DBRS Confirms NOVA Gas at “A”, Trend Stable

DBRS has today confirmed the rating of NOVA Gas Transmission Ltd. (NGTL or the Company) at “A” with a Stable trend. The confirmation reflects NGTL’s strong credit profile, regulated and stable operations, and financial and liquidity support from its sole parent – TransCanada PipeLines Limited (TCPL; long-term debt rated “A” by DBRS).

The stable regulatory system in which NGTL operates underpins the Company’s “A” rating, as 100% of its earnings are regulated, providing the Company with stable and predictable cash flows. In addition, NGTL has received financing support from TCPL since its merger with TCPL in 1998. The financial support includes liquidity financing of capital expenditures and working capital as required. Furthermore, NGTL has repaid public debt as it matured with intercompany borrowings (about 67% of NGTL’s total debt outstanding is intercompany debt) and this is expected to continue.

NGTL owns the Alberta System, which forms an integral part of TCPL’s pipeline systems and accounted for approximately 12% of TCPL’s first half of 2011 (H1 2011) earnings. The Company’s business risk profile is relatively low as all earnings are regulated by the National Energy Board (NEB) and are based on cost recovery plus a return on equity (ROE). Profitability levels between 2010 and 2012 are based on the three-year settlement with the shippers, approved by the NEB in September 2010. Allowed ROE has improved to 9.70% on deemed equity of 40% (8.75% ROE on 35% equity in 2009) on a cost-of-service basis. In addition, earnings are supported by a large rate base increase following the completion of the North Central Corridor (NCC) and Groundbirch projects in 2010.

NGTL’s competitive position in the region has strengthened following the completion of the NCC, which is composed of a 300-kilometre (km) natural gas pipeline and associated facilities connecting the northwest and northeast portions of the Alberta System. The NCC is expected to reduce fuel consumption on the entire Alberta System by approximately 50%, and could save shippers between $50 million and $75 million per year.

Future growth in the rate base and higher earnings over the medium term will come from extending its pipeline system across provincial borders into British Columbia (BC) and potentially the Northwest Territories, with direct connection to the network. The NEB has recently approved two projects: (1) the expansion of the Groundbirch Pipeline, connecting the Montney shale gas region in northeastern BC (NEBC) to the Alberta System at an estimated cost of $60 million); and (2) the Horn River project, which extends the Alberta System to the Horn River shale gas region in NEBC. The Horn River project is expected to start up in Q2 2012 (at an estimated project cost of $275 million). In addition, the Company also has an agreement to extend the Horn River pipeline by 100 km at an estimated capital cost of $230 million. As a result, total contractual commitments of the project increase to 689 mmcf/d by 2014 (540 mmcf/d without extension) and 900 mmcf/d by 2020. All these expansions will increase the Alberta System’s throughput and receipt point flexibility, enhancing the netbacks of the shippers.

Over the longer term, growth in the rate base will come from capital investment by the Company as part of the pipeline development to extend the Alberta System to BC. As at June 30, 2011, the NEB approved natural gas pipeline projects with capital costs of approximately $500 million. Other projects worth $700 million are pending the NEB’s approval.

Despite these strengths, NGTL faces certain limiting factors, including excess capacity, natural gas supply risk and cost pressure caused by competition from Alliance Pipeline and Vector Pipeline. However, NGTL’s tolls are determined on a cost-of-service basis, resulting in protection from short-term throughput risk until the end of the 2010-2012 Revenue Requirement Settlement and Rate Design Settlement (the Settlement).

Over the medium term, DBRS expects a modest decrease in NGTL’s financial metrics, reflecting higher debt levels as NGTL will likely finance its Horn River projects with debt while earnings should remain stable until the end of 2012 (the end of the Settlement). However, DBRS believes that the Company’s financial metrics will improve when the Horn River and Groundbirch expansion projects are completed and are included in the rate base. In addition, DBRS believes that risk associated with the financing of these projects will be minimal, as they are expected to be funded by TCPL in the form of intercompany loans.

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

The applicable methodology is Rating North American Pipeline and Diversified Energy Companies, which can be found on our website under Methodologies.