Fitch Upgrades BGE Capital Trust II
The Trust is a special purpose entity formed by BGE for the sole purpose of issuing the preferred securities and using the proceeds to purchase subordinated deferrable interest debentures from BGE. The Trust holds BGE's junior subordinated deferrable interest debentures and the receipt of interest and principle on the debentures provides the sole funding source for the preferred securities. The preferred securities are mandatorily redeemable upon maturity of the subordinated debentures in 2043.
BGE has the right to defer interest payments on the junior subordinated notes for up to five years, in which case quarterly distributions on the preferred stock may be deferred by the Trust. If BGE exercises its right to defer interest payments on the subordinated notes, BGE cannot pay dividends on any shares of its capital stock. The deferral can be exercised on more than one occasion. The subordinated notes are junior and subordinate to all senior debt of BGE.
KEY RATING DRIVERS
Credit Metrics: BGE's financial position is consistent with its current rating. The credit profile has been bolstered by a series of electric and gas base rate increases implemented in February and December 2013 and December 2014. In 2015, Fitch expects debt/EBITDAR and funds from operations (FFO) fixed-charge coverage to approximate the 2014 levels of 2.9x and 5.8x, respectively, with FFO-adjusted leverage increasing to a still strong range of 3.25x-3.5x.
Regulatory Recovery Mechanisms: Rate adjustment mechanisms outside of base rate cases tend to stabilize BGE's cash flow. These include decoupling for both residential and commercial gas and electricity sales, and purchased gas and purchased power recovery mechanisms. In 2014, Maryland regulators approved a rider to recover gas infrastructure improvements and have approved two subsequent surcharges. Certain capex is also subject to tracking mechanisms, including energy efficiency.
Base Rate Decision: In December 2014, BGE implemented electric and gas rate increases aggregating $60 million, the third in a 22-month period. Although the tariff increase was only about 33% of the amount supported by BGE, the higher rates should support BGE's existing financial position. Importantly, the rate case was approved after a settlement agreement, which is highly unusual in Maryland, that came only five months after filing, compared with the more typical seven-month review in fully litigated Maryland rate cases.
Ring-fencing: BGE's funding and treasury practices result in moderate ring-fencing of the utility from parent Exelon Corp. (EXC) and affiliates. These include maintaining separate books and records, separate credit facilities and commercial paper programs and allocating parent expenses according to a Cost Allocation Manual. Also, BGE does not participate in the corporate money pool, and BGE's financings do not contain any provisions that could result in cross defaults between BGE and EXC.
Dividend Restrictions Expired: The dividend restriction imposed on BGE in 2012 as a condition of approving the merger between EXC and Constellation Energy Group, Inc. expired Dec. 31, 2014, which will adversely affect future cash flow. Based on a midpoint of management's earnings guidance and a 70% payout ratio, 2015 dividends will be roughly $150 million.
--Electric customer growth of about 0.5%; flat growth for gas customers;
--BGE begins paying dividends in 2015;
--On-going rate support.
Positive Rating Action: Reducing debt/EBITDAR below 3.4x on a sustained basis while maintain adjusted FFO leverage below 4.0x and FFO fixed charge coverage above 4.8x could lead to higher ratings.
Negative Rating Action: While not expected, FFO leverage above 4.75x and/or FFO coverage below 4.5x on sustained basis could lead to lower ratings. Lack of rate support for infrastructure investments or a change in commodity cost recovery provisions could also lead to lower ratings.
A $600 million committed credit facility provides ample liquidity. The credit facility supports a commercial paper program of equal size and also provides for direct borrowings. The credit agreement extends to May 2019 and allows for a one-year extension. Available cash at June 30, 2015, was $24 million and there were no commercial paper borrowings. Due to ring-fencing measures, BGE does not participate in the EXC corporate money pool.
FULL LIST OF RATING ACTIONS
Fitch has upgraded the following rating:
BGE Capital Trust II
--Preferred stock to 'BBB' from 'BBB-'.