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Caribbean Information & Credit Rating Services Limited

Saint Lucia Electricity Services Limited USD 15 million Debt Issue (Notional)

CariBBB (Regional Scale Foreign currency) CariBBB (Regional Scale Local currency)

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RATIONALE SUMMARY*

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Caribbean Information and Credit Rating Services Limited (CariCRIS) has assigned ratings of CariBBB (Foreign Currency Rating) and CariBBB (Local Currency Rating) in its Caribbean regional rating scale to the notional Debt Issue of the size of USD 15 million of Saint Lucia Electricity Services Limited (LUCELEC). These ratings indicate that the level of creditworthiness of this obligation, adjudged in relation to other obligations in the

Analytical Contacts:

S. Venkat Raman Tel: +1-868-627 8879

il: vraman@caricris.com

Arjoon Harripaul

Tel: +1-868-627 8879 aharripaul@caricris.com

us on the web at www.caricris.com

RIS has a practice of keeping all its ratings under continuous surveillance and ratings are revised as and when stances so warrant. For the latest rating information on any instrument of any company rated by CariCRIS, please t CariCRIS at +1 868 627 8879

mer: CariCRIS has taken due d caution in compilation of this product. Information has btained by CariCRIS from which it considers reliable. er, CariCRIS does not ee the accuracy, adequacy or teness of any information and responsible for any errors or ns or for the results obtained e use of such information. No this report may be published / ced in any form without IS’ prior written approval. IS is also not responsible for rrors in transmission and lly states that it has no l liability whatsoever to the ers/ users/ transmitters/

tors of this product.

Caribbean1 is adequate. The rating for Saint Lucia Electricity Services Limited (LUCELEC) reflects the company’s healthy financial profile, dominant market position in the country and favorable operating efficiency. These rating strengths are partially offset by the cyclical nature of the demand for LUCELEC’s services, its indirect exposure to fuel prices and the potential concentration risk that result from its single location generation plant. On the regional scale, LUCELEC’s ratings are significantly influenced by Saint Lucia’s relative credit standing within the Caribbean. Going forward LUCELEC’s credit profile will be dependent upon its ability to undertake debt funded capital expenditure without impairing performance indicators, or any changes to the governing legislation that would adversely impact the company’s operations.

1 The term Caribbean as used here covers the following countries: Bahamas, Barbados, Belize, Costa Rica, Dominican Republic, Guyana, Haiti, Jamaica, Panama, Suriname, Trinidad and Tobago and the following countries in the OECS: Anguilla, Antigua & Barbuda, Dominica, Grenada, Montserrat, St. Kitts & Nevis, Saint Lucia and St. Vincent & the Grenadines.

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LUCELEC is the sole commercial supplier of electrical energy in Saint Lucia. It has an exclusive license to generate, transmit, distribute, and sell electricity in Saint Lucia. The company has maintained a track record of profitability during the last 15 years. It has a healthy financial profile marked by strong operating profit margins and favorable debt protection measures. LUCELEC’s low cost structure has enabled it to generate healthy earnings before interest, taxes, depreciation and amortization (EBITDA) margins of 37% (56% excluding fuel surcharges) over the last four years. The strong operating profits and declining interest costs as a percentage of sales have led to healthy net profit margins of around 23% (excluding fuel surcharges) in 20052 increasing from 19% (excluding fuel surcharge) in 2001. Higher profits and reducing debt levels have also helped improve the utility’s debt protection measures. Interest cover (EBITDA/finance charges) has improved to 11 times in 2005 from 6 times in 2001; this is due to a combination of lower interest due to repayment of high-cost debt, renegotiation of interest rates, and higher profits. Moreover, although the ratio of net cash accruals to total debt is favorable at 0.35 times as on December 31, 2005, it is curtailed due to a high dividend payout. For the nine month period ended September 2006, LUCELEC reported a 14.9% increase in revenue to EC $172.9 million from EC $150.4 million in the corresponding period of 2005. Profits however, impacted by increased expenses relating to transmission and distribution, plant maintenance, insurance, distribution and finance costs, were down 28% to EC $17.5 million from EC $24.6 million. Interest coverage remained favorable, albeit lower at 5.44 times, from 7.43 times in the earlier period. Total assets remained relatively stable at EC $341.5 million as at September 2006, while networth grew by 10% to EC $156.7 million as at September 2006. LUCELEC’s exclusive license to supply electricity allows the company to be the sole provider till 2045. The company has a wide coverage: it supplies power to nearly all the commercial, industrial and domestic establishments in Saint Lucia. Owing to the rising tariff to the customer, there have been pressures to deregulate the industry and end LUCELEC’s monopoly. In CariCRIS’ opinion, competition appears unlikely in the sector over the medium term, given the lack of economies of scale. If at all competition does emerge, it will be limited to generation. This is because setting up the entire transmission and distribution network will entail high costs, which will then need to be passed on to the customer, defeating the very purpose of deregulation. Over the years, LUCELEC has continuously improved its operating efficiencies. The company has continuously invested in its transmission and distribution network to reduce losses. On the generation front, LUCELEC’s equipment supplier Wartsila has nominated its Wartsila diesel power plant as the consistently best-maintained plant worldwide (between

2 refers to financial year, January 1 to December 31.

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1998 and 2002). LUCELEC outperforms the equipment manufacturer’s specifications on fuel efficiency due to timely servicing and constant maintenance of generation equipment. The company derives substantial benefits from the location of the power plant near its key oil supplier’s terminal, leading to low transportation costs. On the customer side, it is in the vicinity of key tourist areas. Demand is largely influenced by tourism in the Saint Lucian economy which is cyclical, however mitigated to some extent due to diversity in tourist profile. Thus, the company’s demand is exposed to factors such as the conditions in the source markets, and natural disasters. The company is not directly affected by increases in fuel prices as it is protected by the Electricity Act which allows the company to pass on the excess fuel prices to the consumers. However, the increase in electricity tariff due to any increase in fuel prices amounts to as much as 10% of a small hotel’s cost. This leads to lower off-take from these commercial establishments as they initiate efforts to conserve energy. As nearly 57% of LUCELEC’s sales are to the commercial segment, it is indirectly exposed to the risks arising from fuel price increases. The company generates power at a single plant at Cul de Sac, Castries. LUCELEC is thus exposed to operational risk as it does not have a disaster recovery mechanism, which is particularly important in a region prone to hurricanes. The company has an insurance policy jointly with two other electricity companies in the Caribbean region - Dominica Electricity Services Ltd (DOMLEC) and Saint Vincent Electricity Services Limited (VINLEC). The policy provides cover for all risks to property and engineering facilities up to a combined loss limit of EC $150 million with respect to damages in a single occurrence; LUCELEC’s declared value is EC $320 million. This results in underinsurance which is a significant risk in a hurricane-prone region. Going forward, the company is seeking to increase its installed generating capacity to 76 MW by adding a ninth generator to its power station. Furthermore, LUCELEC has started to experiment with wind power generation systems with a view to developing a commercially feasible model. The challenge for LUCELEC therefore, is to ensure that the capital expenditure incurred for these projects does not unduly impact the company’s balance sheet. DETAILED RATIONALE Dominant market position in the country The company has a 65 mega watt (MW) power plant to meet the country’s average demand for power of around 45 MW. Through its power station at Cul de Sac, LUCELEC transmits power to seven substations located around the country via a 66 kilo volt (KV) transmission line. The voltage is then transformed to 11 KV at the sub-stations and distributed to its customers over 997 miles of primary and secondary distribution lines. Under the Electricity Supply Act of 1994, as amended, LUCELEC has an exclusive license to be the sole commercial supplier of electrical energy in Saint Lucia. The license allows the

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company to be the sole provider until 2045. The company is an integrated player present in all three streams: generation, transmission and distribution. The company is therefore of strategic importance to the government and the nation. Furthermore, as an essential service, there is negligible substitution. However, there is a provision to allow for captive generation by other corporations using the fumaroles at Soufriere and sale of excess power to LUCELEC. The company has, over the years, expanded its capacity on the generation side to keep pace with demand. It has a wide coverage, and supplies power to 99% of the establishments (see Chart 1). Power is supplied to a diverse mix of customers: commercial, industrial and domestic. The customer base has grown steadily; CariCRIS expects the healthy growth to continue over the medium term.

Chart 1: LUCELEC’s customer mix

Customer mix in terms of usage

36%

56%

5%3%

Domestic Commercial Industrial Street Lighting

However, owing to the rising tariff to the customer, there have been pressures to deregulate the industry and end LUCELEC’s monopoly. In the team’s opinion, competition appears unlikely in the sector over the medium term, given the small economies of scale. If competition does emerge, it will be limited to generation. This is because setting up the entire transmission and distribution network will entail higher costs, which will then need to be passed on to the customer, thus defeating the very purpose of deregulation. In order to reduce its vulnerability to the volatile fuel prices, LUCELEC has been exploring various alternative non-renewable energy sources as a means to reduce tariff; it has already begun setting up a wind power project. Favorable financial profile characterized by strong operating profit margins and favorable debt protection measures The company has maintained a strong track record of profitability during the last 15 years. LUCELEC’s low cost structure has enabled it to generate healthy earnings before interest, taxes, depreciation and amortization (EBITDA) margins of 37% (56% excluding fuel surcharges) over the last four years. The strong operating profits and declining interest costs as a percentage of sales have led to healthy net profit margins of around 23% (excluding fuel

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surcharges) in 20053 increasing from 19% (excluding fuel surcharges) in 2001. Over the last three years, the company’s profit after tax (PAT) has grown at a remarkable compounded annual growth rate (CAGR) of 19%. However, for the nine month period ended September 2006, the company’s profit after tax stood at EC $17.5 million, down 28% from the year earlier period despite a 14% increase in revenues to EC $172.9 million. Profits in 2006 were impacted by increased expenses relating to transmission and distribution, plant maintenance, insurance, depreciation and finance costs. Despite high capital intensity and large capital base, LUCELEC’s return on capital employed (RoCE) is comfortable at around 17% in relation to the Prime lending rate of 9.5% in Saint Lucia. The company has a healthy net worth base of EC $156.7 million as at September 2006, up from EC $142.9 million in September 2005. LUCELEC’s sound financial discipline is reflected in the decreasing gearing levels: leverage reduced from 1.07 times as at December 2001 to 0.74 times as at December 2005. Higher profits and decreasing debt levels have driven this improvement in gearing. During the last four years the company has executed a capacity expansion of EC $100 million, which is 20% of the current gross block, without adding to the debt stock. This is because the company has repaid debt at a faster pace than it has added debt; there has therefore been no addition to its debt levels. The improvement in gearing has however been curtailed by a high dividend payout, which has averaged 70% during the last four years. In 2005 higher profits and reducing debt levels led to further improvements in the favorable debt protection measures. The interest cover (EBITDA/finance charges) improved from 6 times in 2001 to a robust 11 times in 2005; this was owing to factors such as lower interest resulting from a repayment of high cost debt, renegotiation of interest rates and higher profits. For the nine month period ended September 2006, interest coverage remained healthy at 5.44 times, although it was lower than the 7.43 times reported for the same period in 2005. The net cash accruals to total debt (NCA/TD), which are favorable at 0.35 times as at December 2005, are however curtailed by a high dividend payout. The company’s operating cash flows are healthy, and sufficient to cover 50% of the total outstanding debt (average of the last five years). However, the continuous repayment of long-term debt resulted in a moderate debt service coverage ratio of 2.4 times in 2005. The company’s liquidity position is adequate as reflected in its moderate current ratio of 1.14 times in 2005. The improvement in liquidity is, however, curtailed by a higher provision for dividend payout and income tax. The company has substantial funds tied up in working capital; its receivables from the government and government utilities are high (accounting for 41% of total receivables). CariCRIS expects LUCELEC’s EBITDA margins to remain high at 30%, despite a slight reduction in tariff rates in the wake of a redistribution of excess tariff. The net margins will mirror the trend in operating margins: they will however, decline to 11% owing to a higher

3 refers to financial year, January 1 to December 31.

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depreciation charge and interest costs following the commissioning of the ninth generating unit. The company has earmarked a large capex of around EC $88 million towards increasing the generating capacity at Cul de Sac, and upgrading the two power substations at Vieux Fort and Castries. In spite of the large capex plans, LUCELEC’s gearing is expected to improve to 0.61 times in 2008; this is because the bulk of the capex is to be completed without a net addition to debt. Interest cover and NCATD are expected to be healthy going forward. The current ratio is expected to improve with the built up cash balance. Favorable and improving operating efficiency LUCELEC’s operating efficiencies have steadily improved over the years. The company has regularly invested in upgrading the transmission and distribution network. On the generation front, LUCELEC’s equipment supplier, Wartsila has nominated its Wartsila diesel power plant as the consistently best maintained plant worldwide (between 1998-2002). As a result of timely servicing and thorough maintenance of generation equipment, LUCELEC’s fuel efficiency result is better than the equipment manufacturer’s specifications. The company’s generating units are relatively new: more than half of them are less than five years old. The operating parameters have steadily improved, as is evident in the reduction in forced outages in generation, (see chart 2) and system average interruption duration index (SAIDI).

Chart 2: Forced outages in LUCELEC’s power generation

Generation Forced Outages

020406080

100120140160

1997 1998 1999 2000 2001 2002Years

No.

of O

utag

es

Generation Forced outages

This has led to reductions in generation costs over the years (see Chart 3).

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Chart 3: LUCELEC’s generation costs, per KWH

Generation Cost Per kWh

0

0.02

0.04

0.06

0.08

0.1

1996 1997 1998 1999 2000 2001 2002 2003 2004 2005

Years

Cos

t Per

kW

h (E

C$)

Generation Cost Per kWh (excluding fuel cost over base)

LUCELEC’s cost control initiatives have helped it keep its basic tariff almost unchanged during the last five years despite changes in the consumer price index (see Chart 4).

Chart 4: LUCELEC’s Average Basic Tariff

Average Basic Tariff (Excluding Fuel Surcharges)

37

38

39

40

41

42

43

44

45

46

47

1999 2000 2001 2002 2003 2004Years

Ave

rage

Bas

ic T

ariff

- EC

Cen

ts p

er

kWh

CPI Effect on Basic Tariff Actual Basic Traiff

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The company fares better than most of its peers on key operating parameters (Chart 5). The cost structure is sound with low breakeven levels of 33%. It currently operates at 60% capacity utilization. CariCRIS expects the breakeven levels to reduce further, with the commissioning of the wind power project.

Chart 5: Peer Comparison

Grenada Electricity

Services Ltd

Barbados Light & Power

St Lucia Electricity

Services Ltd

Jamaica Public

Services Ltd

Dominica Electricity Services

Ltd Total Capacity (MW) 39 209.5 56.8 785 20.5 Loss (% of Generation) 13.16 7 10.2 20 18.3

The company has a locational advantage: its power plant is located close to Hess Oil Limited’s (a key supplier of oil) terminal, leading to low transportation costs. The company also derives locational benefits on the customer side as its plant is located in the vicinity of key traffic. The company has planned expenditure to further reduce system losses. It proposes to upgrade capacity at two substations, thereby reducing technical losses resulting from a higher load. Over the next two years, the company will also replace all old meters with electronic meters. This will enable LUCELEC to read meters even in remote distances, thus reducing non-technical losses. The company has also set up an 11KV underground cable network that is less vulnerable to hurricanes, and will help reduce system losses. LUCELEC’s cordial relations with its employees ensure that there are no industrial disputes. Cyclical demand and indirect exposure to fuel prices For LUCELEC, demand is directly linked to the performance of the Saint Lucia economy. LUCELEC operates exclusively out of Saint Lucia whose ratings are constrained by the size of the economy, its small population and its low natural resource endowment. The economy is heavily dependent on tourism which remains the principal engine of economic growth in Saint Lucia accounting for over 40% of GDP and employment and is the major foreign exchange earning sector. As a small, open economy with limited resources and few medium-term growth prospects apart from the tourism sector, Saint Lucia is vulnerable to external shocks. Despite increased travel receipts from a buoyant tourism sector, the current account deficit is estimated to have widened to 17.9% of GDP in 2005 increasing external pressures and straining external liquidity. As such, the gross financing requirement is estimated to have increased to 135% of reserves in 2005. Credit concerns also arise from the fiscal situation in Saint Lucia which remains tenuous given the high and rising international petroleum prices and very narrow tax base. However, while high and increasing energy

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prices and natural disasters remain key risks, these concerns are tempered by the recent improvement in the overall economic performance, good growth prospects, improvements in the fiscal position, and containment in the already low debt levels. Meanwhile, the tourism sector has been resilient in the face of external challenges and is much more diversified than some of its Caribbean counterparts. Demand is therefore driven largely by factors beyond LUCELEC’s control: it is linked to factors such as the condition of the source markets, and exposure to natural disasters such as hurricanes. This is clearly demonstrated in the fact that LUCELEC had a negative growth of 1.7% in 2002 for the first time in two decades following the bombing of the World Trade Centre, New York, on September 11, 2001. Fifty six (56) percent of its total sales are to the commercial sector (including hotels) whose performance is directly linked to tourism activity in the country. In 2002 the commercial establishment recorded a negative growth of 2.2%. However this is mitigated to some extent due to diversity in tourist profile. Variability in growth rates is therefore a cause for concern for LUCELEC in planning capacity expansions. The company is not directly impacted by increases in fuel price. It is protected by the Electricity Act which allows the company to pass on increase fuel prices to consumers. It essentially acts as a pass through charge. However, electricity cost, following any increase in tariff, accounts for 10% of the costs for small hotels. This has led to most commercial establishments’ initiating efforts to conserve energy, thus keeping off-take low. In times of stable fuel prices, a 1% increase in gross domestic product (GDP) will lead to an almost 2.5% increase in demand for power. Owing to the high fuel prices in the recent past, however, the ratio of GDP to demand for power has been at 1:1.3. Since the increase in fuel prices are passed on to the consumer, the government introduced a tariff mechanism requiring the company to share 50% of the excess return above a stipulated maximum earned by it with the productive sectors, and consumers needing special protection. This has effectively reduced the company’s returns. The team therefore believes that in a scenario of increasing fuel prices, the government will continue to perform its social obligation, and take steps that can adversely impact the company. Hence LUCELEC has been evaluating various alternative non-renewable energy sources as a means to reduce its vulnerability to fuel prices. Single Location and underinsurance The company generates power at a single plant at Cul de Sac, Castries. In the absence of an adequate disaster recovery mechanism, the company’s single location plant increases its risk profile. This factor assumes criticality because this region is hurricane prone. A major accident that occurred on October 3, 2004, illustrates just how critical this risk is: it resulted in an island-wide power outage, and seven days of rotating power cuts. The company is seeking to mitigate this risk with a proposed capacity expansion at another location. As per estimates, this plant is expected to commence production by 2012. Till then, however, LUCELEC will remain exposed to the risk of major production outages occurring at its single location.

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The company holds a joint insurance policy with two other utility companies in the Caribbean region, DOMLEC and VINLEC. The policy provides cover to all risks to property and engineering facilities up to a combined loss limit of EC $150 million for a single occurrence of property damage. The company’s declared value is EC $320 million. Therefore, CariCRIS believes that LUCELEC is significantly underinsured, a risk that assumes criticality in this hurricane-prone region. Another related risk is that if one of the two utilities claims insurance, LUCELEC will be not have any insurance cover for the rest of the year. The company has adopted a policy of self-insurance for all its transmission and distribution related assets owing to the non-availability of adequate cover and the prohibitive costs of seeking it: this increases the risks retained within the company. BUSINESS DESCRIPTION Saint Lucia Electricity Services Ltd (LUCELEC) is the sole commercial supplier of electrical energy in Saint Lucia which it does through an exclusive license to generate, transmit, distribute and sell electricity. The Company presently operates one power station and seven sub-stations. The power station houses eight (8) generating units with a total installed capacity of 65.8 MW. Work has commenced on the installation of a ninth generator which is expected to provide an additional 10.2 MW to the plant’s existing capacity, and completion of this project is scheduled for the final quarter of 2007. Approximately 45% of LUCELEC’s shares are held by the Government of Saint Lucia and other entities in Saint Lucia, while the balance is held by regional investors, international investors and the public. On January 16th 2007, Emera Inc, a Canadian energy service company, acquired a 19% equity interest in LUCELEC from a former investor, Caribbean Basin Power Fund (CBPF). The company’s overall financial performance is characterised by moderate revenue growth, healthy debt servicing parameters and good liquidity. RATING SENSITIVITY FACTORS

1 Change in Electricity Act governing LUCELEC 2 Large debt funded capital expenditure 3 Any changes in the credit profile of the Government of Saint Lucia

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KEY FINANCIALS

2005 2004 2003 2002 2001 Operating Revenue EC $’000 203,143 171,863 150,313 134,189 141,784 EBITDA EC $’000 64,042 66,343 57,984 52,483 56,690 PAT EC $’000 26,999 28,124 19,617 16,302 19,469 Net Cash Accruals4 EC $’000 35,170 30,567 26,749 24,806 24,884 Equity Share Capital EC $’000 80,163 80,163 80,163 80,163 80,163 Net Worth EC $’000 140,287 129,244 120,994 115,201 110,442 Total Debt EC $’000 100,573 103,150 90,879 104,848 90,879 EBITDA/ (Operating Revenue + Other Income) % 31.54 38.59 38.75 38.97 39.93 PAT/ (Operating Revenue + Other Income) % 13.29 16.36 13.07 12.13 13.72 ROCE5 % 17.14 20.01 17.36 14.65 33.05 Interest Cover Times 10.54 11.67 7.90 5.96 6.06 Net Cash Accruals/Total Debt Times 0.35 0.30 0.29 0.24 0.21 Total Debt/Net Worth Times 0.72 0.80 0.75 0.91 1.07 Current Ratio Times 1.14 1.14 1.22 1.18 1.03

February 2007

* Note: Mr. Marius St. Rose is the Chairman of the Board of LUCELEC and a member of the CariCRIS rating committee. Mr. St. Rose did not participate in the above rating decision

4 Net Cash accruals = PAT – Dividend paid + Depreciation 5 Return on Capital Employed (ROCE) = EBIT / (Total Debt + Net worth)