NEW YORK--(BUSINESS WIRE)--Fitch Ratings has affirmed the Long-Term Issuer Default Ratings (IDR) of DTE Energy Co. (DTE) at 'BBB+' and DTE Electric (DECo) at 'A-' and revised both Rating Outlooks to Negative from Stable following the announcement of a definitive agreement to acquire midstream pipeline and gathering assets in the Marcellus/Utica basin for $1.3 billion. In addition, Fitch has affirmed the Long-Term IDR of DTE Gas (DTEGas) at 'BBB+' with a Stable Rating Outlook. More than $9.7 billion of consolidated long-term debt is affected by today's rating action. A full list of rating actions follows at the end of this release.
DTE's Negative Outlook primarily reflects increased leverage and business risk associated with the midstream acquisition, the full price paid for the natural gas gathering assets approximating 10x - 11x projected 2017 EBITDA, and construction and execution risk associated with DTE's $1 billion investment in the Nexus Pipeline project. Assuming that the acquisition closes next month as expected, Fitch estimates that DTE's funds from operations (FFO) leverage will weaken to approximately 5.0x in 2017 from 3.6x currently before rebounding in the outer years of our 2016 - 2019 forecast.
DECo's Negative Outlook reflects the operating utility's rating linkage with its corporate parent, DTE, and heightened parent company business risk. Fitch's assessment of DTE's group structure supports up to a one notch differential between the parent and its utility operating subsidiaries IDRs.
DTE is acquiring the Appalachian Gathering System (AGS) and a 40% ownership interest in Stonewall Gas Gathering (SGG) from M3 Midstream (not rated [NR]) in addition to a 15% ownership interest in SGG from Vega Energy Partners (NR).
Fitch expects DTE to finance the $1.3 billion acquisition at the parent-level and the company has secured temporary acquisition financing through a fully committed $1.4 billion bridge facility as a backstop measure. Permanent acquisition financing is expected to consist of 50% of mandatory convertible notes and 50% of senior unsecured notes. Fitch does not give any equity credit to the mandatory convertible notes but does capture the equity conversion in the financial forecast. The acquisition is expected to close and fund in mid-October, subject to approval under the Hart-Scott-Rodino Act.
KEY RATING DRIVERS
Leverage Pressures Credit Metrics: Fitch estimates consolidated pro forma FFO leverage at DTE will weaken to approximately 5.0x in 2017 from under 4x in 2015 as a result of the acquisition before improving to 4.6x in 2018 and 4.3x in 2019. Deleveraging is expected to be a function of EBITDA growth associated with the acquisition and commercial operation of the Nexus pipeline in late 2017 as well as conversion of the equity units. Fitch projects DTE's FFO fixed coverage will approximate 5.0x or better through 2019. Lower than estimated operating results at the AGS/SGG natural gas gathering system or execution risk associated with permitting and building the NEXUS pipeline could lead to future adverse rating actions, in Fitch's opinion.
Increased Business Risk: Fitch expects DTE's business to modestly increase through the forecast period given the size of the acquisition relative to the scale of the company's existing utility operations. Going forward, Fitch expects DTE's regulated utility operations to approximate 80% of annual EBITDA in 2019 as compared to 84% last year.
Constructive Regulatory Environment: Fitch believes the regulatory environment in Michigan is credit supportive. The current regulatory framework allows for full pass-through of fuel and purchased power costs, reasonable return on equity (ROE), forward-looking test years and a timely resolution of rate proceedings. DECo's and DTEGas's current authorized ROE's of 10.3% and 10.5%, respectively compare favourably to recent industry averages and the utilities can self-implement rates if earned ROE dips below the authorized level. Furthermore, a revenue-decoupling mechanism and IRM at DTE Gas helps to reduce exposure to regulatory lag.
Non-Utility Businesses: Fitch expects growth in DTE's non-utility businesses to be primarily driven by the Gas Storage and Pipeline (GSP) business and to a lesser extent, the Power and Industrial (P&I) business segment. Strong demand has driven growth opportunities for DTE's GSP segment in the Marcellus Shale and Utica Basin. DTE is currently moving forward with plans to permit and construct NEXUS while increasing capacity at its Bluestone and Vector pipelines to move Utica and Southwest Marcellus shale gas to markets in the U.S. Midwest and the Northeast.
The GSP business is supported by long-term contractual arrangements while the P&I segment is primarily focused on renewable energy and industrial cogeneration projects with long-term power purchase agreement contracts with limited commodity price risk.
The NEXUS Gas pipeline project is moving forward as agreements with several local distribution companies and key shippers have been executed for the majority of pipeline capacity. DTE and Spectra Energy Corp. are joint developers of the 250 mile 1.5 Bcf Nexus gas pipeline and DTE's expected investment is $1 billion which will be funded at the parent and potentially funded after in service with project debt. DTE filed for FERC approval of the NEXUS pipeline in the fourth quarter 2015 and Fitch expects a final decision in the first quarter of 2017. Assuming FERC approval and permitting, Fitch expects DTE to begin construction in February 2017 and commercial operation in the fourth quarter of 2017. The project is currently 70% contracted and supported by take-or-pay contracts with shippers with an average term of 15 years. The natural gas gathering assets to be acquired by DTE are 80% contracted with an average tenor of 10 years.
Large Capex Program: DTE plans to spend $10.8 billion on capital investments over 2016-2019, including its $1 billion investment in the NEXUS pipeline, levels approximately 54% higher than the preceding four-year period. Capital spending will be primarily focused on the regulated utilities (approximating 75% of total) and includes meaningful investment in the GSP and P&I business segments. Because of the large capex program at the regulated utilities, both will need equity support from the parent through 2019 to help maintain balanced capital structures. Growing natural gas pipeline and utility investments will render DTE FCF negative in the intermediate term and Fitch expects DTE to fund the deficit primarily with debt.
Favourable Tax Carryforward Position: DTE's favourable tax carryforward position along with the extension of bonus depreciation rules late last year will bolster FFO through the forecast period while reducing anticipated equity needs. DTE retains tax credits totaling $1.1 billion as of June 30, 2016 while the extension of bonus depreciation rules is expected to result in $300 million-$400 million of additional cash flow over the next five years.
KEY ASSUMPTIONS
Fitch's key assumptions within the rating case for include:
--Constructive regulatory environment in Michigan;
--Nexus pipeline enters service in late 2017;
--Large capex program totaling $10.8 billion through 2019;
--Long-term debt maturities including $165 million in 2016, no maturities in 2017, $410 million in 2018, $427 million in 2019.
RATING SENSITIVITIES
DTE Energy Inc.
Future developments that either individually or combined could lead to positive rating actions include:
--Due to the recent acquisition and Negative Rating Outlook no positive rating actions are expected at this time. However, unexpected constructive developments resulting in FFO adjusted leverage of 4.0x or better could lead to future rating upgrades.
Future developments that either individually or combined could lead to negative rating actions include:
-- Material delays associated with permitting and constructing the NEXUS pipeline and absent any improvement in FFO leverage below 4.5x through the forecast period could lead to negative rating actions.
DTE Electric Co.
Future developments that either individually or combined could lead to positive rating actions include:
Fitch would stabilize the Rating Outlook at DECo concurrent with that of DTE. Given Fitch's preference to keep the IDRs of DTE and DECo one notch apart, we do not see any future positive rating actions for DECo.
Future developments that either individually or combined could lead to negative rating actions include:
--A downgrade of DTE would result in a rating downgrade at DECo;
--An adverse change in Michigan's regulatory climate;
--Sustained debt-to-EBITDAR metrics in the 3.5x-3.75x range.
DTE Gas Co.
Future developments that either individually or combined could lead to positive rating actions include:
--Positive rating actions are unlikely unless the Rating Outlook at DTE is stabilized. Future positive actions will be driven by a better than expected outcome in the utility's pending GRC and/or sustained debt-to-EBITDAR metrics at 3.5x or below.
Future developments that either individually or combined could lead to negative rating actions include:
--An unexpected adverse change in the regulatory environment that limits the utility's ability to recover its costs in a timely manner;
--Sustained debt-to-EBITDAR metrics in the 3.75x-4.00x range.
LIQUIDITY
DTE has approximately $1.8 billion of total liquidity available under its respective credit agreements as of June 30, 2016, including $32 million of unrestricted cash and cash equivalents. DTE's consolidated five-year unsecured revolving credit facilities mature in April 2021 and are composed of $1.2 billion at DTE, $400 million at DECo, and $300 million at DTE Gas. The facilities have a maximum debt-to-capitalization covenant of 65% and DTE was in compliance with consolidated debt-to-capitalization of 50% under its credit agreement as of June 30, 2016. Debt maturities over the next five years are manageable and are as follows: $165 million in 2016, no maturities in 2017, $410 million in 2018, $427 million in 2019, and $650 million in 2020. Maturing debt will be funded through a combination of internal cashflows and external debt refinancings.
FULL LIST OF RATING ACTIONS
The following ratings have been affirmed and the Outlook revised to Negative from Stable:
DTE
--Long-Term Issuer Default Rating (IDR) at 'BBB+';
--Senior unsecured notes at 'BBB+';
--Junior subordinated notes at 'BBB-';
--Short-Term IDR at 'F2';
--Commercial paper at 'F2'.
DECO
--Long-Term IDR at 'A-';
--Senior secured at 'A+';
--Secured pollution control revenue bonds at 'A+';
--Short-term IDR at 'F2';
--Commercial paper at 'F2'.
The following ratings have been affirmed with a Stable Outlook:
DTE Gas Co.
--Long-Term IDR at 'BBB+';
--Senior secured at 'A';
--Short-Term IDR at 'F2';
--Commercial paper at 'F2'.
Disclosure: There were no financial statement adjustments made that were material to the rating rationale outlined above.
Additional information is available on www.fitchratings.com
Applicable Criteria
Criteria for Rating Non-Financial Corporates (pub. 27 Sep 2016)
https://www.fitchratings.com/site/re/885629
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