DBRS Confirms Ratings of Toronto Hydro Corporation with Stable Trends

DBRS Limited (DBRS) confirmed Toronto Hydro Corporation’s (THC or the Company) Issuer Rating and Senior Unsecured Debentures & MTNs rating at “A” and the Commercial Paper rating at R-1 (low). All trends are Stable. The ratings reflect THC’s low-risk electricity distribution business, underpinned by a transparent and supportive regulatory framework that serves an economically strong franchise area, and provides relatively predictable earnings.

DBRS expects the regulatory regime in Ontario to remain transparent and supportive, allowing the Company to recover prudently incurred costs in a timely manner and to earn an adequate return on equity (9.30% for 2015 to 2019). The Company is in the fourth year of a five-year Custom Incentive Rate-Setting (CIR) model approved by the Ontario Energy Board, which has provided THC with funding certainty for its ongoing large capital program. THC is expected to file a CIR application for the 2020–2024 period in mid-2018. In June 2017, the Company received a $250 million equity contribution from its sole shareholder, the City of Toronto (the City; rated AA with a Stable trend by DBRS). In response to the equity contribution, THC amended its dividend policy to pay the City $75 million in 2017, up from the previously reduced amount of $25 million, and 60% of THC’s previous year’s consolidated net income for subsequent years. DBRS views the capital contribution by the City as a positive outcome as it has alleviated the pressure on THC’s credit metrics in the near term. However, the new dividend policy to pay 60% of the Company’s previous year’s net income is expected to offset the benefit of the equity contribution in the medium term. (Please refer to DBRS’s press release, “DBRS Comments on Toronto Hydro Receiving Equity from the City of Toronto,” dated June 29, 2017.)

The Company’s key credit metrics as at December 31, 2017, remained reasonable for the current rating. THC’s significant capital expenditure (capex) program, however, continues to pressure its credit metrics. The Company’s capital program is largely non-discretionary as it is focused on meeting growing customer demand and maintaining the reliability of the distribution grid. DBRS expects annual capex to remain consistent with 2017 levels (gross capex of $553 million) over the next several years and result in a steady growth in the rate base. Although THC’s operating cash flow is expected to grow modestly, the significant capital program and the dividend policy is expected to result in free cash flow deficits that are likely to be funded with debt. DBRS notes that while a rating upgrade for THC is unlikely in the near term, the ratings could be adversely affected should the Company fail to maintain cash flow-to-debt and debt-to-capital at or near 15% and 60%, respectively, in the medium term.

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

The principal methodologies are Rating Companies in the Regulated Electric, Natural Gas and Water Utilities Industry Methodology (September 2017) and DBRS Criteria: Commercial Paper Liquidity Support for Non-Bank Issuers (April 2018), which can be found on dbrs.com under Methodologies.

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 under Related Documents or by contacting us at info@dbrs.com.

The rated entity or its related entities did participate in the rating process for this rating action. DBRS had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

DBRS will publish a full report shortly that will provide additional analytical detail on this rating action. If you are interested in receiving this report, contact us at info@dbrs.com.