Fitch Downgrades MDU Resources' & Centennial Energy's Ratings; Affirms Cascade's Ratings

NEW YORK--()--Fitch Ratings takes the following ratings actions on MDU Resources Group, Inc. (MDU) and Centennial Energy Holdings, Inc. (Centennial), a holding company for MDU's nonutility operations:

MDU Resources Group, Inc.

--Long-term IDR downgraded to 'BBB+' from 'A-';

--Senior unsecured downgraded to 'A-' from 'A';

--Preferred stock downgraded to 'BBB' from 'BBB+';

--Short-term IDR and commercial paper (CP) affirmed at 'F2'.

Centennial Energy Holdings, Inc.

-- Long-term IDR downgraded to 'BBB' from 'BBB+';

-- Senior unsecured downgraded to 'BBB' from 'BBB+';

-- Short-term IDR and CP affirmed at 'F2'.

Fitch has affirmed the following ratings for MDU's regulated gas distribution subsidiary, Cascade Natural Gas Company (Cascade):

Cascade Natural Gas Co.

--Long-term IDR at 'A-';

--Short-term IDR at 'F2';

--Senior unsecured at 'A'.

The Rating Outlook for all three entities is Stable.

Approximately $2.1 billion of debt is affected by these actions.

Prior to today's rating action, the Outlook for both MDU and Centennial was revised to Negative in June 2012. Today's ratings downgrade for the two entities is supported by concerns about the increased business risk associated with the ongoing expansion into the higher risk upstream business at Centennial and its impact on the risk profile on both companies.

Furthermore, the trend of negative free cash flow (FCF) over the last several quarters has been largely driven by spending in upstream operations which is expected to increase. FCF was negative $291 million for the latest-12-month (LTM) period ending 1Q'14, and Fitch expects the company will remain FCF negative for the remainder of the year.

The Stable Outlook for Cascade is driven by its leverage, which is low compared to other similarly rated utilities. Cascade also enjoys potential parent support from MDU at the same time its own operations are substantially ring-fenced from MDU and Centennial. Fitch does not expect future rating changes at these other entities to impact Cascade.

KEY RATING DRIVERS (MDU)

MDU's rating reflects the benefit of MDU's diverse business mix and low leverage. It also considers the stable operating performance and low risk business profile of MDU's portfolio of regulated utilities which serve parts of eight contiguous states from Minnesota to Washington. The tariff mechanisms at the utilities generally provide for full recovery of commodity and purchased power costs that minimize cash flow volatility.

Rating concerns for MDU center on the company's reliance on non-regulated businesses at Centennial, including cyclical upstream operations and construction operations. Spending for upstream remains significant and is expected to be approximately 46% of the 2014 capex budget (which excludes $206 million spent on assets acquired in the Powder River Basin).

For the LTM, capital expenditures were $901 million. In 2013 and 2012 spending was approximately $900 million, up significantly from $497 million in 2011. In the current year, MDU plans to partially fund its spending program with $250 - $300 million of equity as well certain asset sales.

Total capex spending at MDU is expected to be approximately $1 billion in 2014. Over the next five years, the company projects it will spend $4.6 billion which includes the $206 million acquisition which was completed in 1Q'14. The sum also includes spending of $1.3 billion for the regulated utility segments.

MDU's consolidated leverage defined as debt to EBITDA was 2.4x for the LTM ending with the 1Q'14, which is up slightly from the end of 2013 when it was 2.1x. Fitch expects to see leverage in the range of 2.25 - 2.5x by the end of 2014.

EBITDA for the LTM ending 1Q'14 was $884 million, slightly better than the $880 million generated in 2013 and substantially higher than the $770 million generated in 2012. In 2013, $72 million of the EBITDA increase against 2012 was attributed to improved results at the upstream segment.

In 2013, EBITDA contributions were 10% from electric utilities, 15% from natural gas distribution utilities, 6% from pipelines and energy services, 40% from upstream, 19% from construction materials and contracting, and 11% from construction services.

Liquidity for MDU was approximately $678 million at the end of 1Q'14. Cash was $84 million (including approximately $23 million held at a JV) and availability on its four credit facilities was $454 million. Both MDU and Centennial maintain and utilize commercial paper programs backed by revolvers.

During 2Q'14, MDU's revolver was upsized to $175 million from $125 million and matures in 2019. Also during the current quarter, Centennial's revolver was increased to $650 million from $500 million and expires in 2019. Cascade's $50 million revolver expires in 2018. Intermountain's $65 million revolver matures in 2018. All four bank agreements restrict the debt to capital ratio from exceeding 65%.

Debt maturities are not significant in 2014. In 2015, $269 million of debt will mature followed by $294 million in 2016.

KEY RATING DRIVERS (Centennial)

The ratings for Centennial are supported by its strong financial profile and diverse mix of businesses, including upstream, midstream and construction.

Ratings concerns for Centennial center on its upstream operations which are a significant focus for the entity. These operations generate volatile cash flows and require significant capex. The construction segment has shown improvements and has seen significant increases in the backlog; however, it also is also very economically sensitive.

Centennial's stand-alone credit metrics remain healthy. Its financial profile benefits from a modest financial leverage position with debt to total capitalization managed around 30% to 35%. As of 1Q'14, Centennial had $271 million of availability on its $500 million revolver. This bank facility is now $650 million and extends to 2019.

Upstream operations will continue to require a significant amount of capital to support the growing drilling program.

While Fitch analyzes Centennial on a stand-alone basis, it is important to note that its parent, MDU, does offer the company support in the form of capital contributions as needed so that Centennial can operate with a low debt to capitalization ratio. However, Fitch believes there are limits to this support, as a portion of MDU's regulated businesses are ring-fenced and may not be available to support unregulated operations in a downside scenario.

KEY RATING DRIVERS (Cascade)

Cascade's ratings take into consideration the utility's regulated cash flows, supportive regulatory environment, strong stand-alone credit metrics, adequate liquidity position that is supported by MDU, and manageable capital spending and external funding requirements.

Concerns for Cascade are modest and include volume sensitivity to weather consider in the absence of a weather normalization clause in Washington where it receives approximately 70% of its operating margin.

As of 1Q'14, Cascade had $48 million of availability on its $50 million revolver which matures in 2018.

Cascade is significantly insulated from MDU's other regulated and nonregulated businesses through ring-fencing. Ring-fencing mechanisms include no Cascade guarantees or cross default provisions within debt agreements at other MDU entities which could impact Cascade, and a prohibition on intercompany loans.

RATINGS SENSITIVITIES

Positive: Future developments that may, individually or collectively, lead to positive rating action include:

--Favorable rating action is not viewed as likely on any of the issuers. However, if MDU and Centennial increased focus on regulated operations positive rating action could occur.

Negative: Future developments that may, individually or collectively, lead to negative rating action include:

--Leverage at MDU in excess of 2.5x on a sustained basis.

--Continued expansion in non-regulated businesses as a percentage of total EBITDA.

--Higher leverage as a result of EBITDA contraction or due to debt increases for acquisitions or to fund growth projects.

Additional information is available at 'www.fitchratings.com'.

Applicable Criteria and Related Research:

--'Corporate Rating Methodology Including Short-Term Ratings and Parent and Subsidiary Linkage' (May 2014);

--'Rating Pipelines, Midstream and MLPs: Sector Credit Factors' (Jan. 2014);

--'Investor FAQs: Recent Questions on the Pipeline, Midstream, and MLP Sectors' (August 2013).

Applicable Criteria and Related Research:

Corporate Rating Methodology - Including Short-Term Ratings and Parent and Subsidiary Linkage

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=749393

Rating Pipelines, Midstream and MLPs — Sector Credit Factors

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=722082

Investor FAQs: Recent Questions on the Pipeline, Midstream, and MLP Sectors

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=715517

Additional Disclosure

Solicitation Status

http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=835263

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Contacts

Fitch Ratings
Primary Analyst
Kathleen Connelly, +1 212-908-0920
Director
Fitch Ratings, Inc.
33 Whitehall Street
New York, NY 10004
or
Secondary Analyst
Peter Molica, +1 212-908-0288
Director
or
Committee Chairperson
Mark C. Sadeghian, CFA, +1 312-368-0290
Senior Director
or
Media Relations, New York
Brian Bertsch, +1 212-908-0549
brian.bertsch@fitchratings.com

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Contacts

Fitch Ratings
Primary Analyst
Kathleen Connelly, +1 212-908-0920
Director
Fitch Ratings, Inc.
33 Whitehall Street
New York, NY 10004
or
Secondary Analyst
Peter Molica, +1 212-908-0288
Director
or
Committee Chairperson
Mark C. Sadeghian, CFA, +1 312-368-0290
Senior Director
or
Media Relations, New York
Brian Bertsch, +1 212-908-0549
brian.bertsch@fitchratings.com