OREANDA-NEWS. Fitch Ratings has assigned Russia-based electricity generator PJSC Enel Russia a Long-term foreign currency Issuer Default Rating (IDR) of 'BB+' with Stable Outlook. A full list of rating actions is at the end of this commentary.

Enel Russia's 'BB+' rating is supported by the company's strong credit metrics, steady generation of solid cash flows through capacity supply agreements (CSAs), ability to generate positive free cash flow (FCF) in contrast to other rated Russian utilities, and diversified operations across number of plants, geography, fuel mix and customer base. It has the highest diversity of fuel mix among Russian peers. At the same time, the rating incorporates Enel Russia's exposure to FX risk, volume and power price risk, volatility of fuel prices, weak Russian power market fundamentals, and high regulatory risk. We rate the company on a standalone basis.

KEY RATING DRIVERS
Diversified and Sizeable Operations
Enel Russia's business profile benefits from its sizeable market share of the Russian power market and diversity of operations by the number of plants, fuel mix, geography and customer base. With installed power capacity of 9.7GW and heat capacity of 2,382Gcal/h in 2014, the company is comparable with PJSC Mosenergo (BB+/Stable) but is smaller than PJSC Inter RAO (BBB-/Negative) or PJSC RusHydro (BB+/Negative). The company has a market share of 5.7% in the first pricing zone. Both power capacity and output are fairly balanced among the four plants operated by the company, limiting its exposure to potential operational disruptions at one of the plants. Enel Russia is the most diversified by fuel mix among Russian utilities, with its fuel mix almost equally split between gas and coal with a marginal contribution of fuel oil.

CSAs Key to Cash Flow Generation
Capacity sales under the CSAs are the key factor supporting Enel Russia's rating as they contribute to stability and predictability of its cash flow and, therefore, mitigate its exposure to volume and price risk. CSAs provide for a guarantee for capacity payment for 10 years (15-year period is being considered now) from the date of the plant commissioning and thus support healthy profitability and greater visibility of cash flow. Capacity sales under the CSA framework contributed about 20% to Enel Russia's EBITDA in 2014 and their share is likely to increase to almost half of EBITDA in 2015 due to pricing pressure on the Russian power market and, as a result, lower contribution to EBITDA from electricity sales and capacity sales in the competitive capacity market.

Overcapacity to Weigh on Power Prices
Enel Russia is exposed to competition from other Russian generating companies, especially its Konakovskaya power plant (16% of company's gross output in 1H15). This is located in proximity to several plants of the Russian nuclear company JSC Atomic Energy Power Corporation (Atomenergoprom) (BBB-/Negative), which is actively expanding capacity. We expect steady capacity increases, modest demand growth and moderate domestic gas prices growth to keep Russian power prices under pressure in 2015-2016.

Exposure to Fuel Price Volatility
The company mitigates its exposure to fuel price volatility through long-term contracts for gas supplies, multiple suppliers and diversity of fuel mix (coal and gas). Russian domestic gas prices are regulated and a moderate gas tariff increase is expected over 2015-2018. The company also benefits from cheap coal supplies from Kazakhstan. However, coal prices can be volatile, albeit well below gas prices, and expose the company to KZT/RUB exchange rate fluctuations.

Positive Free Cash Flow
Enel Russia's rating is supported by its strong financial profile and disciplined financial policy. The company is the only rated Russian utility that generated positive FCF over 2012-2014 and we expect it to remain positive over 2015-2019. This is due to strong cash flow generation supported by capacity payments under the CSA framework and relatively moderate capex spending as the company completed its investments in new CCGT units in 2011.

Enel Russia's leverage and coverage metrics are strong compared with Russian and international peers. We forecast its average funds from operations (FFO) net adjusted leverage over 2015-2019 to stay well below 1.5x (at 1.1x) and its FFO interest coverage to be well above 7x over 2015-2019. The credit metrics will be supported by steady cash flow generated from the CSAs, moderate gas prices growth, marginal recovery of the power prices, stabilisation of KZT/RUB exchange rate following the tenge's devaluation and cost containment.

High Regulatory Risk
The expected weak growth of the Russian economy in 2016 along with the government's social responsibilities will continue to exacerbate the regulatory and political risks that weigh on Enel Russia's and other Russian utilities' business and financial profiles. The unpredictability of the Russian regulatory framework in the power markets constrains Russian utilities' standalone profiles to sub-investment grade.

Rating on Standalone Basis
We rate Enel Russia on a standalone basis as we assess the legal, operational and strategic ties between the company and its ultimate majority shareholder Enel SpA (BBB+/Stable) to be moderate, in accordance with Fitch's Parent and Subsidiary Linkage methodology. While Enel SpA has strong operational control over Enel Russia and invested about EUR2.6bn in the acquisition of its stake in the company in the pursuit of its international expansion strategy, the legal ties are limited as there no guarantees or cross default provisions. Enel Russia has an independent debt and cash management policy. It raises debt and manages cash independently, although it tends to use the same banks as its majority parent. There is no centralised treasury with the parent. Enel SpA has not provided any financial support to Enel Russia due to the latter's strong credit metrics.

KEY ASSUMPTIONS
Fitch's key assumptions within our rating case for the issuer include:
- Net power output growth at CAGR of below 1% over 2014-2019
- Power prices decline in 2015, marginal growth in 2016 and growth in line with gas prices increase afterwards
- Gas tariffs indexation by 7.6% from July 2015, 2% from July 2016, and 3% from July 2017 and 2018
- Dividends at 40% of net income
- Capex of RUB41.3bn over 2015-2019

RATING SENSITIVITIES
Positive: Future developments that may, individually or collectively, lead to positive rating action include:
-A more transparent and predictable regulatory framework, coupled with the company's strong financial profile and disciplined financial policy.
-Reduction in FX exposure.

Negative: Future developments that may, individually or collectively, lead to negative rating action include:
- Shareholder-friendly actions resulting in material deterioration of the company's credit metrics.
- Generation of negative FCF on a sustained basis.
- Weaker than expected power prices, significant rise in coal prices and/or more ambitious capex programme resulting in deterioration of the financial profile (eg FFO net adjusted leverage above 2.5x and FFO fixed charge cover below 5x on a sustained basis).

LIQUIDITY AND DEBT STRUCTURE
Comfortable Liquidity
Enel Russia has a comfortable liquidity position as its cash of RUB6.5bn and available RCFs of RUB22.5bn were more than sufficient to cover short-term debt of RUB2.9bn at end-9M15. The RCFs include loan agreements with Sberbank (BBB-/Negative), Banca Intesa (BBB-/Negative) and Alfa-Bank (BB+/Negative). We expect the company to continue generating positive FCF over 2015-2019. Its debt repayment schedule is well balanced. The company has issued RUB5bn domestic bonds in 2015. As at 30 September 2015, 75% of cash was in RUB with the remaining portion in USD and EUR. Cash is held at UniCredit Bank, Sberbank and Nordea.

FX Risk
Enel Russia has the highest exposure to the FX risk among the rated Russian utilities as most of its debt (83% at end-9M15) is euro-denominated but it generates cash flows in roubles. The company's financial risk management policy provides for hedging of up to 100% of foreign currency debt. Enel Russia uses forward contracts up to one year and currency swaps for up to five years as hedging instruments. Hedging costs increased in 2015 and the duration of hedging contracts declined to up to one year due to high rouble volatility on the market. We expect some market stabilisation in 2016 but hedging costs are likely to remain high.

In addition, Enel Russia is exposed to tenge fluctuations through prices for coal which the company purchases in Kazakhstan. The significant rise in coal prices in 9M15 was driven by the time lag in tenge devaluation following the rouble depreciation. We expect the tenge to fluctuate in tandem with the rouble following its devaluation and the Kazakh government's decision to let float its currency freely.

FULL LIST OF RATING ACTIONS
Long-term foreign currency IDR assigned at 'BB+', Outlook Stable
Long-term local currency IDR assigned at 'BB+', Outlook Stable
Short-term foreign currency IDR assigned at 'B'
Short-term local currency IDR assigned at 'B'
National Long-term Rating assigned at 'AA(rus)', Outlook Stable
Foreign and local currency senior unsecured ratings assigned at 'BB+'