Centrais Eletricas Brasileiras S A : Rating Report - Fitch

RATING ACTION COMMENTARY

Fitch Affrms Eletrobras' Ratings at 'BB-'; Outlook Negative

Fri 27 May, 2022 - 16:31 ET

Fitch Ratings - New York - 27 May 2022: Fitch Ratings has affrmed Centrais Eletricas Brasileiras S.A.'s (Eletrobras) Long-Term Foreign and Local Currency Issuer Default Ratings (IDRs) and outstanding senior unsecured bond ratings at 'BB-'. The National Scale ratings of Eletrobras, its rated subsidiaries and their outstanding local debentures ratings were also affrmed at 'AA(bra)'. The Rating Outlook is Negative for the IDRs and Stable for the National Scale ratings.

Fitch has also revised its assessment of Eletrobras' stand-alone credit profle (SCP) to 'bb-' from 'b+', refecting the company's improving capital structure and strengthening operating cash generation. Per Fitch's Government Related Entity Criteria (GRE Criteria), Eletrobras' IDRs are equalized with Brazil's sovereign rating (BB-/Negative), as the strength of the linkage between both entities is strong and the government has a strong to very strong incentive to provide support to the company. The Negative Outlook for Eletrobras' IDRs refects the same Outlook for Brazil's sovereign rating.

KEY RATING DRIVERS

Strong Linkage to the Sovereign: Eletrobras' credit profle benefts from the strong linkage between the company and Brazil. The ratings incorporate likely support from the sovereign and is one of the pillars for ratings equalization. Brazil controls Eletrobras through its 52% stake in the issuer's voting shares and plays an important role on Eletrobras' operational, strategic and fnancing activities. The government also guarantees 13% of Eletrobras' debt, which further reinforces the linkage and support for the company. The Brazilian power sector also relies on Eletrobras' portfolio of generation plants and transmission lines given its size as the largest player in the sector. Eletrobras' size and importance of the sector add to the government's incentive to support the company given the strong socio- political implications in the event of distress.

Privatization Efforts Advance: There will be a reduction in the voting capital of the Federal Government and entities linked to the government from 72.33% to at least 45%, through the issuance of common shares (dilution), and the sale of shares in entities linked to the government. The sale, which will occur by a capital increase without the participation of the government, has already been approved by congress and could occur between late June and mid-August. Fitch does not incorporate the potential privatization of Eletrobras since it is an uncertain event. If Eletrobras becomes a private entity, Fitch will likely decouple Eletrobras' rating from the sovereign and analyze the company on a stand-alone basis. Privatization should allow the company to obtain higher sales prices associated with part of its generation assets and greater fexibility to manage its costs.

Improving SCP: Eletrobras' capital structure has improved and is expected to remain so. Eletrobras has been using the proceeds from internal cash fow generation and asset sales to lower its fnancial debt. As of YE 2021, total debt was reduced by BRL7.3 billion compared with YE 2019, or 9%, and 14.5% lower than in 2018. Stronger cash fow generation also resulted in more conservative credit metrics, although FCF is expected to turn negative due to aggressive capex plan over the next few years, somewhat limiting further improvements in the company's SCP.

Manageable Negative FCF: Eletrobras' Strategic Plan for 2022-2025 incorporates an aggressive investment plan of BRL30 billion in capex, which should pressure FCF over the next few years. Despite of strong expected cash fow from operations (CFFO) of around BRL8.6 billion-BRL9.1 billion over the next two years, the capex program should leave Eletrobras with negative FCF of around BRL1.8

--Privatization of the company and weaker linkage with the government.

Factors that could, individually or collectively, lead to negative rating action/downgrade:

--A downgrade of Brazil's sovereign rating;

--Weakened linkage with the Federal government of Brazil coupled with a weaker fnancial fexibility and higher leverage profle of greater than 6.0x.

BEST/WORST CASE RATING SCENARIO

International scale credit ratings of Non-Financial Corporate issuers have a best-case rating upgrade scenario (defned as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defned as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specifc best- and worst-case scenario credit ratings, visit https://www.ftchratings.com/site/re/10111579.

LIQUIDITY AND DEBT STRUCTURE

Sound Liquidity Profle: Eletrobras has a strong liquidity position. The company's robust consolidated cash and marketable securities of BRL15.4 billion were above its short-term debt of BRL9.4 billion at the end of the frst quarter of 2022. Eletrobras' total adjusted debt of BRL72.6 billion at YE 2021 was mainly concentrated in Brazilian state-owned entities. Brazilian owned Federal banks hold 29% of the consolidated on-balance-sheet debt, with Petrobras responsible for 12%, reinforcing the linkage with the government. Foreign currency debt representing around 17% of the group's debt. The Brazilian government provides guarantees in the amount of BRL5.9 billion, approximately 14% of total consolidated debt.

ISSUER PROFILE

Eletrobras is the largest electric energy group in Brazil. It operates in the energy generation and energy transmission segments. The group is responsible for 28% of the installed generation capacity and 40% of the transmission lines in the country.

SUMMARY OF FINANCIAL ADJUSTMENTS

Lease interest and depreciation deducted from operating income.

REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING

The principal sources of information used in the analysis are described in the Applicable Criteria.

PUBLIC RATINGS WITH CREDIT LINKAGE TO OTHER RATINGS

Eletrobras' ratings are linked to the Brazilian sovereign rating (BB-/Negative).

ESG CONSIDERATIONS

Centrais Eletricas Brasileiras S.A. (Eletrobras) has an ESG Relevance Score of '4' for Governance Structure due to its nature as a majority government-owned entity and the inherent governance risk that arises with a dominant state shareholder, which has a negative impact on the credit profle, and is relevant to the rating[s] in conjunction with other factors.

Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of '3'. This means ESG issues are credit- neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch's ESG Relevance Scores, visit www.ftchratings.com/esg.

RATING ACTIONS

VIEW ADDITIONAL RATING DETAILS

FITCH RATINGS ANALYSTS

Lincoln Webber, CFA, CAIA

Director

Primary Rating Analyst +1 646 582 3523 lincoln.webber@ftchratings.com Fitch Ratings, Inc.

Hearst Tower 300 W. 57th Street New York, NY 10019

Wellington Senter

Director

Secondary Rating Analyst +55 21 4503 2606 wellington.senter@ftchratings.com

Saverio Minervini

Senior Director Committee Chairperson +1 212 908 0364 saverio.minervini@ftchratings.com

MEDIA CONTACTS

Elizabeth Fogerty

New York

+1 212 908 0526 elizabeth.fogerty@theftchgroup.com

Additional information is available on www.ftchratings.com

PARTICIPATION STATUS

The rated entity (and/or its agents) or, in the case of structured fnance, one or more of the transaction parties participated in the rating process except that the following issuer(s), if any, did not participate in the rating process, or provide additional information, beyond the issuer's available public disclosure.

APPLICABLE CRITERIA

Government-Related Entities Rating Criteria (pub. 30 Sep 2020)

Corporate Hybrids Treatment and Notching Criteria (pub. 12 Nov 2020)

National Scale Rating Criteria (pub. 22 Dec 2020)

Corporate Rating Criteria (pub. 15 Oct 2021) (including rating assumption sensitivity)

Parent and Subsidiary Linkage Rating Criteria (pub. 01 Dec 2021)

APPLICABLE MODELS

Numbers in parentheses accompanying applicable model(s) contain hyperlinks to criteria providing description of model(s).

Corporate Monitoring & Forecasting Model (COMFORT Model), v8.0.2 (1)

ADDITIONAL DISCLOSURES

Dodd-Frank Rating Information Disclosure Form

Solicitation Status

Endorsement Policy

ENDORSEMENT STATUS

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