Morningstar DBRS Confirms Credit Ratings of Toronto Hydro Corporation at "A" and R-1 (low) With Stable Trends

DBRS Limited (Morningstar DBRS) confirmed Toronto Hydro Corporation's (Toronto Hydro 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.

KEY CREDIT RATING CONSIDERATIONS
Toronto Hydro's credit ratings are based on the Company's regulated electricity distribution business, which operate under a reasonable framework by the Ontario Energy Board (OEB). In November and December 2024, the OEB issued its decisions on Toronto Hydro's 2025-2029 Custom Incentive Rate-setting (IR) application. Morningstar DBRS notes that the Custom IR decision is largely a continuation of the previous framework, where rates will increase annually for inflation, but with a revenue growth factor replacing the previous capital factor to account for indexation of operating expenses as well. With the Custom IR decision, the Company will have certainty of recovery for its significant planned capital expenditures (capex) program of $3.6 billion over the next five years to replace aging infrastructure and for growth and modernization of the grid. In March 2025, the OEB also issued its decision on the Cost of Capital Generic Proceeding, which led to a modest decrease in the return on equity (ROE) formula. The ROE for Toronto Hydro, however, will be 9.25% for 2025 and 9.00% for 2026 to 2029, which is higher than the 8.52% approved for 2020 to 2024.

CREDIT RATING DRIVERS
Morningstar DBRS considers a positive credit rating action as unlikely at this time given the capex program in place and the current business risk assessment. A negative credit rating action may occur should the Company's key credit metrics weaken to a level no longer commensurate with the "A" credit rating category for a sustained period of time (cash flow-to-debt less than 12.5%, debt-to-capital more than 65.0%, and EBIT-interest coverage less than 1.80 times).

EARNINGS OUTLOOK
Toronto Hydro's earnings have generally been stable, reflecting the regulated nature of its business. However, earnings over the previous regulatory period have been pressured because of the impact of the COVID-19 pandemic and regulatory lag in recovering rising debt and interest expense to fund the capex program. As such, the Company's achieved ROE has been weak over the past five years (ranging from 5.90% to 7.44%). With the Custom IR decision, however, Morningstar DBRS expects profitability for Toronto Hydro to recover. Overall, Morningstar DBRS expects earnings to increase modestly year over year tracking growth in the rate base.

FINANCIAL OUTLOOK
Toronto Hydro's key credit metrics have weakened over the past few years because of the growing debt load to fund its capex program. In June 2024, the Company announced that it had reached an agreement with its 100% owner, the City of Toronto (the City; rated AA with a Stable trend), to receive $50 million of equity by 2025 and annual contributions of $25 million over the next 10 years. As well, the City amended the dividend payout from Toronto Hydro (including $60 million in 2025, $40 million in 2026, and $20 million in 2027) from the current policy of 60% of consolidated net income after net movements in regulatory balances. This direction from the City is largely for the Company to maintain its leverage in line with the regulatory capital structure of 60% debt in light of the significant investments needed for the energy transition. Combined with the expected increase in earnings and cash flows following the Custom IR decision, Morningstar DBRS expects the Company's key credit metrics to recover in 2025 and remain in line with the "A" credit rating.

CREDIT RATING RATIONALE
Toronto Hydro's credit ratings are supported by the reasonable regulatory environment in place and its strong and growing franchise area. This is partly offset by balance sheet pressure as a result of high capex and earnings sensitivity to volume.

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 Factors in Credit Ratings (August 13, 2024) https://dbrs.morningstar.com/research/437781

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

(B) Weighting of FRA Factors
In the analysis of Toronto Hydro, 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 Toronto Hydro, 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 (November 25, 2024) https://dbrs.morningstar.com/research/443429

Morningstar DBRS credit ratings may use one or more sections of the Morningstar DBRS Global Corporate Criteria (February 03, 2025 - https://dbrs.morningstar.com/research/447186), which covers, for example, topics such as holding companies and parent/subsidiary relationships, guarantees, recovery, and common adjustments to financial ratios.

The following methodologies have also been applied:
-- Morningstar DBRS Criteria: Approach to ESG Factors in Credit Ratings (August 13, 2024) https://dbrs.morningstar.com/research/437781
-- Morningstar DBRS Global Corporate Criteria (February 03, 2025) https://dbrs.morningstar.com/research/447186

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.

For more information on Morningstar DBRS' policy regarding the solicitation status of credit ratings, please refer to the Credit Ratings Global Policy, which can be found in the Morningstar DBRS Understanding Ratings section of the website: https://dbrs.morningstar.com/understanding-ratings

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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