FS Energy and Power Fund Downgraded To 'B+' On Expected Portfolio Stress; Ratings Placed On CreditWatch Negative

  • We expect FS Energy and Power Fund's (FSEP) portfolio to come under pressure as a result of the recent decline in oil prices and leveraged credit markets.
  • This will likely result in higher leverage versus our previous base-case expectations and reduced covenant cushion.
  • We are lowering our issuer credit rating on FSEP to 'B+' from 'BB-'. We are also lowering the rating on the company's senior secured notes to 'B+' from 'BB-'.
  • We are placing the ratings on CreditWatch negative, reflecting the potential that FSEP's portfolio could be under more pressure than our initial expectations, leading to elevated problem assets and decreased covenant cushions.
NEW YORK (S&P Global Ratings) March 24, 2020--S&P Global Ratings said today it lowered its long-term issuer credit rating on FS Energy and Power Fund (FSEP) to 'B+' from 'BB-'. We also lowered the issue rating on FSEP's senior secured notes to 'B+' from 'BB-'. We placed both ratings on CreditWatch with negative implications.
Oil prices and leveraged credit markets (especially energy-related securities) have declined significantly in the first months of the year. In our view, both variables will pressure FSEP's portfolio, although the exact extent is currently unclear. As of Sept. 30, 2019, 49% of FSEP's portfolio was in upstream investments, which we see as the most vulnerable (relative to midstream and power investments, which make up 45% of the portfolio) to oil price declines, although some of the underlying companies may be hedged to an extent. Furthermore, FSEP has substantial exposure to unsecured debt, preferred equity, and equity securities (collectively, 33% of the portfolio), which we believe could also be especially vulnerable to declines in value, given their more junior positioning.
Leverage, on a debt-to-adjusted total equity basis, was 0.4x as of Sept. 30, 2019 (debt to equity was 0.5x), which is low versus most peers. However, we expect both of these metrics to deteriorate as a result of declines in the portfolio in the first quarter. Furthermore, cushion relative to covenants is also likely to deteriorate in the first quarter. FSEP has several financial covenants under its credit facilities and senior secured notes, including:
  • Minimum shareholder equity of $1,849 million ($2,524 million as of Sept. 30, 2019)
  • Debt to equity of less than 1x (0.5x as of Sept. 30, 2019)
  • Asset coverage not less than 200% (287% as of Sept. 30, 2019)
The CreditWatch placement reflects the potential that FSEP's portfolio could be under more pressure than our initial expectations, leading to elevated problem assets and decreased covenant cushions.
We will resolve the CreditWatch placement once we have clarity on leverage and covenant cushion, as well as the extent of the deterioration in FSEP's portfolio.
We could lower the ratings if the decline in FSEP's portfolio has reduced covenant cushion to minimal levels.
Conversely, we could change the outlook to stable if, despite deterioration in the portfolio, we believe FSEP will maintain adequate, albeit reduced versus historical, covenant cushion.
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