S&P: Some utilities have less 'financial cushion' to maintain credit quality in recession

Dive Brief:

S&P Global Ratings is revising its outlook for North American regulated utilities from "stable" to "negative" due to risks that COVID-19 impacts will cut away at many utilities' "financial cushions," which have already been somewhat depleted by a variety of events unrelated to the pandemic, the ratings agency announced in a report Thursday.
Despite this new vulnerability, regulated utilities are still in a better position to access credit than most other corporate industries and "will remain a high-credit-quality investment-grade industry," according to S&P Global.
Other major ratings agencies have also recently said that the utility sector has a bigger safety net to get through the crisis without a hit to creditworthiness, but that certain utilities are in a more precarious position, such as those that disproportionately depend upon commercial and industrial (C&I) customers for their revenue.

Dive Insight:

Regulated utilities are a popular investment choice at times of high volatility because they sell necessities and receive a rate of return set by regulators, rather than the market. Utilities do, however, frequently need to help fund their operations throughout a given year.

Even before the effects of the pandemic are considered, certain circumstances like natural disasters and acquisitions had led some utilities to take on even more debt according to the report, causing S&P to downgrade their credit rating, place them on a negative outlook or put them on the "threshold" of either of those events.

Some examples mentioned in the report include PG&E, Edison International and Sempra Energy, all affected by wildfires; NiSource Inc., which had to sell Columbia Gas of Massachusetts to Eversource Energy following charges regarding violations of federal pipeline safety laws; and Southern Co., SCANA Corp., Eversource, Duke Energy Corp. and Dominion Energy Inc., which have all been engaged in particularly large capital projects.

"Credit quality of the North America regulated utility industry was already weakening prior to COVID-19," S&P said. "We believe that incremental challenges that the industry will face from this recession exacerbates financial pressure and underpins our revised negative outlook for the industry."

Those challenges include lower energy sales to C&I customers, bad debt expense from customers unable to pay their bills and volatility in the commodity markets.

The commodity issue is particularly potent for utility holding companies that have a big presence in non-utility businesses that are more exposed to commodity risk, according to S&P. Examples cited in the report include OGE Energy Corp., CenterPoint Energy Inc., DTE Energy Co., Dominion Energy Inc., Public Service Enterprise Group Inc., NextEra Energy Inc. and Exelon Corp.

In a March 18 utility sector update, Moody's said that the virus's impact on C&I load could hurt the credit quality of some utilities.

"Sales to [C&I] customers, which account for about 50% of electric revenue, are far more vulnerable to economic disruptions than residential demand," the update said. "Those with weak financial metrics for their current credit profile, like Sempra Energy (Baa1 negative) and Duke Energy Corporation (Baa1 stable) will have little to no financial flexibility to withstand any form of financial challenges without taking mitigating measures."

Moody's included a list of the utilities most reliant on industrial load. ALLETE Inc., Superior Water, Light and Power Co. and Toledo Edison led the list with 74%, 73% and 57%, respectively, of their annual electric generation volume coming from industrial customers, according to Moody's. Northern Indiana Public Service Company, owned by NiSource, is in the top 10 with 54%.

A March 27 Fitch Ratings update to its 2020 outlook for various industries counts utilities among telecommunications, food and healthcare as industries that are "better-positioned" to withstand the sharp drawdowns in demand across the economy.

At the same time, Fitch also noted that some utilities can deal with this recession better than others. For example, Dominion Energy has a "stable" outlook, in part because the company has a relatively low reliance on sales to industrial customers, which contribute about 6% of Dominion's Virginia utility's revenue, Fitch said in a Thursday rating announcement.