DBRS Confirms Newfoundland Power Inc. at “A” with Stable Trends

DBRS Limited (DBRS) confirmed the Issuer Rating and First Mortgage Bonds rating of Newfoundland Power Inc. (Newfoundland Power or the Company) at “A” as well as its Preferred Shares – cumulative, redeemable rating at Pfd-2. All trends are Stable. The ratings are supported by the Company’s stable regulated operations, mainly consisting of electricity distribution; the reasonable regulatory regime under the Board of Commissioners of Public Utilities (the PUB); and a solid financial risk assessment.

Newfoundland Power is regulated under cost-of-service regulation by the PUB. In January 2019, the PUB approved the Company’s 2019/2020 General Rate Application, which allows a return on equity of 8.5% and a deemed equity component of 45% for 2019 to 2021. DBRS notes that Newfoundland Power continues to benefit from multiple regulatory deferral accounts, which significantly reduces the volatility in earnings and cash flows.

DBRS continues to consider the uncertainty regarding a potential rate shock to ratepayers caused by the Muskrat Falls project, an 824-megawatt hydroelectric generating facility under development by Nalcor Energy (Nalcor; 100% owned by the Province of Newfoundland and Labrador (the Province; rated A (low) with a Stable trend by DBRS)), to be the Company’s most significant challenge. First power is expected by the end of 2019 and, if no rate mitigation options are implemented, electricity rates are expected to increase to 22.9 cents per kilowatt hour (kWh) in 2021 – a substantial increase from current rates of 12.4 cents per kWh. DBRS remains concerned that a rate shock amid the Province’s weak economic conditions could severely reduce electricity volumes as well as affect affordability for customers, which could negatively affect Newfoundland Power’s earnings and cash flows. In September 2018, the Province announced that the PUB will examine the Muskrat Falls project for options to reduce its impact on rates. The PUB provided an interim report in February 2019 and is expected to provide a final report in January 2020. DBRS will continue to monitor the situation, but expects that rate mitigation options, potentially including support from the Province to ratepayers, will be implemented to soften the impact of a substantial rate increase. The Province has estimated that approximately $725 million will be required annually to mitigate the risk of a rate increase associated with the Muskrat Falls project.

Newfoundland Power’s financial risk profile remained solid in 2018 and for the last 12 months ending June 30, 2019, with all key credit metrics supportive of the current ratings. The Company’s earnings and cash flows have largely remained steady year over year, reflecting the stable nature of its operations. While Newfoundland Power’s capex remains higher than depreciation, the moderate free cash flow deficits have remained manageable. DBRS expects the Company to continue managing these deficits in a prudent manner with an aim to maintain leverage in line with the regulatory capital structure, which should allow key credit metrics to remain in line with the current rating category. DBRS considers a positive rating action for the Company to be unlikely in the near to medium term because of the weaker franchise area and the uncertainty regarding rate increases associated with the Muskrat Falls project.

DBRS considers a substantial electricity rate increase with no mitigation as a result of the Muskrat Falls project as an event risk. Under this albeit unlikely scenario, if ratepayers’ ability to pay their bills or Newfoundland Power’s ability to fully pass on costs is negatively affected, DBRS may downgrade the Company’s ratings by multiple notches.

Notes:
The principal methodologies are Rating Companies in the Regulated Electric, Natural Gas and Water Utilities Industry and DBRS Criteria: Preferred Share and Hybrid Security Criteria for Corporate Issuers, which can be found on dbrs.com under Methodologies & Criteria.

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.

For more information on this credit or on this industry, visit www.dbrs.com or contact us at info@dbrs.com.

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