Morningstar DBRS Changes Trend on Elexicon Corporation to Negative From Stable, Confirms Credit Rating at "A"

DBRS Limited (Morningstar DBRS) confirmed Elexicon Corporation's (Elexicon or the Company) Issuer Rating at "A" and changed the trend to Negative from Stable. The trend change reflects Morningstar DBRS' expectation that Elexicon's financial risk assessment will be weak for the rating category in 2024 and 2025. The weak financial metrics are from increased operating costs from new corporate initiatives, inflation, and debt used to fund capital expenditures (capex). Morningstar DBRS expects the Company's financial metrics will improve in 2026 reflecting incremental capital module revenues from new projects placed into service.

Morningstar DBRS expects that Elexicon's cash flow-to-debt ratio will remain below the Morningstar DBRS "A" category of 12.5% until the Company completes its next rate rebasing. Elexicon was formed in 2019 as a merger of Veridian Corporation (Veridian) and Whitby Hydro Energy Corporation (Whitby Hydro). As part of the merger approval, the Ontario Energy Board (OEB) allowed Elexicon to sit out the rate rebasing schedule until 2029. Morningstar DBRS notes that Elexicon's predecessor companies, Whitby Hydro and Veridian, were last rebased in 2011 and 2014, respectively.

CREDIT RATING DRIVERS
Morningstar DBRS does not view a positive rating action as likely without a material improvement in the Company's business risk assessment. Morningstar DBRS may take a negative rating action if the Company does not improve its cash flow-to-debt metric to 12.5% on a sustained basis in the near term.

EARNINGS OUTLOOK
Elexicon's adjusted earnings have remained stable, supported by regulated operations. Revenues are expected to increase in 2024 compared with 2023, reflecting the 2024 Price Cap Incentive Rate adjustments of 4.5% and a full-year contribution from the Company's Z-factor approval from a 2022 windstorm, which was effective in July 2023. These increased revenues are expected to be offset by increased operating costs from inflation and new corporate initiatives. Morningstar DBRS also expects that Elexicon will underperform its OEB-approved return on equity until the next rate rebasing.

FINANCIAL OUTLOOK
Morningstar DBRS notes that the Company's credit metrics have weakened as it has funded capex with debt. Morningstar DBRS expects average annual capex to be approximately $50 million per year over the next five years. A significant amount of this capex is expected to be for system access for new customer connections and for system renewal. Morningstar DBRS expects that some of this capex will be funded with debt weakening the financial metrics. However, Morningstar DBRS expects the Company to keep its debt-to-capitalization within the OEB's deemed capital structure of 40% equity and 60% debt.

CREDIT RATING RATIONALE
Elexicon's credit rating is supported by its (1) stable regulated electric operations, (2) supportive shareholders, and (3) strong franchise area. These strengths are partially offset by (1) performance pressure under Price Cap IR, (2) capex risk, and (3) limited access to equity markets.

ENVIRONMENTAL, SOCIAL, AND GOVERNANCE CONSIDERATIONS
There were no Environmental/Social/Governance factors that had a significant or relevant effect on the credit analysis.

A description of how Morningstar DBRS considers ESG factors within the Morningstar DBRS analytical framework can be found in the Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (23 January 2024) https://dbrs.morningstar.com/research/427030

BUSINESS RISK ASSESSMENT (BRA) AND FINANCIAL RISK ASSESSMENT (FRA)
(A) Weighting of BRA Factors
In the analysis of Elexicon, the BRA factors are considered in the order of importance contemplated in the methodology.

(B) Weighting of FRA Factors
In the analysis of Elexicon, the FRA factors are considered in the order of importance contemplated in the methodology.

(C) Weighting of the BRA and the FRA
In the analysis of Elexicon, the BRA carries greater weight than the FRA.

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

Morningstar DBRS applied the following principal methodology:

Global Methodology for Rating Companies in the Regulated Utility and Independent Power Producer Industries (April 15, 2024) https://dbrs.morningstar.com/research/431184

Morningstar DBRS credit ratings may use one or more sections of the Morningstar DBRS Global Corporate Criteria (April 15, 2024) https://dbrs.morningstar.com/research/431186, which covers, for example, topics such as holding companies and parent/subsidiary relationships, guarantees, recovery, and common adjustments to financial ratios.

The following criteria has also been applied:
Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (January 23, 2024) https://dbrs.morningstar.com/research/427030/morningstar-dbrs-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings

The credit rating methodologies used in the analysis of this transaction can be found at: https://dbrs.morningstar.com/about/methodologies.

A description of how Morningstar DBRS analyzes corporate finance transactions and how the methodologies are collectively applied can be found at: https://dbrs.morningstar.com/research/431153.

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@morningstar.com.

The credit rating was initiated at the request of the rated entity.
The rated entity or its related entities did participate in the credit rating process for this credit rating action.
Morningstar DBRS had access to the accounts, management, and other relevant internal documents of the rated entity or its related entities in connection with this credit rating action.
This is a solicited credit rating.

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

Information regarding Morningstar DBRS credit ratings, including definitions, policies, and methodologies, is available on dbrs.morningstar.com or contact us at info-DBRS@morningstar.com.

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