Fitch: Stable Outlook Overall for U.S. Power and Gas Sector in 2007.
Conversely, elevated energy commodity prices combined with other rising cost elements form a challenging environment for the regulated gas and electric utility sector. Cash flows could be reduced by tariff increases in excess of general inflation measures. Some utilities such as public power utilities, gas distributors, and most traditionally regulated integrated investor-owned electric utilities are better positioned to recover rising costs, while some investor-owned electric utilities face a more contentious regulatory and political environment.
Another factor that will affect the credit outlook for electric utilities is a trend of rising capital spending (capex) requirements to replace aging infrastructure, add new power and transmission facilities, and meet environmental mandates. While capex is not intrinsically a negative credit factor for regulated utilities, it will add to cost pressures.
The macroeconomic environment and continued buoyant capital market conditions are favorable to all segments within this capital-intensive industry. Relatively low interest rates, narrow credit spreads, the entrance of new equity investors, and strong equity valuations improve the liquidity and capital resources of the group. As a result, the industry currently enjoys a low weighted average cost of capital, enhancing returns on new investments.
In the intermediate or longer term, Fitch anticipates that the power and gas sector will eventually face escalating credit challenges. Capital market conditions that are currently positive for this sector will eventually turn less accommodating. Companies that form growth plans and financial structures without considering the potential for a shift in the capital market environment or downturn in valuations can run into financial problems down the road. Easy and liberal financing has accelerated merger and acquisition (M&A) activity, and it would be unsurprising to witness some fall-out from the lofty prices being paid for power and gas assets and/or companies. Share-for-share M&A activity tends to encourage treasury share buybacks as companies look to make these transactions accretive. As the capex cycle moves into a later stage, companies with large construction commitments are more vulnerable to completion delays, cost overruns, or increases in market interest rates. Also, there is a possibility that sustained higher prices for gas and electric power and public programs for demand management will eventually lead to reduced consumption, at the same time that costly new facilities come on-line.
Debt maturities in the sector are relatively modest in 2007-8. Companies have taken advantage of favorable financing markets over the past several years to refinance on favorable terms, and new funding needs over the next two years will likely depend to be dependent on M&A activity or the ramp-up in capital spending. As the capex cycle ramps up, Fitch anticipates increased demand for non-recourse financing of major infrastructure projects.
Fitch's full 2007 outlook report can be accessed at Fitch web site www.fitchratings.com by clicking on the '2007 Outlooks' icon. The report includes Fitch's current ratings and Outlooks for over 370 entities in the sector.
Coinciding with the release of the 2007 outlook, Fitch has also published a special report analyzing 22 issuers in the North American oil and gas industry. The companies are: Ameren Corp; American Electric Power Company, Inc.; Constellation Energy Group; Dominion Resources, Inc.; Duke Energy Corp.; Dynegy, Inc.; Edison International; Energy Transfer Partners, L.P.; Entergy Corp.; Enterprise Products Operating, L.P.; Exelon Group; FirstEnergy Corp.; Kinder Morgan Group; MidAmerican Energy Holdings Co.; Mirant Corp.; NRG Energy, Inc.; PEPCO Holdings, Inc.; Progress Energy Group; Sempra Energy; Sierra Pacific Resources; TXU Corp.; Wisconsin Energy Corp.; and The Williams Companies. This report can also be found at the aforementioned link on Fitch's web site.
INDUSTRY SEGMENT OUTLOOKS
Outlooks for the industry segments within the U.S. Power and Gas Sector are outlined below.
-- Competitive Power Generation and Merchant Traders: Credit outlook is stable to positive, reflecting narrowing power capacity reserve margins, a trend that favors profitability and operating cash flow for owners of existing capacity. Entities with speculative ratings are still in a credit recovery, and are particularly benefited by tightening reserve margins and by the easy and low cost financing environment.
-- Natural Gas Midstream, Terminal and Transportation: The positive 2007 credit outlook for midstream companies relates to high product prices and favorable margins. Fitch foresees a stable outlook for interstate natural gas pipelines, which have proven to be relatively insulated from commodity price volatility. Longer term, the outlook is stable.
-- Investor-Owned Electric and Gas Utilities: Stable outlook for natural gas distribution business, as the utilities have generally already absorbed the sharp increase in natural gas prices in 2005-6 and succeeded in recovering higher costs from consumers. The outlook for regulated electric utilities is mildly negative, reflecting rising capex and other expense elements that will contribute to the increasing unit cost of utility service. Some utilities in states that did not restructure their electricity markets have more stable regulatory and political relations, while states that restructured their markets five or six years ago or utilities with multi-year tariff freezes still face ongoing event risk.
-- Public Power Utilities: Credit outlook is stable; while these utilities face the rising unit costs and capital spending requirements similar to those facing investor-owned utilities, they typically benefit from the ability to adjust their own tariffs and a more supportive political environment.
The segment outlooks summarized above are based on a top-down analysis of economic forces. Individual Rating Outlooks of entities in the sector will be driven by their specific circumstances and not by generic industry factors. Entities operating in constructive regulatory environments or insulated from commodity price swings through diversified resources or favorable hedging contracts are best situated to weather volatile commodity markets. Companies' financial resources and strategies differ, and these are significant drivers of the ratings and outlooks of each entity.
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|Date:||Dec 18, 2006|
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