Fitch Ratings has assigned a 'BBB+' rating to Dominion Energy Inc.'s (DEI) issuance of 2022 series C 5.375% senior notes due 2032.
Net proceeds from the transaction will be used for general corporate purposes and to repay short-term debt, which, as of Oct. 31, 2022, included $1.4 billion in outstanding CP. DEI's Long-Term Issuer Default Rating (IDR) is 'BBB+'. The Rating Outlook is Stable.
Key Rating Drivers
Announced Business Review: DEI announced a 'top-to-bottom' business review on Nov. 4, 2022. The company's stated goal of the review is to consider value-maximizing strategic business actions, alternatives to current business mix and capital allocation, and regulatory options to provide greater predictability. The timing for completion of the review is uncertain. Fitch will consider the outcome of the review's impact on business mix and parent level debt, in addition to credit metrics.
Diversified Asset Base: DEI's geographically diverse portfolio consists of five state-regulated electric and gas utilities, nuclear power generation, contracted renewables and a 50% ownership in Cove Point LNG. Currently, state-regulated operations are expected to comprise 90% of DEI's operating earnings. DEI's utilities benefit from constructive regulatory environments, and in most cases, above average customer growth. Virginia Electric and Power Company (VEPCo; A-/Stable) remains the largest contributor with approximately 60% of expected operating earnings. In August 2022, DEI closed on the sale of its West Virginia gas utility, Hope Gas, for $690 million. The proceeds of the Hope sale were used for parent level debt reduction.
Constructive Regulation: Fitch views the state regulatory environments in which DEI's utilities operate to be supportive of credit quality. In addition to favorable base rate outcomes, DEI subsidiaries benefit from numerous rider recovery mechanisms. In Virginia, VEPCo's primary regulatory jurisdiction, adjustment clauses currently make up approximately 50% of VEPCo's rates, but are expected to increase to approximately 70% over the next five years. Fitch views such rider mechanisms favorably as they reduce regulatory lag and are decoupled from volumes.
Virginia Clean Economy Act: The Virginia Clean Economy Act (VCEA) was enacted In April 2020. The legislation mandates fossil plant retirements, deems renewable investments to be in the public interest and eligible for rider recovery and increases thresholds for energy efficiency, among other aspects. As envisioned, VCEA will result in significant investment by VEPCo in offshore wind, solar, onshore wind and energy storage.
Coastal Virginia Offshore Wind Project: VEPCo is developing the Coastal Virginia Offshore Wind Project (CVOW). The first phase will provide VEPCo with 2.6 GW of rate-based wind generation at an estimated cost of $9.8 billion, excluding financing costs. The U.S. Bureau of Ocean Energy Management issued a Notice of Intent in July 2021, beginning the two-year permitting process. On Aug. 5, 2022, The Virginia State Corporation Commission (SCC) approved VEPCo's $78.7 million revenue request for the rate year Sept. 1, 2022 to Aug. 31, 2023.
In the approval order, the SCC included an operating performance guarantee, which Fitch considered as potentially negative to VEPCo's longer-term credit quality. The SCC granted reconsideration of the order and on Oct 28, 2022, VEPCo reached a settlement with multiple intervenors in the case. Among the significant terms of the settlement is a set schedule for cost sharing mechanism for costs above $9.8 billion, provisions to review operating performance and an agreement to flow any benefits from the Inflation Reduction Action to customers. Fitch considers the removal of the prior performance guarantee as positive. The cost sharing agreement does not preclude a review of the project cost reasonableness or prudence. The settlement requires commission approval.
Large Capex Plan: As a result of the CVOW project, Fitch expects DEI's 2022-2024 capex forecast to approximate $30.1 billion, a 30% increase from the prior 2021-2023 forecast of approximately $23 billion capex. The forecast, of which two-thirds is allocated to VEPCo, reflects significant spending ramping up for VEPCo's OFW in 2023-2024.
Elevated Leverage Expected: VEPCo's CVOW project is not expected to be operational until end of 2026. During the construction and commissioning period of the project, Fitch expects DEI will exceed the previously stated downgrade threshold FFO leverage of 5.0x. Given the relatively favorable regulatory construct and long-term benefits of the project, Fitch believes DEI's elevated leverage due to the project, is temporary and, as a result, expects leverage to begin improving upon project completion. Any indication of higher than expected costs, projects delays or declining regulatory support could result in a reconsideration of the currently allowed flexibility in credit metrics.
Prior to the announcement of the business review, Fitch expected DEI's parent-level debt would remain high for its rating at 35%-40% during the 2022-2024 forecast period; however, Fitch notes that parent level assets such as Millstone nuclear power station or Cove Point LNG provide cash for parent level debt service. Fitch has deconsolidated $2.5 billion of non-recourse Cove Point debt and its accompanying cash distributions from DEI's consolidated credit metrics.
Parent-Subsidiary Rating Linkage: There is parent subsidiary linkage between DEI and all of its rated subsidiaries. Fitch determines DEI's standalone credit profile (SCP) based on consolidated metrics. Fitch believes DEI's regulated utility subsidiaries have stronger SCPs than DEI. As such, Fitch has followed the stronger subsidiary path. Emphasis is placed on the subsidiaries' status as regulated entities. Legal ring fencing is considered porous given the general protections afforded by economic regulation. Access and control are evaluated as porous.
DEI centrally manages the treasury function for all of its entities and is the sole source of equity; however, each subsidiary issues its own long-term debt. Due to the aforementioned linkage considerations, Fitch will limit the difference between DEI and its higher rated regulated subsidiaries to two notches.
DEI is weakly positioned in the 'BBB+' rating category, owing to persistent high consolidated leverage. DEI has a strong business position. With the 2020 divestiture of Dominion Energy Gas Holdings and the cancellation of Atlantic Coast Pipeline, Fitch currently expects approximately 90% of DEI's EBITDA to come from state-regulated utility businesses over the forecast period. This is in line with The Southern Company's (BBB+/Negative) utility EBITDA of 86%, but compares more favorably than Sempra Energy's (BBB+/Stable) 80% or NextEra Energy, Inc.'s (A-/Stable) 70%-75%. It is unknown what kind of impact the DEI's business review will have on business mix, parent level debt or credit metrics.
Excluding any impact from the announced review, Fitch's 2022-2024 forecast for DEI's average FFO leverage of approximately 5.4x, which includes elevated capex for CVOW project, is higher than Sempra's (mid-to-high 4.5x), NextEra's (4.5x) and Southern's expected consolidated FFO leverage of approximately 5.2x by 2024. DEI-level debt has been reduced in recent years but at the expected level of 35%-40% remains higher than the 20%-30% range of most of its peers.
Fitch's Key Assumptions Within the Rating Case for the Issuer:
Capex of approximately $30.1 billion for 2022-2024;
Equity of approximately $4.0 billion-$4.5 billion for 2022-2024, including the conversion to equity of $1.6 billion series A corporate units;
Dividend payout rate of 65%;
DEI-level debt sustained at 35%-40% of total indebtedness;
Maintenance of utility subsidiaries capital structures in line with regulatory capital structures;
No adverse regulatory changes;
CVOW completion in 2026 at an estimated cost of $9.8 billion and implementation of rider recovery as envisioned in the legislation;
No significant change in credit quality of Cove Point offtakers or contract terms.
Factors that could, individually or collectively, lead to positive rating action/upgrade:
Positive rating action is not expected at this time given the large capital investment plan and high consolidated leverage. However, ratings could be upgraded if FFO leverage was to be below 4.3x on a sustainable basis.
Factors that could, individually or collectively, lead to negative rating action/downgrade:
FFO leverage expected to exceed 5.4x on a sustained basis during the offshore wind project permitting and construction phases, followed by 5.0x after beginning service;
DEI-level debt above 40% on a sustained basis;
A downgrade of VEPCo's IDR to 'BBB+'.
Best/Worst Case Rating Scenario
International scale credit ratings of Non-Financial Corporate issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579.
Liquidity and Debt Structure
Adequate Liquidity: In June 2021, DEI extended the maturity of its $6.0 billion joint revolving credit agreement to June 2026, with the potential to be extended to June 2028. The current subsidiary sub-limits under this facility are as follows: DEI $3.50 billion, VEPCo $1.75 billion, DESC $500 million and QGC $250 million.
If any of the above DEI subsidiaries have liquidity needs in excess of their respective current sub-limit, the sub-limit can be changed or such needs could be satisfied through short-term intercompany borrowings from DEI or the intercompany money pool. DEI also entered into a $900 million supplemental credit facility maturing June 2024. The supplemental credit facility offers a reduced interest rate margin for borrowed amounts allocated to certain environmental sustainability or social justice initiatives.
DEI does not guarantee the debt obligations of its utility subsidiaries. DEI, VEPCo, Dominion Energy South Carolina (DESC; A-/Stable) and Questar Gas (QGC; A-/Stable) are individually borrowers under DEI's joint revolving credit facility. The East Ohio Gas Company, d/b/a Dominion Energy Ohio (A-/Negative) and Public Service Company of North Carolina, Inc. (A-/Stable) are not borrowers under DEI's credit facility, and rely solely on DEI for their short-term liquidity needs.
Per the credit agreement, DEI's calculated total debt-to-total capital ratio is not to exceed 67.5%. As of Dec. 31, 2021, the actual ratio was 56%. On a consolidated basis, DEI had total liquidity of $3.2 billion, including $163 million of cash as of Sept 30, 2022. Consolidated long-term debt maturities are as follows: $2,851 million in 2023 and $4,086 in 2024, which is inclusive of the $2.5 billion Cove Point term loan.
DEI is a diversified utility holding company engaged in generation, transmission and distribution of electricity, natural gas distribution and long-term contracted assets including merchant nuclear power and LNG facility.
Summary of Financial Adjustments
DEI debt is adjusted by assigning 50% equity credit to DEI's enhanced junior subordinated debentures, trust preferred and perpetual preferred stock.
As of Dec. 31, 2021, Fitch has excluded $2.5 billion of non-recourse Cove Point term loan and $230 million related cash distribution from DEI's consolidated metrics.
Date of Relevant Committee
29 March 2022
REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING
The principal sources of information used in the analysis are described in the Applicable Criteria.
Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of '3'. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/esg.