA shouldgenerate FFO of more than INR20billion assuming average interest cost of 8%on debt of INR200billion, as cash taxes currently are not much. This will leadto FFO/Debt being north of 10% versus Moody’s downward trigger of 7%.However, FFO/Interest could still be lower than 1.75x, another trigger that theagency has. As for S&P, risk of downgrade is perhaps relatively lower as it ismore focused on the obligor group. More importantly, we trust ATL’scommitment to maintaining IG ratings and believe the management will dowhat it takes to keep them. We have seen this before with another groupcompany, Adani Ports that also witnessed a negative outlook from bothagencies on the Baa3/BBB- rating and eventually managed to get it revisedback to stable. Plus, we believe Adani group could remain a frequent issuer inthe USD bond market, providing another reason to protect bondholder interest.

    The 2026s

    Bonds are quoted at T+170/160(G+173/163) as we write. The fair value shouldbe closer to G+180-190because of the negative outlooks. However, onaccount of our view that ATL should eventually stay IG, we maintain Hold. Ifoutlook is revised back to stable, they should trade at G+150-160. Adowngrade on the other hand could cause them to widen to ~250bp.