DBRS Confirms Enersource Corporation at “A,” Stable Trends

DBRS has today confirmed the Issuer Rating and the rating of the Senior Unsecured Debentures of Enersource Corporation (Enersource or the Company) at “A,” both with Stable trends. The rating reflects the Company’s low business risk profile stemming from relatively stable earnings and cash flow generated from its regulated electricity distribution (approximately 96% of EBIT in 2012).

Enersource’s low business risk profile is underpinned by a strong franchise area and supportive, albeit evolving, regulatory system. Enersource operated under the 3rd Generation Incentive Regulatory Mechanism (2008–2012) and rebased in 2013 using a cost-of-service (COS) methodology. In its COS proceeding, the Ontario Energy Board (OEB) approved approximately 97% of the requested increase in rate base (including the majority of capital expenditures (capex) from 2008 to 2012) and a reasonable return on equity (ROE) of 8.93%. This is expected to lead to a modest increase in earnings and cash flow going forward. In October 2012, the OEB released its report on the renewed regulatory framework for electricity distributors in Ontario. Under this new framework, DBRS expects Enersource to either transition to the 4th Generation Incentive Regulation (IR) or the Custom IR framework. Although these frameworks have a longer IR period (four plus years versus three years), which increases regulatory risk, Enersource, like its peers in Ontario, has the option to initiate a regulatory review of the IR application if actual ROE is less than 300 basis points, providing downside protection. In addition, the OEB is expected to release details on key factors for the IR frameworks in mid-2013. Should the key factors increase regulatory risk (e.g., aggressive efficiency targets), it could have negative rating implications.

In 2012, Enersource generated a moderate negative free cash flow, which was mainly due to the one-time purchase of a new administration building that increased capex by approximately $20 million. The majority of the capex spent on the administration building has been approved for inclusion in the rate base. The resulting free cash flow deficit was financed with cash on hand. Capex is expected to remain relatively stable going forward as Enersource’s infrastructure is relatively modern and does not require extensive repairs and upgrades. Key credits metrics remained stable and within the current rating category in 2012. The Company continued to maintain good financial flexibility as its leverage ratio (54% in 2012) was well within DBRS’s rating parameter.

Notes:
All figures are in Canadian unless otherwise noted.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link to the right under Related Research or by contacting us at info@dbrs.com.

The applicable methodology is Rating North American Energy Utilities (Electric and Natural Gas) Industry (May 2011), which can be found on our website under Methodologies.