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TransAlta Penalized in Worst Performance: Canada Credit

TransAlta Corp. bonds are the worst performers versus their peers this quarter as Canada’s largest publicly traded electricity producer faces sinking power prices, higher maintenance costs and a possible bill for shutting down a coal-fired power plant.

The extra yield investors demand to hold Calgary-based TransAlta’s bonds increased 13 basis points during the quarter through April 30, the most of any Canadian utility in a Bank of America Merrill Lynch bond index. The yield difference is almost double the seven-basis-point increase for global utilities, including Germany’s RWE AG and American Electric Power Co., the largest coal-power generator in the U.S.

“This year is going to be a rough patch in terms of cash flow and uncertainty,” said Matthew Kolodzie, a credit analyst at Royal Bank of Canada’s RBC Dominion Securities unit in Toronto. “There’s a heavy maintenance program, which means less cash flow and more spending, the arbitration outcome, and they’re also having to renew contracts just as power prices have come down.”

TransAlta reported comparable first-quarter earnings per share of 20 cents on April 26, versus 34 cents a year earlier, a week after Moody’s Investors Service put the electricity producer on credit watch for possible downgrade. The company expects a ruling from arbitrators in July about a disagreement with TransCanada Corp., which has a contract to buy power from TransAlta’s Sundance coal-fired plant in Alberta and may result in C$500 million ($508 million) of additional costs.

Moody’s rates TransAlta Baa2, the second-lowest investment-grade level, and Standard & Poor’s has it at an equivalent BBB, with a negative outlook. TransAlta has C$4.57 billion in outstanding notes, according to data compiled by Bloomberg.

‘Could Be Compromised’

“Improving financial metrics could be compromised with a negative outcome to the Sundance arbitration,” said Moody’s credit analyst David Brandt on April 19.

Elsewhere in credit markets, the yield premium investors demand to hold bonds of investment-grade Canadian companies held steady yesterday from a day earlier at 153 basis points, or 1.53 percentage points, according to Bank of America Merrill Lynch data. Corporate bonds have returned 1.6 percent this year, compared with a 0.5 percent loss by federal government bonds.

Spreads on provincial bonds tightened to 72 basis points, from 73 basis points on April 30, while yields declined to 2.73 percent, from 2.74 percent, according to Bank of America Merrill Lynch data. The securities have lost 0.8 percent this year.

Quebec Issue

Quebec reopened its issue of 3.5 percent notes due December 2022, raising an additional C$500 million to bring the total size to C$4 billion. The securities were priced to yield 105 basis points more than federal benchmarks.

Benchmark government 10-year bonds rose, pushing yields down four basis points to 2 percent. The price of the 3.25 percent bonds due in June 2021 rose 36 cents to C$110.31.

Canada will sell C$2.6 billion of 10-year bonds today, the central bank said on its website. The 2.75 percent securities mature in June 2022.

“We’re committed to maintaining investment-grade credit ratings,” said TransAlta Chief Financial Officer Brett Gellner during an April 26 conference call with analysts. The company’s “focus” is on maintenance of the fleet of power plants, the Centralia coal-fired plant in Washington state and the Sundance arbitration, he said.

TransCanada has a power-purchase agreement to buy the Sundance plant’s electricity through 2017 and wants the facility to start generating power again, Chief Executive Officer Russell Girling told journalists following the company’s annual shareholders’ meeting in Calgary on April 27. Several unplanned shutdowns of the coal plant led TransAlta to determine the operation was not profitable.

Lower Prices

TransAlta is also facing lower power prices and difficulties in contracting power from its Centralia station, which must be shuttered by 2025. On-peak power prices in the Pacific Northwest, where TransAlta sells power from Centralia, have plunged by about 75 percent this year. That contributed to C$37 million less in funds from operations in the first quarter.

The company’s Baa2 rating from Moody’s compares with Baa1 for Alliant Energy Corp., a Madison, Wisconsin-based utility with a market value of about $5 billion.

DBRS rates TransAlta’s notes BBB with a stable outlook.

“DBRS is increasingly concerned about the continued challenging merchant power market environment that could materially add to the company’s existing challenges in the medium term,” analysts James Jung, Eric Eng and William Vaz-Jones said in an April 27 note.

Project Abandoned

TransAlta abandoned a project to trap and store emissions from an Alberta coal-fired power plant. The company said the potential revenue from selling carbon didn’t justify the cost of completing the project, according to a statement April 26.

The power producer also booked a C$22 million charge in the quarter to write down the value of its coal inventory. More than half of TransAlta’s power generation is from coal-fired facilities.

“Due to the headline risk associated with the negative outlook at both agencies, we would not be active buyers of the credit at this time,” Scott Greenstein and Dot Matthews, credit analysts at CreditSights Inc., said in a March 6 note.

The company’s shares fell 1.3 percent to C$16.36 at 10:28 a.m. in trading on the Toronto stock exchange, valuing TransAlta at about C$3.7 billion. The stock has declined 22 percent during the past 12 months, compared with a 12 percent decline for the S&P/Toronto Stock Exchange Composite Index.

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