We reiterate our Hold recommendation on Stoneway Capital Corporation's (STNEWY) bonds in light of an accusation that the company has gone into default, which it denies.
Yesterday, BNY Mellon Corporate Trust issued a "Notice of Alleged Event of Default" affecting Stoneway Capital Corporation's (STNEWY) US$558.912mn (outstanding from an original issue amount of US$665mn) 10% senior secured first-lien bonds due 2027 (Caa2/NR/CCC).
The alleged event of default related to missed payments to Siemens under an engineering procurement and construction (EPC) contract, specifically related to one of the complex's turbines.
After contacting company representatives, they made us aware of a notice they sent to bondholders dismissing this information from BNY Mellon, which states:
"To the Stoneway Capital Corporation ("SCC") bondholders:
1.- As of today (yesterday), the construction of the San Pedro Combined Cycle continues to advance without interruption and we expect to achieve first fire in two days and COD within the next two weeks.
Please refer to the Update Reports in our web page for further details.
2.- Following to the notice that you might have received from the Trustee, we want to clarify that no event of default has occurred. The notice that you received was due to a mistake made by The Bank of New York Mellon which used outdated and incomplete Siemens' notices that resulted in the misleading notice that you received.
Again, no event of default has occurred, we expect to achieve first fire in two days and COD within the next two weeks and all of the four initial projects are fully operational.
We apologize for any inconvenience.
Please reach out to us if you have any further inquiry regarding this or any other subject.
Kind regards,
IR Team
Stoneway Capital"
In addition, the company assured us that there are no outstanding amounts owed to anybody, that the bonds in fact do have a first lien on all of the company's assets, including the turbines, that Siemens does not have any claim on the turbines or any of the equipment, and that the company will not default.
However, even if the above is true, we are concerned that, at some point, Siemens might have had a dispute over missed payments and, even if these have been resolved, there is a question over whether a similar circumstance could occur again. We believe that if the business model is respected (that is, if the independent power producers (IPPs) are not affected by posssible "de-dollarisation" of tariffs and/or if the power purchase agreements (PPAs) are maintained as originally signed or, at worst, extended in time, maintaining their dollar-linkage), Stoneway should be able to continue to meet all of its obligations in full and on time.
We have stated before that allowing the PPAs to be undermined would create a very negative precedent for future private investment in the country (and that Argentina will need private investment to develop one of its two main engines for economic growth in the coming years: 1) the Vaca Muerta natural gas basin and 2) the agricultural sector).
We therefore still believe these contracts will be respected (perhaps some modification of their tenors or, if "peso-fied", with a link to inflation, which would mostly maintain the level of necessary cash flows to remain current on the IPPs' debts). Thus, at current prices, we see Stoneway bonds as fairly priced and reiterate our Hold recommendation.
Additional context
What triggered this apparent misunderstanding was the Trustee's Notice of Alleged Default which, according to documents partially transcribed below, amounted to cUS$21.941mn and ARS67.321mn.
We believed the project was solvent, with more than US$20mn in cash estimated at end-Q2 and, what we believe, is a fully funded six-months of interest payments' reserve account. When we received the Notice, our first reaction was to believe that the amounts owed to Siemens should be manageable for Stoneway via either its own funds or, under a worst-case scenario, via expensive (but perhaps inevitable) local funding.
Given the difficult economic and political situation in Argentina, it was important to hear Stoneway's response. However, part of that response ("The Bank of New York Mellon which used outdated and incomplete Siemens' notices") concerns us, because we interpret this as the company appearing to acknowledge that there have been delays in payments to Siemens in the past.
Again, if this has been the case in the past, we believe it is prudent to say that the same thing could happen in the future with bondholders, particularly in a worst-case scenario where potential future Argentina president Alberto Fernandez would "de-dollarise" tariffs, possibly affecting IPPs, and/or modify the PPAs that these generators have with the government entity CAMMESA.
We share with you the most relevant features of the documents received by the Trustee.
The notice, issued as per the documents we have seen, by The Bank of New York Mellon as Trustee, states an alleged default by the Issuer (Stoneway) under "Material Project Agreement" and reads partially as follows:
"On October 16, 2019, the Trustee received two notices from Siemens Energy, Inc. ("Siemens"). The first notice alleges that there have been payment defaults constituting a material default/breach by the Issuer and Araucaria Generation, S.A. (a Guarantor under the Indenture) ("Araucaria"), under the Turnkey Construction Contract, Bottomcycle Gas Turbine, San Pedro Argentina (the "EPC") among, inter alias, the Issuer, Araucaria, Siemens, and Siemens, S.A. and states the intent of the contractors to suspend and/or terminate the EPC if the default/breach is not cured within the applicable time frame for curing defaults/breaches.
According to the notice, if the alleged payment defaults are not cured by October 29, 2019, the contractors will suspend their performance under the EPC. Pursuant to the Consent and Assignment (as amended or supplemented, the "Consent"), dated as of November 15, 2017, among, inter alias, the Isssuer, Araucaria, Siemens, Siemens, S.A. and The bank of New York Mellon, as US Collateral Agent, the US Collateral Agent has the right to cure defaults under the EPC in accordance with the time periods for cure set forth therein. the US Collateral Agent does not intend to advance funds to cure the alleged defaults. Should Holders wish to furnish funds to cure the alleged defaults, such funds must be furnished in advance to the US Collateral Agent with sufficient time to enable the US Collateral Agent to effect the cure by October 29, 2019.
The second notice from Siemens alleges that there has been a payment default under the EPC relating to an SGT-800 gas Turbine and declares the contractors' exercise of right to revert title and control of the SGT-800 back to Siemens."
The notice also states:
"Event of Default
Section 6.1 (a)(v)(i) of the Indenture states that it is an Event of Default if the Issuer or any Guarantor fails to observe or perform any obligation to be performed or observed by the Issuer or such Guarantor under the EPC and such failure continues unremedied for the period of grace applicable thereto. In the first notice, Siemens alleges that the grace period under the EPC for remedying the alleged failure has passed. In addition, Section 6.1 (a)(v)(i) of the Indenture states it is an Event of Default if any event of default or similar occurrence occurs under the EPC. Siemens alleges that an event of default has occurred under the EPC.
Section 6.2 of the Indenture provides that if an Event of Default under Section 6.1 (a)(v) occurs and is continuing, the Trustee or the Holders of 25.0% in principal amount of outstanding Notes may declare the unpaid principal of (and premium, if any) and accrued and unpaid interest on all the Notes to be immediately due and payable by notice in writing to the Issuer (and the Trustee if given by the Holders) specifying the Event of Default and that it is a "notice of acceleration".
Right of Majority to Direct
Section 6.5 of the Indenture state that holders of more than 50.0% of the aggregate outstanding principal amount of Notes have the right to direct the time, method and place of conducting any proceeding for exercising any remedy available to the Trustee or exercising any trust or power conferred on the Trustee..."
Further, according to Siemens Energy Inc's notice to the US Collateral Agent, in its capacity as Project manager under the EPC contract and representative of the Consenting party under the Consent and Agreement, states that as of the date of the notice, the outstanding payments due under the EPC contract are: US$21,062,394 and ARS48,968,358 (overdues), plus US$879,21 and ARS18,352,647 (accrued interests), for a total of US$21,941,607 and ARS67,321,004.
Siemens' Notice also states that:
"If Owner fails to fully cure the breach by paying the amounts set forth above within ten (10) days of this Notice, Contractor, subject to any cure rights of the US Collateral Agent and Trustee, will suspend its performance under the EPC Contract without further due or notice, commencing on the day forty after Owner's receipt of this Notice. Further, if Owner fails to fully cure its default and breach within thirty (30) days of this Notice, Contractor, subject to any cure rights of the US Collateral Agent and Trustee, shall terminate the EPC Contract."