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HomeMy WebLinkAbout2012-02-14_IDA Opinion.pdfCredit Opinion: IDACORP, Inc. Global Credit Research - 14 Feb 2012 Boise, Idaho, United States Ratings Category Moody's Rating Outlook Stable Issuer Rating Baa2 Sr Unsec Bank Credit Facility Baa2 Commercial Paper P-2 Idaho Power Company Outlook Stable Issuer Rating Baa1 First Mortgage Bonds A2 Senior Secured A2 Sr Unsec Bank Credit Facility Baa1 Senior Unsecured Shelf (P)Baa1 Commercial Paper P-2 Contacts Analyst Phone Ryan Wobbrock/New York City 212.553.7104 William L. Hess/New York City 212.553.3837 Key Indicators [1]IDACORP, Inc. LTM 3Q11 2010 2009 2008 (CFO Pre-W/C + Interest) / Interest Expense 4.5 4.3 4.5 2.9 (CFO Pre-W/C) / Debt 19%17%19%10% (CFO Pre-W/C - Dividends) / Debt 16%14%16%7% Debt / Book Capitalization 42%47%46%47% [1] All ratios calculated in accordance with the Regulated Electric and Gas 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 Primary subsidiary operations consist of a low risk vertically integrated utility Recent regulatory support through base rate increases and improvements to cost recovery mechanisms Potential metric pressures in light of significant utility capital expenditures Good liquidity profile Corporate Profile IDACORP, Inc. (IDA) is a holding company whose principal operating subsidiary is Idaho Power Company (IPC), a fully integrated regulated electric utility. On a stand-alone basis, IPC represents nearly all of IDA's consolidated operations. IDA's other operating subsidiaries include: IDACORP Financial Services, an investor in affordable housing projects and other real estate investments; and Ida-West Energy, an operator of nine small hydro-electric generation projects that satisfy the requirements of the Public Utility Regulatory Policies Act of 1978. IPC's service territory encompasses southern Idaho and eastern Oregon and its retail rates are regulated by the Idaho Public Utilities Commission (IPUC) and the Oregon Public Utility Commission (OPUC), while the Federal Energy Regulatory Commission (FERC) regulates its transmission operations. SUMMARY RATING RATIONALE IDA's Baa2 senior unsecured debt rating primarily reflects our assessment of key factors affecting the credit quality of IPC (Baa1 senior unsecured debt rating), which is its single largest subsidiary. The rating also takes into account the structural subordination of IDA's obligations in right of payment to those of IPC and its other subsidiaries. IPC's Baa1 senior unsecured rating reflects its relatively low business risk profile, the improved cost recovery treatment it has been receiving from state regulators in both jurisdictions and the financial pressures of executing a large capital program. Continued support from regulators in future general rate cases will be necessary to sustain the company's improved credit metrics, driven more recently by regulatory support and tax management related inflows. Continued conservative financing strategies will also remain an important rating driver, as will adequate hydro conditions, since low cost hydro generation contributes over 50% of IDA's owned generation. DETAILED RATING CONSIDERATIONS VAST MAJORITY OF HOLDINGS RESIDE IN RATE REGULATED UTILITY OPERATIONS On an annual basis, close to 100% of IDACORP's revenue, assets and cash flow are contributed from utility operations at Idaho Power. The remaining, relatively immaterial, non-regulated investments include independent power production at Ida-West Energy and affordable housing and other real estate investments at IDACORP Financial Services. The low business risk profile of IDA's primary subsidiary, IPC, as determined by the degree of legislative and regulatory support that IPC receives, is the most important factor to IDA's credit profile. Since IPC provides an essential service in two relatively supportive regulatory environments, the company has a high degree of assurance to its revenue and cash flow, which is why Moody's ascribes a low business risk to IPC's business operations. IPC operates as a vertically integrated electric utility company, providing electric service to over 494,000 customers in southern Idaho and eastern Oregon. IPC is also the parent of Idaho Energy Resources Co. (also regulated), a joint venture partner in Bridger Coal Company, which supplies coal to the Jim Bridger generating plant owned in part by IPC. SUPPORTIVE REGULATORY ENVIRONMENT The improving trend in IDA's credit metrics is primarily due to supportive regulatory treatment in recent rate case decisions for IPC, as well the general framework of regulatory practices in Idaho (IPC's principal jurisdiction), including: 1) a relatively swift 7-month statutory period governing rate cases; 2) frequent decisions based on settlements instead of litigated proceedings; 3) reasonable allowed returns on equity; 4) reliance on various cost tracking and adjustment mechanisms, periodic utilization of single- issue rate cases and partially forecast test years to avoid undue rate lag; and 5) pre-approval of future rate treatment for certain capital investments allowed under Idaho state law. On December 27, 2011, the IPUC authorized a modified extension of IPC's amortization of accumulated deferral investment tax credits (ADITC) through 2014. The modified order includes the previous order's stipulations of using the tax credits (up to $25 million in any one year) to achieve an actual earned ROE of 9.5%; the maximum level of ADITC allowed over the 2012-2014 period will be $45 million plus the ability to carryforward any unused ADITC amounts from previous years. Another modification of the December 2011 order includes an adjustment to the sharing level and manner of refund to customers, should IPC earn above their authorized ROE. As the earnings sharing currently stands, IPC would share earnings between a 10.0% and 10.5% ROE with customers on a 50/50 basis; whereas earnings that exceed 10.5% would be shared with customers on a 75% customers / 25% IPC basis. A final modification is that the company is allowed to file general rate cases, which will have a potential impact to the earned ROE threshold for customer sharing. Moody's views this order as continued evidence of the beneficial support that IPC receives from IPUC regulation. In particular, the likelihood of an earned ROE of 9.5% (given the maximum ADITC dollar thresholds) is a significant credit positive to the stability and strength of IPC's expected financial performance. On December 30, 2011, the IPUC issued approval of a rate settlement between IPC and intervening parties, which allows for a $34 million (4.07%) rate increase which took effect on January 1, 2012. Although the settlement was silent as per the allowed ROE, IPC is allowed a 7.86% rate of return on its $2.4 billion rate base. Furthermore, the settlement parties agreed to use IPC's proposed cost-of-service methodology to determine the energy related revenue requirement for its load cost adjustment rate (LCAR, fka LGAR or load growth adjustment rate). The LCAR methodology resolves the outstanding question of how the company would calculate the value of differences between actual load and the load assumed in rates. The IPUC decision is a credit benefit, as it allows for improved revenue and cash flow in future periods, as well as establishes a greater degree of predictability in cost recoveries provided by the LCAR. COST RECOVERY MECHANISMS PROVIDE SIGNIFICANT CREDIT SUPPORT Beyond the cost recovery provided by general rate cases and the significant credit benefit of ADITC amortization, one of the most significant of IPC's cost recovery provisions is the power cost adjustment (PCA) rate mechanism. The PCA reconciles actual purchase power costs incurred to the amounts included in customers' rates (derived from IPC forecast assumptions). The PCA mechanism includes a 95%/5% (customers/shareholders) sharing of the mismatch between forecasted and actual rates, thereby reducing risk to investors on any under-collected amounts. Another important recovery mechanism includes assurance to cost recovery for IDA's largest construction project via Senate Bill 1123 (SB 1123), which became effective in July 2009. Under SB 1123, the IPUC may grant pre-approval of rate treatment for certain utility capital expenditures, such as those associated with Langley Gulch, a 300-330 megawatt combined cycle generating facility, currently under construction. We generally view pre-approval of rate treatment for a utility's future capital programs as a credit positive given the degree of assurance it provides for cost recovery and the ability to earn a rate of return. In addition to the benefits of the aforementioned recovery mechanisms, IPC is currently working with the commission to solidify its decoupling mechanism (Fixed-Cost Adjustment or FCA) . In the past, the IPUC has expressed reluctance to make the FCA permanent, citing the desire for additional data and further evaluation. The December 2011 general rate case settlement has allowed for further discussion surrounding the FCA until a final order is issued no later than March 30, 2012. Moody's views the ongoing nature of these cost recovery mechanisms as evidence of the supportive and iterative working relationship between IPC and its regulators, and we deem the FCA to be further supportive to the financial profile of IPC (see Moody's report `Decoupling and 21st Century Rate Making'). CAPEX PLANS REMAIN SIGNIFICANT EVEN AS TRANSMISSION PROJECTS SLOWLY UNFOLD IDA's capital expenditures are expected to range from $450 - $470 million over the next three years. The conclusion of a major capex milestone is expected to occur when the Langley Gulch facility comes online in June 2012. This will mark the conclusion of total project costs, including AFUDC, of around $427 million. The IPUC approved a certificate of public convenience and necessity (CPCN) for this plant in September 2009. In granting the CPCN, the IPUC relied upon Senate Bill 1123 (SB 1123) to pre-approve inclusion of approximately $400 million of construction costs in IPC's rate base concurrent with the commercial operation date for the Langley Gulch plant. We view this pre-approval as a credit positive because it reduces the regulatory and financial risk that could otherwise be associated with this sizable investment. Importantly, any investment in excess of the pre-approved amount would not necessarily be disallowed, but recovery of and return on the excess would be subject to a separate rate proceeding. Langley Gulch construction is currently on-time and within budget. Other significant projects that IPC is pursuing include: a 21.21% ownership of the Boardman-Hemingway 500kV transmission line ($820 million of total project cost, expected to be in service in 2016); a joint proposal between IPC and PacifiCorp (Baa1 issuer rating, stable outlook) for the Gateway West transmission project (IPC's portion is expected to be in the range of $300 - $500 million); and installation of Advanced Meter / Smart Grid technology. The Boardman-Hemingway Line is a proposed 299-mile, 500-kV transmission line between Boardman, OR and IPC's Hemingway station near Boise, ID and includes the Bonneville Power Administration (BPA, Aa1 issuer rating, stable) as 24.24% owner and PacifiCorp as 54.55% owner. The Gateway West project is expected to connect the Hemingway station with the Windstar station, located near Douglas, WY. A mix of debt issuance and equity infusions from the parent are expected to be used to meet IPC's external funding requirements, while targeting a capital structure close to the current percentages of debt and equity. Also, given the level of planned capex at the utility level, we expect that IPC will likely need to file for additional general rate increases to take effect in Idaho. CASH FLOW LEVELS SHOULD BE SUSTAINABLE DESPITE RECENT TAX BENEFITS IDA's improved credit metrics, over the past few years, have been derived from a variety of sources, including rate authorizations from the IPUC, favorable methodology changes to the PCA, as well as benefits derived from various tax management strategies. Since 2009, significant amounts of cash from operations were generated from tax methodology changes related to capitalized repairs and uniform capitalization, as well as tax savings related to bonus depreciation. Moody's does not view these type of one-time methodology or economic stimulus options to be an ongoing source of cash for the company. The absence of these benefits have the potential to significantly reduce the ongoing levels of key credit metrics, which could pressure IDA's credit rating. However, declines from one-time tax benefits should be offset by the ongoing availability of ADITCs, if needed, and future rate increases; for example, Langley Gulch should be online and contributing to cash flow by mid-2012. Moody's is incorporating the view that management will continue to operate the company in a conservative and fiscally responsible manner to mitigate a portion of one-time items that have benefited metrics since 2009. Our expectation is that IDA should generate credit metrics approaching 4.0x CFO pre-WC interest coverage and the mid to high teens CFO pre-WC to debt. During LTM 3Q11, IDA produced CFO pre-WC interest coverage of 4.1x and CFO pre-WC to debt of about 17%. Liquidity Moody's observes that IDA appears to have sufficient liquidity over the next twelve months. IDA's internal liquidity sources include cash on hand of about $31 million as of September 30, 2011, and annual dividends provided by IPC and its other operating subsidiaries in the range of $60 million. Moody's estimates cash from operations on a consolidated basis to be around $300 million. On October 26, 2011, IDA entered into amended and restated credit facilities of $125 million holdco facilicty (up from $100 million) and a $300 million facility for IPC. Both facilities expire in October of 2016 and both have only one financial covenant, which limits the debt to total capitalization ratio as defined to 65%. IDA maintains access to short-term funding and alternative liquidity for commercial paper, which had about $52 million outstanding as of September 30, 2011. IPC's facility is also used as a back-up to commercial paper, and had no borrowings outstanding as of September 30, 2011, though $24 million is earmarked for variable rate bonds that are puttable to IPC. IDA has attempted to minimize its reliance on short-term debt, especially in support of capital expenditures at IPC, through the periodic issuance of common equity. We expect that this strategy will continue, including issuance of common stock under a continuous equity program and from its dividend reinvestment program (DRIP). IDA has no standalone long-term debt outstanding and no plans to issue holding company long-term debt in the foreseeable future. The next material maturity for IPC is when $100 million comes due in November 2012. Rating Outlook IDA's stable rating outlook mirrors the stable outlook for IPC, its principal subsidiary. IPC's stable rating outlook reflects recent supportive regulation, especially in Idaho, which should help avoid past volatility in key metrics and keep them closer in line with similarly rated peers. The execution risks associated with ongoing capital spending projects and external financing needs, coupled with questions regarding the appropriate run-rate for cash flow that has benefitted from one-time tax items are tempered by assurances of future rate treatment for the Langley Gulch plant, anticipated conservative funding strategies and future tax credit availability. IPC's outlook and ratings substantially drives those of its parent. What Could Change the Rating - Up Since IPC represents the predominance of IDA's holdings, IDA's rating is primarily a function of IPC's rating and outlook. IDA's outlook could turn to positive if the benefits from recent rate relief for IPC carry through and there are no material changes in the degree of regulatory supportiveness in IPC's future rate filings. In terms of key metrics, the outlook could turn to positive if CFO Pre-W/C to debt and CFO Pre- WC plus interest to interest can prove sustainable (absent one-time tax benefits) near its current high teens level and around 4.0x, respectively. What Could Change the Rating - Down The rating could be revised down if IDA's key credit metrics were pressured resulting in CFO pre-WC interest coverage and CFO pre-WC to debt, below 3.5x and 15%, respectively, for an extended period of time. This degradation in metrics could occur if the improved regulatory support for IPC wanes; if cash from operations materially decreases; or if recovery mechanisms do not work as anticipated. A rating downgrade could also occur if the company manages its significant utility capex program, and negative free cash flow position, in a manner that uses debt more aggressively than current capitalization ratios suggest. Rating Factors IDACORP, Inc. Regulated Electric and Gas Utilities Industry [1][2]Current LTM 12/31//2010 Moody's 12-18 month Forward View* As of Date Published Factor 1: Regulatory Framework (25%)Measure Score Measure Score a) Regulatory Framework Baa Baa Factor 2: Ability To Recover Costs And Earn Returns (25%) a) Ability To Recover Costs And Earn Returns Baa Baa Factor 3: Diversification (10%) a) Market Position (5%) Baa Baa b) Generation and Fuel Diversity (5%)49%A 48 - 55%A Factor 4: Financial Strength, Liquidity And Key Financial Metrics (40%) a) Liquidity (10%) Baa Baa b) CFO pre-WC + Interest/ Interest (3 Year Avg) (7.5%) 3.9x Baa 3.5 - 4.0x Baa c) CFO pre-WC / Debt (3 Year Avg) (7.5%)15.3%Baa 15 - 20%Baa d) CFO pre-WC - Dividends / Debt (3 Year Avg) (7.5%)12.1%Baa 10 - 15%Baa e) Debt/Capitalization (3 Year Avg) (7.5%)46.8%Baa 45 - 50%Baa Rating: a) Indicated Rating from Grid Baa2 Baa2 b) Actual Rating Assigned Baa2 Baa2 * THIS REPRESENTS MOODY'S FORWARD VIEW; NOT THE VIEW OF THE ISSUER; AND UNLESS NOTED IN THE TEXT DOES NOT INCORPORATE SIGNIFICANT ACQUISITIONS OR DIVESTITURES [1] All ratios are calculated using Moody's Standard Adjustments. 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