DBRS Finalizes Duke Energy Income Fund at STA-3 (middle)

Dominion Bond Rating Service ("DBRS") has finalized the stability rating of STA-3 (middle) assigned to Duke Energy Income Fund (“DEIF” or the “Fund”), reflecting the following factors:

(1) The Fund benefits from fairly stable operations, with revenues derived on a 100% fee-for-service basis (81% on a “fixed fee” basis and 19% on a “fixed fee plus variable operating fee” basis in 2004). Its facilities are well located in some of the most productive areas in the Western Canadian Sedimentary Basin (WCSB), reducing potential throughput risk. Over 90% of its customers’ natural gas production is connected only to the Fund’s gathering and processing system, reducing potential competition due to high switching costs and, in some cases, lack of alternatives. Producers’ increasing focus on upstream operations offers growth opportunities for independent midstream operators such as DEIF.

(2) The Fund’s focus on the higher-margin sour gas facilities allows it to capitalize on rising sour gas production (about 37% of the WCSB natural gas production). DEIF is one of the largest independent midstream operators in the WCSB.

(3) The Fund’s nine processing facilities are long life assets with low maintenance capital needs, allowing most operating cash flow to be available for distribution to unitholders. The majority of DEIF’s maintenance costs are expensed.

(4) The relatively conservative capital structure following DEIF’s initial public offering (IPO) provides it with financial flexibility, facilitating organic and acquisition-driven growth. The Fund’s debt-to-capital ratio is expected to be in a conservative range supported by strong cash flow relative to debt, somewhat offsetting the relatively high payout ratio, targeted at 95% of distributable cash.

(5) The strong sponsorship/ownership by Westcoast Energy Inc. (“Westcoast”), and its parent, Duke Energy Corporation (“Duke Energy”), provides significant expertise to the management of these assets.

DBRS expects the latter two factors to continue and has placed the Fund in the Moderate and Superior categories for financial profile and sponsorship, respectively. The first three attributes contribute to favourable operating characteristics and asset quality, both in the Moderate category. However, the Fund is indirectly exposed to volatile commodity pricing movements, which, over time, could impact drilling activity, which could lead to lower throughput, and lower earnings and cash flow, in a low gas price environment. Approximately 55% of DEIF’s revenue (based on 2004 figures) is derived from interruptible capacity contracts, while the remaining 45% of revenues are covered by longer-term firm capacity contracts that include take-or-pay provisions. Adequacy of natural gas reserves, with estimated annual decline rates of 15%-20%, could curtail production and DEIF processing volumes. However, the Alberta Energy and Utilities Board has forecast a favourable trend in its recent study, raising its reserves estimates – a view that is supported by an independent review (by McDaniels & Associates) of the Fund’s operating regions.

Additional challenges include the Fund’s modest size, competition, and upgrading capital requirements over time.

DBRS expects the cash distribution to be sustainable over the medium term, with future prospects underpinned mostly by acquisitions, possibly of certain midstream assets owned by Westcoast.