DBRS Confirms FortisBC Energy Inc. at “A”, Stable Trend

DBRS has confirmed the MTNs & Unsecured Debentures and Purchase Money Mortgages ratings of FortisBC Energy Inc. (FEI or the Company, formerly known as Terasen Gas Inc.) at “A”, and its Commercial Paper rating at R-1 (low). The trends are Stable. The ratings reflect FEI’s low business risk operations within a stable regulatory environment and franchise area, strong ring-fencing provisions, as well as its relatively sound financial profile and credit metrics compared with peers. The ratings also reflect the Company’s relatively low allowed ROE, loss of performance-based rate (PBR) incentive earnings, ongoing exposure to volume risk from its industrial and transportation segments and the continued challenge of natural gas’ long-term competitiveness vis-à-vis alternative energy sources.

FEI, FortisBC Energy (Vancouver Island) Inc. (FEVI) and FortisBC Energy (Whistler) Inc. (FEW) are expected to file an application in the Fall of 2011 to amalgamate the three utility subsidiaries under FortisBC Holdings Inc. (FHI, rated BBB (high)). The amalgamation will require the British Columbia Utilities Commission’s (BCUC) approval and the Government of British Columbia’s consent to proceed. At this time, DBRS anticipates that the potential amalgamation and associated rate harmonization will likely be credit neutral to FEI provided that there are no material changes that will negatively affect its deemed capital structure, allowed ROE or fundamental low-risk business model. DBRS notes that FEI’s current contribution to FHI’s overall earnings is approximately 75% and anticipates that the bulk of the amalgamated entity’s earnings will continue to be derived from FEI. Should the potential amalgamation proceed, DBRS may re-examine any impacts to FEI and the consolidated utility’s credit profile as a result of changes to the capital structure or ROE.

The regulatory environment in which FEI operates continues to provide for a number of cost-recovery mechanisms that, when combined with the general rate-setting methodology, allow for a full recovery of all prudently incurred operating expenses and capital expenditures within a reasonable time frame. In July 2011, the BCUC approved FEI’s December 2010 application to provide fuelling station infrastructure and services but denied the Company’s request for a general tariff for the provision of natural gas for vehicles unless certain contractual conditions are met. Earlier in May 2011, FEI filed its 2012-2013 Revenue Requirements and Delivery Rate Application (RRA) in which the Company forecasted a rate increase of approximately 2.8% to 3.0% based on an average rate base of roughly $2,740 million to $2,900 million. The outcome is anticipated in the first quarter of 2012.

FEI’s operating performance and credit metrics have historically been stable and are expected to continue to remain consistent. Additionally, due to increases in both the approved ROE and equity thickness as a result of regulatory changes in 2009, DBRS anticipates a continued modest lift in the Company’s EBIT coverage and cash flow-to-debt metrics, despite the loss of PBR-related earnings. Despite these increases, FEI’s key metrics are expected to remain moderately lower than those of similarly rated gas distribution companies, however, DBRS believes that FEI’s relatively weaker financial profile is offset by the predictable, low-risk business profile of the Company’s business.

The Company is expected to continue to generate minimal-to-modest free cash flow deficits over the medium term due to the need to replace and refurbish existing infrastructure (which is expected to go into the rate base in a timely manner) and respond to modest customer growth. DBRS expects that FEI will continue to finance any deficits with a combination of bank debt, long-term debt issuances and dividend management.

The Company, in conjunction with its holding company, FHI, and its ultimate parent, Fortis Inc. (FTS, rated A (low)), intends to transition to U.S. GAAP, as opposed to IFRS, in January 2012. The BCUC has approved FEI’s request to adopt U.S. GAAP to be used for regulatory reporting purposes from January 1, 2012 to December 31, 2014 but has directed the Company to re-apply by September 1, 2014 for approval of its regulatory accounting standard effective January 1, 2015. DBRS anticipates that any impact to the Company’s cash flow and cash-flow metrics upon successful conversion of accounting standards will be de minimis.

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

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