Rating Action: Moody's affirms Eletrobras' Ba3 rating; changes outlook to stable from negative

Global Credit Research - 04 Dec 2017

Sao Paulo, December 04, 2017 -- Moody's Investors Service, ("Moody's") affirmed the Ba3 rating of Centrais Eletricas Brasileiras SA - Eletrobras, including the company's senior unsecured debt and corporate family rating (CFR). Simultaneously, Moody's raised the company's baseline credit assessment (BCA) to b1 from b2 and changed the outlook for all ratings to stable from negative. This action reflects Eletrobras' liquidity improvement, evolving operating profile and strengthened corporate governance.

Affirmations:

..Issuer: Centrais Eletricas Brasileiras SA -- Eletrobras ...Corporate family ratings (CFR), Affirmed at Ba3 $1750M Global Notes due 2021, Affirmed at Ba3 Outlook for all ratings changed to stable from negative RATINGS RATIONALE

The upgrade of Eletrobras' BCA reflects the company's better credit metrics on a stand-alone basis, and the ongoing progress of its corporate restructure plan to enhance internal controls and improve profitability. It also considers Moody's perception of improved liquidity through September 2017, specifically related to a more robust cash position to meet upcoming debt maturities over the next 12 months. Constraining Eletrobras' credit profile are the high debt levels and large contingent liabilities.

Eletrobras' Ba3 ratings consider Moody's joint default analysis for the company as a government-related issuer and therefore, it incorporate our expectations on the credit profile of the Brazil's government (Ba2 negative) and assumptions for moderate support and high dependence levels from the government of Brazil. Eletrobras' dominant position in the Brazilian electricity market along with its strategic role for regional economic development given the participation in most of the country's relevant energy projects further support the ratings.

The stable outlook on Eletrobras' ratings incorporates Moody's view that the company's credit profile will continue to gradually improve counterbalancing the negative outlook on the government of Brazil's Ba2 rating.

The government's plan to dilute its participation in Eletrobras through an equity offering and the changes in the concession framework under discussion, provide opportunities for the company to further strengthen its operating and financial profile. At the same time, Moody's recognizes high uncertainties for this process to be completed in 2018, thus any potential benefits of the privatization have not been incorporated it into the ratings at this time.

Over the last year, Eletrobras made significant progress to build-up its internal controls through the implementation of a shared service center and an integrated computer-network management system for consistency in the reporting of all its subsidiaries. The company's also implemented an extraordinary retirement plan, reaching about 86% of its employee reduction target. Together, those initiatives are expected to generate consolidated savings of approximately BRL1.5 billion per year for Eletrobras.

In terms of corporate governance, the company took several initiatives to bring its internal practices in line with local and international regulatory standards, such as updating the code of ethics to comply with stricter governance laws in Brazil and alignment of its bylaws for an uniform approach towards approval levels for existing and future investments across the company.

There are other pending developments to achieve a leaner operating structure, including the divesture of six distribution companies: CEPISA, CEAL, Eletroacre, CERON, Boa Vista Energia and Amazonas D, and the

sale of ownership stakes in 77 special purpose entities (SPEs) comprising 3,354 kilometers of transmission lines and 862 MW of wind power generation projects. The restructuring plan also includes the transfer of indirect equity interests at certain SPEs to the holding-company level, with the elimination of intercompany loans. Moody's base case scenario considers those initiatives to be mostly completed during first half of 2018.

As of September 30, 2017, Eletrobras reported a cash outstanding balance representing 146% of short term debt maturities up from 99% in fiscal year-end 2016. The company's leverage, as measured by the Cash from operations before working capital change (CFO pre WC) to debt ratio, reached 5% in the last twelve months ended September 30, 2017, up from 0.3% in December 31, 2016. Meanwhile, the CFO pre WC interest coverage ratio improved to 1.3x from 1.0x. Those levels are sustainable over the next 3 to 4 years with the ongoing developments of its business restructuring plan.

Constraining the credit profile improvement is Eletrobras' high debt burden. For the most recent reporting period, the company accounted for about BRL46 billion in consolidated debt outstanding. The company also has approximately BRL16 billion in past due obligations with suppliers (mainly Petrobras). Although part of those liabilities are covered by reimbursement credits from sector charges, there are disputes with the regulator ANEEL to determine the exact credit amount and the timing for compensation. Eletrobras also has BRL23 billion in provisions to address probable losses in lawsuits of the company and its subsidiaries are parties underway in the courts; but it will not materialize all at the same time in the next 12-18 months, which mitigates the impact on the company's liquidity.

The unfavorable performance of the distribution companies has been hurting Eletrobras' credit metrics. The successful exit of those businesses will enhance the consolidate profitability, but balance sheet leverage will likely increase, since the proposed privatization model considers Eletrobras providing equity increases or upstream debt lying at the level of the operating distribution companies. As such, Moody's estimates Eletrobras consolidated debt to book capitalization ratio will reach 53% in 2018, up from the current 47%, and will probably stay in the low fifties towards the end of this decade.

WHAT COULD CHANGE THE RATINGS UP/DOWN

Upward ratings pressure could result from a sustained trend of stronger internal cash generation and the extension of the company's debt maturity profile. Quantitatively, the ratings could be upgraded if we see an upturn in the company's overall metrics so that the cash from operations before changes in working capital (CFO pre-WC) to total debt ratio approaches 10% and the interest coverage remains above 1.5x on a sustainable basis. Moody's may also consider an upgrade of Eletrobras ratings following a material reduction of the uncertainties around the company's contingent liabilities or the government's privatization plan.

Downward rating pressure could come with a deterioration in the company's liquidity profile resulting from challenges in refinancing its short term debt obligations and/or an unexpected large cash outlays related to the company's contingent liabilities. Moody's would consider a downgrade if such pressures were not mitigated by an extraordinary financial support from its shareholders or upcoming asset sales. A weakened support of the regulatory framework could also prompt a downward action, as well as further deterioration in the sovereign's credit quality.

Headquartered in Rio de Janeiro, Eletrobras is a holding company controlled by Brazil´s federal government with 51% of Eletrobras' voting capital and 41% of its total capital. Eletrobras is the largest Brazilian generation and transmission company, in the twelve months ended September 30, 2017 the company reported BRL28.1 billion in net revenues (excluding construction revenues, CELG-D and the RBSE). Eletrobras' transmission lines comprise 70,148 kilometers, or 47% of the country's total high-voltage transmission lines. Eletrobras' electricity generation has installed capacity of 47 gigawatts, which accounts for 31% of Brazil's total generation installed capacity, besides, the company also has 22.4 GW in projects under construction to be completed by 2023. The distribution business, largely composed of small distribution companies in the north and center west portions of Brazil, represents around 5% of the total energy distributed in the country.

The methodologies used in these ratings were Regulated Electric and Gas Utilities published in June 2017, and Government-Related Issuers published in August 2017. Please see the Rating Methodologies page on www.moodys.com.br for a copy of these methodologies.

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Cristiane Spercel

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