DBRS Confirms Enbridge Gas Distribution Inc. at “A”, R-1 (low) and Pfd-2 (low)

DBRS has today confirmed the Unsecured Debentures & Medium-Term Notes, Commercial Paper, and Cumulative & Cumulative Redeemable Convertible Preferred Share ratings of Enbridge Gas Distribution Inc. (EGD or the Company) at “A”, R-1 (low) and Pfd-2 (low), respectively, all with Stable trends based on EGD’s low business risk operations, stable regulatory environment, strong franchise area and stable financial profile. The regulatory environment remains reasonable and stable, allowing the Company to recover its operating expenses and capital expenditures in a timely fashion. The ratings also reflect the low allowed ROE under which the Company must operate until 2012.

EGD currently benefits from productivity enhancements and incremental revenues under a 2008 Ontario Energy Board (OEB) approved incentive regulation (IR) framework (from 2008 to 2012). While a subsequent OEB general cost of capital decision provides for an initial ROE of 9.75% to be incorporated into a utility’s 2010 Cost of Service Application, EGD’s ROE of 8.39% will remain unchanged throughout the IR period. In May 2010 the OEB issued a decision that the new ROE could not be used to calculate earnings sharing with ratepayers. The Company’s appeal of that decision was heard by the Ontario Divisional court in January 2011, with decision pending. The ROE increase will likely be positive for EGD when the IR is renewed in 2013.

EGD’s gas distribution margin declined modestly in 2010 by 2.9% but had increased year-over-year from F2006 through F2009 due to customer growth, favourable changes in customer mix and higher distribution rates as a result of the application to the IR formula approved by the OEB. In 2010, warmer weather was the primary driver of the modestly lower earnings when compared to 2009.

Customer growth however continues to be offset by lower average annual consumption. While the risk of fuel switching remains when natural gas prices are high (currently relatively low), natural gas is the predominant fuel of choice in the residential heating market in EGD’s franchise area. Furthermore, natural gas has continued to provide price advantages over its primary competitors – domestic fuel oil and electricity.

For 2011, capital expenditures are expected to be approximately $500 million, having averaged $385 million annually in recent years, as the Company continues to invest in network expansion and upgrades to support customer growth, including lateral connections to new power generating facilities. Growth capex which represents approximately 30% of capex is expected to include unregulated storage projects, the cast iron replacement program, power generation customer additions, the construction of a technical training facility and green energy initiatives.

As a portion of capital expenditures are financed through short-term debt and later refinanced with long-term debt, continued access to the short- and long-term capital markets is important. DBRS believes the Company’s financing of these capital projects will be done in a manner that ensures it maintains stable credit metrics going forward. DBRS expects that the parent will provide financial support to the Company in the form of equity injections and/or reduced dividends, if needed, to maintain the stability of its credit profile and manage the regulatory approved capital structure.

The Company has very large and volatile seasonal liquidity requirements and usage of its credit facility remains high in the third and fourth quarter of the year as gas storage increases for the winter months. DBRS views the Company’s current liquidity as adequate given the current low price gas environment, noting that a combination of cold weather and high gas prices could exhaust EGD’s available liquidity.

Note:
All figures are in Canadian dollars unless otherwise noted.

The applicable methodology is Rating North American Energy Utilities (Electric, Natural Gas and Pipelines), which can be found on our website under Methodologies.