By Lucas Aristizabal
& John Wiske
CHICAGO -- Fitch Ratings has downgraded Petroleos de Venezuela S.A.'s (PDVSA) Long-Term Foreign Currency Issuer Default Rating (IDR) to 'C' from 'CC' and affirmed the company's Local Currency IDR at 'CC' and National scale at 'CCC(ven)'. The rating action affects all of PDVSA's international senior unsecured and secured debt issuances, which have been downgraded to 'C'/'RR4' from 'CC'/'RR4'. A full list of rating actions follows at the end of this rating action commentary.
The rating downgrades reflect the recent announcement by both the company and the government that they intend to pursue a renegotiation of the company's sovereign external debt obligations. The downgrades also reflect the previously missed payments on international bonds that are currently within their 30-day grace periods as well as the recent downgrade of Venezuela's sovereign rating to 'C' from 'CC'. In Fitch's view, this makes a default event highly probable.
PDVSA's ratings reflect the company's weakening liquidity position as a result of transfers to the central government, material principal and interest payments due in 2017, which were not able to be refinanced and low hydrocarbon price environment. PDVSA's credit quality continues to reflect its close linkage to the government of Venezuela as a state-owned entity, combined with absolute government control over business strategies and internal resources. This underscores the close link between the company's credit profile and that of the sovereign. The large funds transfers to the central government have significantly affected PDVSA's cash flow generation.
PDVSA's international long-term ratings of 'C' are in line with Fitch's sovereign ratings for Venezuela of 'C'. Fitch expects that it will be challenging for the Venezuelan government to extend financial aid to PDVSA as both entities are simultaneously facing financial difficulties and have jointly announced their intention to restructure their foreign financial obligations. The company has recently been facing issues making debt payments on time after delaying two interest payments due on Oct. 12 2017, which heightened uncertainty as to PDVSA's liquidity. The Venezuelan government's external reserves amounted to USD10.1 billion as of November 2017, of which a significant portion was in gold. PDVSA's cash on hand as of Dec. 31, 2016 amounted to approximately USD8.3 billion.
Venezuela's external liquidity was weak before the announcement with a liquidity ratio estimated at just 33% (the stock of central bank international reserves plus the banking system's liquid foreign assets relative to external debt with a residual maturity of less than one year). Gross international reserves have declined further in 2017, falling by nearly USD1 billion in the year through November to USD10.1 billion. Venezuela has additional foreign exchange (FX) liquidity in government-managed funds, but these have likely declined and remain opaque in their administration and execution. The sovereign faces external coupon payments of USD619.6 million in the last two months of 2017 and USD3.3 billion in 2018, as well as external bond principal maturities of approximately USD2.1 billion in 2018.KEY RATING DRIVERS
Uncertain Liquidity Position: PDVSA's decision to use the grace periods for interest payments as well as the company's announcements regarding its liquidity position during last year's debt exchange highlight its uncertain liquidity position. During 2017, the company has made payments for more than USD9.0 billion of an estimated USD9.8 billion of interest and principal payments due during the year. Measured against these expenses, the company presents a very limited liquidity cushion with reported cash of approximately USD8.3 billion as of year-end 2016.
Limited Transparency: The Venezuelan government displays limited transparency in the administration and use of government-managed funds, as well as in fiscal operations, which poses challenges to accurately assessing its fiscal state and the full financial strength of the sovereign. PDVSA displays similar characteristics, which reinforces the linkage of its ratings to the sovereign.
Average Recovery: PDVSA's 'C' rating suggests a default or default-like process has begun. If a default or restructuring occurs, Fitch anticipates average recovery for PDVSA's bondholders of 31% to 50%, and likely closer to the lower end of the range. While Fitch's recovery analysis yields a high recovery, the willingness of Venezuela's government to extend concessions to investors will likely move actual recovery closer to the lower end of the 31% to 50% range. In addition, should oil prices remain depressed, an average recovery may lead to additional future defaults in order to further reduce obligations and allow for necessary transfers to the government. The senior secured notes also have an 'RR4' average Recovery Rating, as the collateral provided may only marginally enhance recovery given default, which could still range from 31% to 50%.
PDVSA's rating linkage to the Venezuelan sovereign rating is in line with the linkage present for most National Oil and Gas companies (NOCs) in the region, including Pemex ('BBB+' IDR), Ecopetrol ('BBB 'IDR), Petrobras ('BB' IDR), PetroPeru ('BBB+' IDR), Enap ('A' IDR). In most cases in the region, NOCs are of significant strategic importance for energy supply to the countries were they operate as is the case in Mexico, Colombia, Venezuela and Brazil. NOCs can also serve as a proxy for federal government funding as in Mexico and Venezuela and have strong legal ties to governments through their majority ownership, strong control and at times governmental budgetary approvals.
On a stand-alone (SA) basis, PDVSA's credit profile is somewhat more difficult to assert than other NOCs; however, Fitch believes it is commensurate with a below 'CCC' rating category. This is several notches below the SA of all other NOCs in the region and it reflects the company's low and uncertain liquidity position, delay in payment of interest and limited access to debt capital markets as a result of U.S. economic sanctions.
--Fitch expects Brent oil prices to average USD52.5/b in 2017, USD55/b in 2018 and USD60/b in 2019.
Future Developments That May, Individually or Collectively, Lead to Positive Rating Action
--A payment default or debt restructuring exercise by PDVSA.
Future Developments That May, Individually or Collectively, Lead to Negative Rating Action
--Public announcement of the intention to continue servicing sovereign debt obligations and the timely debt service in line with the original maturity schedule for upcoming debt obligations.
PDVSA's liquidity position is expected to continue to weaken as a result of low oil prices and near-term debt service payments and transfers to the central government. As of December 2016, PDVSA reported cash of USD8 billion, which compared unfavorably with interest and principle payments of approximately USD9.8 billion due in 2017 and approximately USD5.0 billion in 2018. As of this year, the company has made payments of approximately USD9.0 billion, although it delayed interest payments on more than one occasion to use the grace period provided under the indentures. The company's current liquidity position is uncertain given expenditures, transfers to government, and interest and principal debt payments that might have driven down liquidity from the last reported amount. Under Fitch's base case scenario, which assumes WTI oil prices of USD50/bbl in 2017, PDVSA's liquidity position will continue to deteriorate. Venezuela's gross international reserves continued to decline and as of end of October they amounted to approximately USD10.2 billion. FULL LIST OF RATING ACTIONS
Fitch has taken the following rating actions:
Petroleos de Venezuela, S.A.
--Long-Term Foreign Currency IDR downgraded to 'C' from 'CC'
--Long-Term Local Currency IDR affirmed at 'CC';
--National Scale long-term rating affirmed at 'CCC(ven)';
--Senior unsecured notes downgraded to 'C'/'RR4' from 'CC'/'RR4'
--Senior secured notes due 2020 downgraded to 'C'/'RR4' from 'CC'/'RR4'