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HomeMy WebLinkAboutCOC IPC_CreditOpn_July_8_2009.pdfCredit Opinion: Idaho Power Company Global Credit Research - 08 Jul 2009 Boise, Idaho, United States Ratings Category Moody's Rating Outlook Negative Issuer Rating Baa1 First Mortgage Bonds A3 Senior Secured A3 Sr Unsec Bank Credit Facility Baa1 Senior Unsecured Shelf (P)Baa1 Commercial Paper P-2 Parent: IDACORP, Inc. Outlook Negative Issuer Rating Baa2 Sr Unsec Bank Credit Facility Baa2 Senior Unsecured Shelf (P)Baa2 Commercial Paper P-2 Contacts Analyst Phone Kevin G. Rose/New York 212.553.0389 William L. Hess/New York 212.553.3837 Key Indicators [1]Idaho Power Company ACTUALS LTM 1Q09 2008 2007 2006 (CFO Pre-W/C + Interest) / Interest Expense 2.9x 2.7x 2.1x 3.3x (CFO Pre-W/C) / Debt 11%10%6%13% (CFO Pre-W/C - Dividends) / Debt 7%6%2%8% (CFO Pre-W/C - Dividends) / Capex 51%43%8%41% Debt / Book Capitalization 49%48%45%42% EBITA Margin %20%20%19%20% [1] All ratios calculated in accordance with the Global Regulated Electric Utilities Rating Methodology using Moody's standard adjustments Note: For definitions of Moody's most common ratio terms please see the accompanying User's Guide. Opinion Rating Drivers Relatively low business risk profile Reasonably supportive regulatory environment - improvements to cost recovery mechanisms Significant planned capital expenditures Historically weaker credit metrics should improve over the near-to-medium term Corporate Profile Idaho Power Company (IPC) is a vertically integrated electric utility and principal wholly-owned subsidiary of IDACORP, Inc. (IDA), a holding company which also serves as parent for other modest-sized non-utility businesses. IPC's service territory encompasses southern Idaho and eastern Oregon and its rates are also serves as parent for other modest-sized non-utility businesses. IPC's service territory encompasses southern Idaho and eastern Oregon and its rates are regulated by the Idaho Public Utility Commission (IPUC) and the Oregon Public Utility Commission (OPUC). SUMMARY RATING RATIONALE IPC's Baa1 senior unsecured rating reflects its relatively low business risk profile, the company's cost advantage over most of its national peers, and the usually credit supportive treatment it receives from state regulators, particularly as it relates to several rate decisions in May 2009. Key concerns continue to focus on hydro conditions given the persistence of drought conditions during the past decade and higher than historical average planned capital spending despite recent steps to curtail or delay certain projects. Moreover, while key credit metrics are beginning to trend upward, further strengthening of cash flow and continued conservative financing strategies are necessary to allay our concerns and improve the company's weak position within the Baa1 rating category. To accomplish this, continued support from state regulators in anticipated future general rate cases will also remain an important rating driver. DETAILED RATING CONSIDERATIONS RELATIVELY LOW BUSINESS RISK PROFILE IPC's business risk profile is influenced by its heavy reliance on low-cost hydro-electric power for its generating needs. IPC normally generates nearly half of its electricity from 17 hydro-electric developments on the Snake River and its tributaries. IPC also serves a portion of its electric load from three coal-fired power plants in Wyoming, Nevada, and Oregon, and from the natural-gas fired Bennett Mountain Power Plant and the Evander Andrews Power Complex in Mountain Home, Idaho. IPC is also the parent of Idaho Energy Resources Co., a joint venture partner in Bridger Coal Company, which supplies coal to the Jim Bridger generating plant owned in part by IPC. Moreover, IPC is not burdened with supporting any material debt load at the IDACORP level. IDACORP divested most of its prior investments in riskier non-regulated business during a three-year period covering 2005 - 2007, and has since made IPC its principal focus. The remaining non-regulated investments, which are relatively immaterial to our analysis, include independent power production at Ida-West Energy and affordable housing at IDACORP Financial Services. SUCCESSFUL REGULATORY INITIATIVES BODE WELL FOR CREDIT QUALITY IPC received approval from the IPUC for a total of 4.01% (about $27 million) in general rate increases implemented during the first quarter of 2009, which reflects the outcome of the utility's 2008 general rate case filing. While this was about 40% of the $67 million requested, the decision was based on an allowed return on equity of 10.5% (in line with many other jurisdictions) and did include about $6.8 million of AFUDC related to some hydro re-licensing activity in rate base. Also, at the end of May 2009 there were several favorable rate orders from the Idaho and Oregon commissions combined to address various other requests for revenue increases. These rate orders collectively approved rate increases of about $135 million effective June 1, 2009 and should contribute to a further rebound in IPC's financial results. Moreover, Senate Bill 1123 became effective July 1, 2009. Under this law the IPUC may grant pre- approval of rate treatment for certain utility capital expenditures. We would view pre-approval of rate treatment for IPC's future capital programs as a credit positive given the degree of assurance it would provide for cost recovery and the ability to earn a rate of return. The most significant of the May 2009 rate orders was the power cost adjustment (PCA) rate decision. Specifically, the IPUC approved the full amount of IPC's PCA filing, which amounted to $84.3 million. Importantly, IPC was able to use its most recent operating plan to forecast power supply expenses rather than the previous method based on forecast Brownlee Reservoir inflow and a regression formula. This change became effective in February 2009 after the IPUC agreed with IPC that the utility's plan was a better indicator of anticipated expenses and should create a better matching between actual costs incurred and the amounts in customers' rates. We understand that this practice will continue in future PCA filings; accordingly, future PCA balances should be considerably less and thereby reduce cash lag. Moreover, the IPUC has changed the sharing formula under the PCA mechanism to 95%/5% (customers/shareholders) from 90%/10% previously, thereby reducing risk to investors. Lastly, the load growth adjustment rate (LGAR) is now determined formulaically based on total production expenses included in current base rates, which reduces regulatory risk previously associated with the LGAR. The current LGAR of $26.63 per MWh is reduced from the $28.14 per MWh level that would otherwise apply based on the formula agreed to by parties in an earlier approved stipulation. The significance of the LGAR is that it adjusts IPC's net power supply costs that are included in the annual PCA filings for differences between actual load and the load used in calculating existing base rates. The combination of anticipated better matching between actual net power supply costs incurred and load growth experienced with levels assumed in setting existing rates should allay concerns about potential negative effects on IPC's earnings and cash flow when larger mismatches occur. The other revenue increases approved in May 2009 include: 1) an approved increase in IPC's Energy Efficiency Rider to 4.75% from 2.5%, establishing assurance for cost recovery of various energy efficiency programs; 2) adjustments under IPC's decoupling program aimed at de-linking revenues from volume; 3) revenue requirements to cover investments in advanced metering infrastructure; and 4) rate adjustments under the power cost adjustment mechanism in Oregon. ALTHOUGH CURTAILED SOMEWHAT, CAPEX PLANS REMAIN SIGNIFICANT IPC has scaled back its planned capital spending in line with economic conditions. Still, the level of spending (somewhat back-end loaded) could exceed $1.0 billion over the next three years if approval is granted for the 300-330 megawatt natural gas plant at Langley Gulch. The estimated expense for that project alone is $427 million, which subject to approvals could be in service by 2012. A filing with the IPUC for a certificate of public convenience and necessity is pending and a decision is expected by September 2009. IPC is requesting that this approval be granted and include pre-approval of one of two possible cost recovery methods under Senate Bill 1123 (i.e. either allowing CWIP in rate base or providing pre-approval for rate recovery that would take effect upon commercial operation), which would reduce the regulatory and financial risk that would otherwise be associated with this investment. Other spending relates to major transmission projects and other utility related distribution and general infrastructure (i.e. advanced metering infrastructure). We understand that management is in the midst of further review of the capital program, noting that one of its major transmission projects (i.e. the 500 kV Boardman-Hemingway Line) is likely to be delayed by at least a year due to some opposition, which would stretch out the spending to later years and reduce near term financing needs. IPC also expects to seek partners for as much as half of this project, which would further reduce capital needs. As in the past, a mix of debt and equity infusion from IDA is expected to be used to meet external funding required while targeting a capital structure comprised of a percentage of debt and equity close to current levels. Also, given the level of planned capex, we expect IPC to file for additional general rate increases in Idaho and Oregon later this year. EXPECTED IMPROVEMENT IN KEY CREDIT METRICS FOR 2009-2010 While rate relief approved in 2008 contributed to some improvement in IPC's CFO Pre-W/C to interest and debt for FY 2008 and for the 12-months ended March 31, 2009, those key metrics remain weak for its rating category. Specifically, IPC's CFO Pre-W/C to interest and debt were 2.9x and 10.6%, respectively, for the 12-months ended March 31, 2009. Improvement was masked to some extent during this period by a fairly significant increase in the standard adjustments for underfunded pension obligations. The underfunded pension position is not cause for undue concern at this stage because the IPUC provides for timely recovery of cash contributions through the rate process. Also, as the full effects of recent rate increases take effect over the balance of this year, we anticipate more significant improvement in the CFO Pre-W/C to interest and debt coverage metrics to well above 3x and the high teens, respectively, by FYE 2009. After considering Moody's standard adjustments, IPC was able to maintain its overall debt leverage ratio at 48.6% as of March 31, 2009. While this level represents a continuation of a slightly heavier debt component in the capital structure due to some new debt issued and the underfunded pension position, the metric is comfortably positioned relative to the range that we typically observe for Baa-rated regulated electric utilities. Even if debt levels creep slightly higher as capex is funded, management remains committed to keeping close to the current mix of debt and equity in its capital structure. Liquidity Profile IPC has reasonable liquidity supported by internally generated cash flows and its own committed bank credit facilities. In 2008, IPC's cash flow from operations covered approximately 40% of its total cash outlays, including approximately $240 million of capital expenditures and a $54 million dividend payment to its parent. The shortfall was funded primarily via $120 million long-term debt issuance, and $37 million capital contribution from the parent. Although we expect considerable improvement in cash flow from operations, we expect that IPC will continue to be in a negative free cash flow position over the next four quarters. We also expect any cash shortfalls to be funded via a combination of debt issuance and equity infusion by the parent. IPC has a $300 million committed revolving bank credit facility which expires in April 2012 and is principally used to backstop its commercial paper program. As of May 4, 2009, there were no direct borrowings under the facility and $36 million of commercial paper was outstanding. In addition to the $300 million revolver, IPC also has a $170 million term loan credit agreement expiring February 3, 2010. IPC used funds borrowed under the term loan to fund mandatory purchases of $166 million of pollution control revenue refunding bonds (PCRBs) that helped reduce interest expense through conversion of the bonds from an auction rate mode to weekly interest rate mode. Although IPC is the current holder of the PCRBs, it expects to remarket the bonds in late July and use the proceeds to repay the term loan. IPC has one financial covenant that applies to the revolver and the term loan, which limits the debt to total capitalization ratio as defined to 65%. As of March 31, 2009, IPC leverage ratio was 55.1%, leaving ample cushion against the covenant. IPC has a fairly manageable debt maturity schedule over the near term with its next scheduled debt maturity in December 2009, when $80 million of first- mortgage bonds (FMBs) mature. Beyond that date, IPC has $120 million of FMBs due in March 2011. Rating Outlook IPC's negative rating outlook reflects our concerns about lingering weakness in key credit metrics, the execution risks related to ongoing capital spending projects and related external financing needs. Although we note prospects for strengthening of key metrics as recent rate increases take full effect over the balance of 2009, we remain wary about the future directional trend of IPC's ratings. What Could Change the Rating - Up The negative outlook makes an upgrade unlikely in the near-to-medium term; however, IPC's rating outlook could stabilize if the anticipated benefits from recent rate relief materialize as expected and there are no material changes in the degree of regulatory supportiveness in very likely future rate filings. In terms of key metrics, the outlook could return to stable if CFO Pre-WC to interest and debt move above 3.5x and 15%, respectively, on a sustainable basis. What Could Change the Rating - Down The rating would likely be revised downward if the currently anticipated improvement in key metrics does not materialize in a timely manner. For example, if CFO Pre-W/C to interest and debt were to stay below 3.0x and 13%, respectively, for an extended period of time, then a rating downgrade could occur. The rating could also be revised downward if the company manages its significant capital expenditure program in a manner that is inconsistent with its current credit profile. Rating Factors Idaho Power Company Select Key Ratios for Global Regulated Electric Utilities Rating Aa Aa A A Baa Baa Ba Ba Level of Business Risk Medium Low Medium Low Medium Low Medium Low CFO pre-W/C to Interest (x) [1]>6 >5 3.5-6.0 3.0-5.7 2.7-5.0 2-4.0 <2.5 <2 CFO pre-W/C to Debt (%) [1]>30 >22 22-30 12-22 13-25 5-13 <13 <5 CFO pre-W/C - Dividends to Debt (%) [1]>25 >20 13-25 9-20 8-20 3-10 <10 <3 Total Debt to Book Capitalization (%)<40 <50 40-60 50-75 50-70 60-75 >60 >70 [1] CFO pre-W/C, which is also referred to as FFO in the Global Regulated Electric Utilities Rating Methodology, is equal to net cash flow from operations less net changes in working capital items CREDIT RATINGS ARE MIS'S CURRENT OPINIONS OF THE RELATIVE FUTURE CREDIT RISK OF ENTITIES, CREDIT COMMITMENTS, OR DEBT OR DEBT-LIKE SECURITIES. 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