NEW YORK--(BUSINESS WIRE)--Fitch Ratings has downgraded Wisconsin Energy Corp.'s (WEC) Issuer Default Rating (IDR) and senior unsecured debt ratings to 'BBB+' from 'A-'. In addition, Fitch has affirmed WEC's short-term IDR and commercial paper ratings at 'F2'. The Outlook is Stable.
Concurrently, Fitch has also downgraded Wisconsin Energy Capital Corp's (WECC) $50 million senior unsecured note due in 2028 to 'BBB+'. WECC's debt obligation is supported by an agreement with WEC and, as such, its debt instrument rating reflects the credit profile of WEC.
Fitch has removed the ratings of WEC and WECC from Rating Watch Negative where they were placed June 24, 2014, following WEC's announcement of the proposed acquisition of Integrys Energy Group, Inc. (Integrys; not rated by Fitch). With the merger approvals from Wisconsin and Michigan already secured, Fitch has greater confidence that WEC can successfully complete the pending merger, and therefore finds it appropriate to resolve the Rating Watch Negative at this time.
The ratings downgrade follows Fitch's expectation that WEC will soon issue approximately $1.5 billion of senior unsecured long-term debt to finance the cash consideration of the transaction. Fitch understands that the debt issuance is expected to include a call option in the event that the merger does not consummate.
Triggers for the rating action include:
--Increased parent-level debt;
--Integration risk of combining two relatively large utility holding companies;
--Regulatory diversification and projected higher cash flow contributions from transmission;
--Manageable regulatory concessions for merger approval.
KEY RATING DRIVERS
Increased Parent Leverage: Fitch estimates WEC's parent-only debt to increase to approximately 20% of pro forma total consolidated debt from 14% pre-acquisition, as a result of the debt issuance. Including Integrys' holdco debt, parent-level debt will represent a relatively high 30% of post-acquisition consolidated debt. The transaction effectively delays management's previous plan to reduce holdco debt, which Fitch had viewed as supportive of credit quality. Management has indicated they intend to reduce parent debt over time but have not established specific targets.
Weak Pro Forma Credit Metrics: Fitch projects WEC's pro forma leverage metrics to be significantly weaker than on a stand-alone basis and more reflective of a 'BBB' utility credit profile. Fitch forecasts funds from operations (FFO) lease-adjusted leverage in the first full year of operation to be approximately 4.6x and adjusted debt/EBITDAR near 4.3x. WEC's stand-alone FFO lease-adjusted leverage is projected to be closer to 4x and adjusted debt/EBITDAR closer to 3.5x. Fitch expects FFO leverage metric s to improve to roughly 4.3x by 2017 as WEC completes the first year of merger integration and cash flows benefit from capital investments at both WEC and Integrys subsidiaries.
Regulatory Diversification: Completion of the proposed acquisition will further diversify consolidated earnings and cash flows, with the addition of Integrys' five low-risk regulated electric and natural gas utility businesses that operate in the relatively supportive regulatory jurisdictions of Wisconsin, Illinois, Michigan, Minnesota, and FERC via its ownership into American Transmission Co. (ATC; 'A' IDR). Wisconsin is projected to represent approximately 70% of the combined company's rate base, with FERC and Illinois contributing about 14% and 13% of projected rate base, respectively. Importantly, with the acquisition of Integrys, WEC's ownership of ATC will increase to approximately 60% from 26%. Accordingly, management expects investments in transmission rate base to continue to grow over the next few years, despite the anticipated reduction in allowed returns on equity (ROEs) for MISO transmission owners as a result of complaint cases currently pending before FERC.
Although Integrys and its subsidiaries are not rated by Fitch, the agency would consider those entities to be relatively similar in financial profile to WEC's existing utility subsidiaries, with the largest utility in the Integrys group also operating in Wisconsin, and with the ownership of gas local distribution companies (LDCs) in multiple states that provide cash flow stability and earnings growth through committed investments in upgrades of gas infrastructure over the next several years. Furthermore, Integrys is now close to being fully regulated following its divestiture of its non-regulated retail business in 2014.
Pending Regulatory Approvals: WEC needs approval from the Illinois and Minnesota state commissions in order to close the merger. Management expects the Minnesota commission to issue a decision sometime in June 2015 while the statutory date for Illinois to render a decision is July 6, 2015. Both commissions apply a 'no harm' standard in consideration for merger approvals. Fitch does not anticipate any merger concessions likely to be imposed by the commissions to bear a material impact on the post-merger financial profile of the WEC group. Public scrutiny and commission investigation stemming from Peoples Gas Light & Coke's alleged mismanagement of its accelerated main replacement program has generated some noise during merger proceedings in Illinois, but should not play a significant role in the commission's consideration to approve the transaction, in Fitch's view.
In Fitch's opinion, the merger terms imposed by the Wisconsin and Michigan commissions are relatively favorable to utility credit quality, including the absence of any base rate freeze provisions.
Subsidiaries' Notching: The ratings of subsidiaries Wisconsin Electric Power Co. (WEPCO), Wisconsin Gas LLC (WI Gas), and Elm Road Generation Station Supercritical LLC (ERGSS), are unaffected by today's rating action. The one-notch downgrade of WEC's IDR results in a two-notch rating differential with WEPCO. Fitch generally maintains a one-notch differential between parent holding company and utility subsidiaries. Notching can be widened in instances where some form of ring-fencing provisions exists. Fitch believes subsidiary notching is appropriate at this time as financial contagion risk to the utilities is mitigated by regulatory ring-fencing provisions, including restrictions on utility dividend distributions to WEC, and prohibition to lend funds, directly or indirectly, to WEC and affiliates.
KEY ASSUMPTIONS
--$1.5 billion of incremental debt issued at WEC to fund part of the acquisition;
--Sales growth between 0% and 0.5%;
--Capital investments of approximately $5.6 billion over 2015-2018;
--No material financial impact assumed from potential regulatory concessions imposed by the Illinois or Minnesota commissions.
RATING SENSITIVITIES
Future developments that may, individually or collectively, lead to a positive rating action include:
--Deleveraging efforts that result in the FFO lease-adjusted leverage ratio to improve to near 4x;
--Successful integration of Integrys into the WEC group, including through the generation of material merger synergies.
Future developments that may, individually or collectively, lead to a negative rating action include:
--A more aggressive financial management policy that result in incremental parent leverage;
--Unfavorable regulatory developments that lead to a deterioration of utilities' financial profiles;
--FFO lease-adjusted leverage ratio between 5x-5.25x on a sustained basis.
LIQUIDITY
Liquidity is considered to be adequate. WEC has access to a maximum capacity of $400 million under a bank credit facility that expires in December 2019. There were no borrowings outstanding under the facility and $65 million of cash and cash equivalents were available at March 31, 2015. In addition, WEPCO and WI Gas maintain their own separate bank credit facilities with maximum capacity of $500 million and $350 million, respectively. Consolidated long-term debt maturities are considered manageable with $375 million due in 2015 and $250 million due in each of 2018 and 2019.
FULL LIST OF RATING ACTIONS
Fitch has downgraded the following ratings with a Stable Outlook:
WEC
--Long-term IDR to 'BBB+' from 'A-';
--Senior unsecured debt to 'BBB+' from 'A-';
--Junior subordinated debentures to 'BBB-' from 'BBB'.
WECC
--Senior unsecured debt to 'BBB+' from 'A-'.
Fitch has affirmed the following ratings:
WEC
--Short-term IDR and CP at 'F2'.
Additional information is available on www.fitchratings.com
Applicable Criteria
Corporate Rating Methodology - Including Short-Term Ratings and Parent and Subsidiary Linkage (pub. 28 May 2014)
https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=749393
Recovery Ratings and Notching Criteria for Utilities (pub. 05 Mar 2015)
https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=863298
Additional Disclosures
Solicitation Status
https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=985744
Endorsement Policy
https://www.fitchratings.com/jsp/creditdesk/PolicyRegulation.faces?context=2&detail=31
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