DBRS Confirms Hydro Ottawa Holding Inc. at “A” with Stable Trends

DBRS Limited (DBRS) has today confirmed the Issuer Rating and Senior Unsecured Debt rating of Hydro Ottawa Holding Inc. (Hydro Ottawa, or the Company) at “A,” both with Stable trends. The confirmations are based on the continued stability of the Company’s regulated electricity distribution business and reasonable financial risk profile. However, DBRS remains concerned over Hydro Ottawa’s large planned capital expenditures (capex) program and its growing exposure to the higher risk power generation business. The Company’s credit profile could be negatively affected should non-regulated earnings exceed the 20% threshold for the current rating (13.7% of 2015 EBIT).

DBRS continues to view the regulatory regime in Ontario, under the Ontario Energy Board (OEB), as supportive. In December 2015, the OEB issued its decision on Hydro Ottawa’s Custom Incentive Rate-setting (Custom IR) application for rates from 2016 through 2020. In its decision, the OEB approved rate base of approximately $833 million for 2016 ($669 million in 2012) and an allowed return on equity (ROE) of 9.19% (9.42% for 2012 to 2015). The OEB also pre-approved Hydro Ottawa’s capex program for its regulated business for the next five years, which should provide more funding certainty for the Company. Under Custom IR, in-service capex will be added to the rate base annually, allowing the Company to begin recovering and earning a return on its investments during the Custom IR term, reducing regulatory lag. Hydro Ottawa has also partially mitigated forecasting risk associated with the longer Custom IR term, as the 2019 and 2020 inflation factor and allowed ROE will be reset in 2018, and the Company will continue to be able to initiate a regulatory review if actual ROE is 300 basis points below the approved ROE. However, any overspending in capex over the approved capex program will not be charged back to customers, which could potentially result in stranded costs for the Company.

While Hydro Ottawa’s financial risk profile remains supportive of its current ratings, the Company’s key financial metrics weakened in 2015. Debt-to-capital for the Company increased to 58.1% in 2015 from 52.3% in 2014, while cash flow-to-debt declined to 16.0% from 19.0%. The weaker financial ratios were a result of a large increase in debt for the year as the Company (1) continues its heavy capex program to renew its distribution network, (2) continues construction on the Chaudière Falls Expansion, and (3) spent $95 million on its acquisition of ten hydroelectric facilities in Ontario and New York State (see the DBRS press release, “DBRS Comments on Hydro Ottawa’s Acquisition,” dated July 29, 2015, for more details). DBRS notes that the Company expects to spend, on average, approximately $83 million annually on maintaining its network and will require capex of approximately $150 million over the next two years for the Chaudière Falls Expansion. DBRS expects Hydro Ottawa to fund its capex program in a prudent manner, including financing the Chaudière Falls Expansion through non-recourse project debt, in order to maintain its key credit metrics within the “A” rating category and to keep its leverage in line with the regulatory capital structure of 60%. Should the Company’s metrics deteriorate to a level no longer commensurate with the current ratings, a negative rating action may occur.

Notes:
All figures are in Canadian dollars 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 Companies in the Regulated Electric, Natural Gas and Water Utilities Industry, which can be found on our website under Methodologies.