DBRS Morningstar Downgrades Nova Scotia Power Inc. to BBB (high) and R-2 (high) with Stable Trends

DBRS Limited (DBRS Morningstar) downgraded Nova Scotia Power Inc.'s (NSPI or the Company) Issuer Rating and Unsecured Debentures & Medium-Term Notes rating to BBB (high) from A (low) and its Commercial Paper rating to R-2 (high) from R-1 (low). All trends are Stable. The downgrades follow DBRS Morningstar's review of the deterioration in the regulatory environment for NSPI and discussions with management as to the Company's plan after the Province of Nova Scotia's (the Province; rated A (high) with a Stable trend by DBRS Morningstar) intervention during the ongoing General Rate Application (GRA) process under the Nova Scotia Utility and Review Board (NSUARB), and greater uncertainty on NSPI’s plans and ability to meet renewable generation targets and to shut down its coal-fired generation plants.

On November 8, 2022, the Province passed an amendment to the Public Utilities Act directing the NSUARB to, for the ongoing NSPI GRA, (1) cap base rate increases, excluding fuel and purchase power costs and demand side management, at 1.8% over the 2022 to 2024 period; and (2) limit the allowed return on equity and deemed equity to, respectively, 9.25% and 40.0%. At the time, DBRS Morningstar considered the proposed legislation to be negative for the Company's credit profile as the heightened and adverse political interference would reduce the predictability and stability of the regulatory framework as well as potentially negatively affect NSPI's financial performance (see the DBRS Morningstar press release "DBRS Morningstar Comments on Impact on Nova Scotia Power Following the Province’s Proposed Legislation on Rate Increases," dated October 20, 2022, for more details). Given the increased regulatory and political risk, DBRS Morningstar no longer considers the regulatory environment for the Company to be supportive of the A (low) rating, especially considering the significant investment needed in the Province for NSPI to phase out its coal-fired generation plants (51% of 2021 installed generation capacity) by the provincially mandated deadline of 2030 and the need to build out renewable sources of generation. DBRS Morningstar believes meeting the provincially mandated renewable generation targets will be challenging given the financial restraints on NSPI over the near term, as well as the heightened regulatory risk on the Company's ability to receive rate increases to recover and earn a reasonable return on any new investments.

Given this precedent, DBRS Morningstar is concerned about any potential additional government interventions that could further destabilize the regulatory construct for NSPI. While DBRS Morningstar is encouraged by the Company and the intervenors filing a negotiated settlement for the GRA, DBRS Morningstar expects NSPI's earnings and key credit metrics to be moderately weaker over the near term but to be supportive of the BBB (high) ratings. DBRS Morningstar notes that NSPI will need to find operational efficiencies and has committed to focus its planned capital expenditures (capex) on only reliability and safety projects in order to preserve its key credit metrics. NSPI's parent company, Emera Inc., has also historically been supportive of the Company by maintaining a flexible dividend payout policy and providing equity injections to maintain the debt-to-capital ratio within regulatory parameters. As such, DBRS Morningstar does not consider further negative rating actions on NSPI to be likely at this time unless there is additional political intervention in the ratemaking process that results in even higher volatility and uncertainty for the Company or leads to key credit metrics that are no longer in line with the BBB rating category. A positive rating action may occur if DBRS Morningstar sees (1) the regulatory process for the next GRA conducted free of any interference and with the NSUARB’s full independence on the determination of rates, (2) meaningful progress on the replacement of coal-fired plants with renewable sources in order to meet the mandated targets, and (3) key credit metrics return to be in line with the "A" rating category.

ENVIRONMENTAL, SOCIAL, GOVERNANCE CONSIDERATIONS
Environmental (E) Factors
Carbon and greenhouse gas costs has a relevant effect on the credit analysis of NSPI. DBRS Morningstar considers the Company's transition from reliance on coal-based generation (51% of 2021 installed generation capacity) to lower-emitting sources to be a challenge, as coal-fired generation is mandated to be phased out and 80% of electricity sales are to be from renewable sources by 2030. Significant investments are needed in the Province but, given the financial constraints on NSPI in the near term from the political intervention in the 2022 to 2024 GRA, it will be challenging for the Company and the Province to meet these goals.

This Environmental factor is new and was not present in the prior rating disclosure as NSPI had planned significant capex to address this challenge before the political intervention by the Province.

There were no Social/Governance factors that had a significant or relevant effect on the credit analysis.

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://www.dbrsmorningstar.com/research/396929/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings (May 17, 2022).

Notes:
The principal methodologies are Global Methodology for Rating Companies in the Regulated Electric, Natural Gas, and Water Utilities Industry (September 13, 2022; https://www.dbrsmorningstar.com/research/402616) and DBRS Morningstar Criteria: Commercial Paper Liquidity Support for Nonbank Issuers (March 1, 2022; https://www.dbrsmorningstar.com/research/393065), which can be found on dbrsmorningstar.com under Methodologies & Criteria.

A description of how DBRS Morningstar analyzes corporate finance transactions and how the methodologies are collectively applied can be found at: https://www.dbrsmorningstar.com/research/397223/interplay-of-global-corporate-finance-rating-methodologies-when-analyzing-corporate-finance-transactions.

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 [email protected].

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

The conditions that lead to the assignment of a Negative or Positive trend are generally resolved within a 12-month period. DBRS Morningstar trends and ratings are under regular surveillance.

For more information on this credit or on this industry, visit www.dbrsmorningstar.com or contact us at [email protected].

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