S&P Affirms Ratings on Black Hills Corp. (BKH) Amid SourceGas Deal

Standard & Poor's Ratings Services today affirmed its ratings on Black Hills Corp. (NYSE: BKH) (BKH) and its subsidiary Black Hills Power (BHP), including the 'BBB' issuer credit ratings. We also affirmed BKH's 'BBB' senior unsecured debt rating and BHP's 'A-' senior secured debt rating. The outlook is stable.

At the same time, we affirmed our ratings on SourceGas LLC, including the 'BB+' issuer credit rating, and revised our rating outlook on SourceGas LLC to positive from stable.

Black Hills Corp. announced it has entered into a definitive agreement to acquire SourceGas Holdings LLC from investment funds managed by Alinda Capital Partners and GE Unit GE Energy Financial Services for $1.9 billion, including reimbursement of an estimated $200 million in capital expenditures through closing and the assumption of $720 million of debt projected at closing.

The purchase is supported by a fully committed bridge facility from Credit Suisse. The company expects to permanently finance the acquisition with $720 million of assumed debt, $450 million to $550 million of new debt, $575 million to $675 million of equity and equity-linked securities, and the remainder with cash on hand and revolver draws. Black Hills Corp. will operate the acquired company under the name Black Hills Energy.

The acquisition is expected to be completed in the first half of 2016. The transaction is subject to customary closing conditions, regulatory approvals from the Arkansas Public Service Commission, Colorado Public Utilities Commission, Nebraska Public Service Commission, and Wyoming Public Service Commission, and is also subject to the notification, clearance, and reporting requirements under the Hart-Scott-Rodino Act.

We base our rating on Rapid City, S.D.-based multiple-utility energy company BKH and its subsidiary, BHP, on the consolidated credit profile and application of our group ratings methodology. Black Hills includes electric utility Black Hills Power Inc., electric and natural gas utility Cheyenne Light, Fuel, & Power Co. (not rated), other regulated utilities that Black Hills Utility Holdings Inc. (not rated) owns and operate as Black Hills Energy, and various unregulated businesses.

We base our assessment of BKH's business risk profile on the company's "strong" competitive position, "very low" country risk, with operations based in the U.S., and our view of the regulated utility sector as having a "very low" industry risk profile. Our designation of BKH's business risk profile as "excellent" incorporates our assessment of its strategy to focus on its regulated operations that have more than 200,000 electric customers in Colorado, Montana, South Dakota, and Wyoming and more than 500,000 natural gas customers in Colorado, Iowa, Kansas, Nebraska, and Wyoming. Its market and regulatory diversity strengthens its credit quality, but the widely dispersed operations and numerous regulatory jurisdictions require diligent filing for rate recovery.

"The addition of SourceGas to BKH enhances the company's "excellent" business risk profile as it adds 1.2 million utility customers, increasing scale, regulatory and operating diversity and increases the size of the company's regulated operations, which should result in more stable cash flows," said Standard & Poor's credit analyst Matthew O'Neill.

Our stable rating outlook on Black Hills Corp. (BKH) reflects our expectation that management will continue to focus on its core utility operations and reach constructive regulatory outcomes to avoid any meaningful rise in business risk. Although BKH used significant debt leverage for the SourceGas acquisition, we expect credit measures to remain in line with those needed to support the current rating. The outlook reflects our base-case forecast level of adjusted FFO to debt ranging from roughly 14% to 17% over the next few years.

We could lower ratings if core financial measures continuously underperform our base-case forecast and remain consistently at less credit-supportive levels, including adjusted FFO to total debt less than 13%. This could occur if rate case outcomes are consistently weaker than expected, regulatory lag increases, or if capital spending increases and is primarily debt financed.

We do not contemplate positive rating actions because of near-term capital needs. However, we could raise the ratings if the company's business risk profile strengthens, including if regulated utility operations increase further as a percentage of total operations. We could raise the ratings if financial measures strengthen and consistently exceed our base-case forecast, including adjusted FFO to total debt approaching 23%, the high end of the "significant" financial risk profile category. Stronger financial measures could occur for various reasons including through higher operating cash flow due to economic growth in the utilities' service territories, debt reduction with free operating cash flow, or greater equity funding of investments.

The positive outlook on SourceGas reflects our view that the pending acquisition by higher rated entity Black Hills Corp. and our expectation that SourceGas would be considered a "core" subsidiary of Black Hills will result in an upgrade.

We would raise the ratings on SourceGas if acquisition is completed and Black Hills' consolidated financial measures are in line with our base-case forecast. This would include FFO to total debt ranging between 14% and 17% over a few years following the closing.

We could revise the outlook to stable if the acquisition is not completed and SourceGas financial measures remain in line with our base-case forecast that includes SourceGas Holdings' consolidated FFO to debt remaining less than 10% and debt leverage relative to EBITDA in excess of 6.5x.

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