Fitch Affirms TECO's Ratings Following Acquisition Announcement

NEW YORK--(BUSINESS WIRE)-- Fitch Ratings has affirmed the 'BBB' long-term Issuer Default Rating (IDR) for TECO Energy Inc. (TE) following the announced acquisition of TE by Emera Inc. (Emera; not rated by Fitch). Fitch has also affirmed the 'BBB' senior unsecured debt rating for TECO Finance, Inc. The Rating Outlook is Stable.

The debt issued by TECO Finance, Inc. is fully guaranteed by TE. The ratings of TE's wholly-owned regulated utility subsidiary Tampa Electric Co. (Tampa Electric; 'BBB+' IDR) are unaffected by this transaction.

The proposed acquisition is neutral to TE's credit profile, in Fitch's view. While Fitch does not expect the acquisition to trigger a deterioration of TE's existing capital structure and stable financial profile, it is unlikely to provide an uplift to credit ratings in the near-term given the absence of any material scale benefits coupled with Emera's exposure to unregulated businesses, including ownership of merchant generation and an energy trading and marketing business, which typically carry higher business risk than regulated utilities.

Emera plans to acquire TE for $6.5 billion in cash or $27.55 per share, implying a 48% premium over the closing price on July 15, 2015. Including assumed debt of approximately $3.9 billion, the transaction value is $10.4 billion or 12x TE's LTM June 30 EBITDA. Emera completed the equity portion of deal financing with an issuance of 4% $1.9 billion of convertible debentures. The remaining portion of financing will consist of the issuance of between $800 million and $1.2 billion of preferred equity and $3.4 to $3.8 billion of Emera long-term debt.

Post-closing, TE will become a second-tier holding company of Emera and will remain as the direct parent of its two operating utilities, Tampa Electric and New Mexico Gas Co. (NMGC). While the completion of the transaction is not dependent on a sale of TE's unregulated coal business, TE continues to actively pursue an exit of that business.

KEY RATING DRIVERS

No Change to Capital Allocation Policy: The ratings affirmation and Stable Outlook assume TE can continue to maintain its existing capital structure and current dividend policy with no financial contagion from the Emera acquisition. Fitch recognizes the sizeable amount of incremental leverage that Emera will be taking on to finance the transaction. Although Emera is not rated by Fitch, the pro-forma financial profile would suggest a credit profile that is likely weaker than TE. Emera's adoption of a more aggressive financial strategy to support the incremental leverage, reflected in the form of higher upstream dividends from TE than currently projected by Fitch, would be a credit concern and could lead to a revision of TE's Outlook to Negative.

Business Profile Mostly Unchanged: The acquisition of TE by Emera has no material impact on the former's business risk, in Fitch's view. Under Emera ownership, TE will continue to follow a conservative regulated business model with consolidated operating cash flows derived almost entirely by Tampa Electric and NMGC. Fitch does not expect any financial contagion to TE from Emera's ownership of its volatile unregulated businesses, which are managed on a stand-alone basis, separately from Emera's regulated businesses. The contribution to consolidated earnings of the unregulated segment is projected by management to decline materially upon the acquisition of TE to 16% from 30% previously.

TE is projected by management to represent about half of Emera's total pro-forma earnings, and Fitch believes Emera will commit to maintaining TE financially healthy due to its strategic importance. While the acquisition is not projected by Fitch to cause a deterioration of TE's existing capital structure, greater financial scale and flexibility is not a key feature of this transaction and an acceleration of parent debt reduction is unlikely, in Fitch's view.

Focus on Gas LDCs: Along with the relatively favorable regulation enjoyed by Tampa Electric and NMGC, TE's ownership of gas LDCs Peoples Gas (PGS) and NMGC were attractive factors in Emera's decision to acquire TE as it aligned with the company's long-term strategy to expand into the gas distribution business. PGS projects to spend $505 million over 2015-2019 towards investments associated with customer growth and system expansion, system safety, and oil to gas conversions. NMGC plans on spending $300 million over 2015-2019 towards investments associated with system safety, system reliability, and software upgrades. Fitch would view financial support from Emera to grow the LDCs as supportive of credit quality.

Regulatory Approvals: Apart from TE's shareholder approvals, state regulatory approval is required in New Mexico but not in Florida, which should make the regulatory process somewhat less challenging than what utilities have experienced in recent merger regulatory proceedings. Emera has committed to honor all stipulations that resulted from the approval of TE's acquisition of NMGC by the New Mexico regulatory commission in 2014, including a base rate freeze through 2017 and ratepayer bill credits of $2 million in the first year after closing and $4 million on an annual basis thereafter, until NMGC's next rate case. Management expects the transaction to close in mid-2016.

Pressured Credit Metrics: Fitch expects consolidated leverage metrics to remain pressured over 2015 - 2016 during peak spending related to the Polk conversion project. Fitch forecasts debt/EBITDAR to average 4.3x and funds from operations (FFO) adjusted leverage, 4.3x, over the next couple of years. Consolidated credit metrics improve by 2017 as Tampa Electric starts recovering costs associated with the completion of Polk project in retail rates. Forecasted cash flow measures also reflect the positive effect of net operating losses (NOLs) that effectively shelter net income from taxes through 2019. The tax value of NOLs amounted to approximately $567 million at year-end 2014. Fitch expects TE's operating cash flows to return to more normalized levels overtime as those NOLs wind down.

KEY ASSUMPTIONS

Fitch's key assumptions within the rating case for TE include:

--Annual retail sales growth of about 1% over 2015 - 2018;

--$110 million base rate increase at Tampa Electric in 2017;

--Modest cash tax payments due to availability of NOLs;

--Sale of TECO Coal at closing of acquisition with proceeds applied towards debt reduction;

--No acquisition synergies;

--TE parent-level debt is refinanced when due and gradually winds down beyond 2017.

RATING SENSITIVITIES

Future developments that may, individually or collectively, lead to a positive rating action:

No positive rating action is anticipated in the near-term given the pending acquisition and limited headroom in credit metrics for the existing rating level.

Future developments that may, individually or collectively, lead to a negative rating action:

--A more aggressive financial strategy under new ownership to support Emera's growing capex and dividends that leads to incremental leverage. Emera targets dividend growth of 8% through 2019 and beyond.

--Unexpected deterioration in Florida regulation that leads to a weaker financial profile at Tampa Electric.

--FFO adjusted leverage weakening to below 5x on a sustained basis.

FULL LIST OF RATING ACTIONS

Fitch affirms the following ratings:

TECO Energy

--Long-term IDR at 'BBB';

--Short-term IDR at 'F2'.

TECO Finance

--Senior unsecured debt at 'BBB'.

The Rating Outlook is Stable.

Additional information is available at www.fitchratings.com.

The sources of information used to assess this rating were the public domain and Tortoise Capital Advisors.

Applicable Criteria

Corporate Rating Methodology - Including Short-Term Ratings and Parent and Subsidiary Linkage (pub. 17 Aug 2015)

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=869362

Recovery Ratings and Notching Criteria for Utilities (pub. 05 Mar 2015)

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=863298

Additional Disclosures

Dodd-Frank Rating Information Disclosure Form

https://www.fitchratings.com/creditdesk/press_releases/content/ridf_frame.cfm?pr_id=990505

Solicitation Status

https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=990505

Endorsement Policy

https://www.fitchratings.com/jsp/creditdesk/PolicyRegulation.faces?context=2&detail=31

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View source version on businesswire.com: http://www.businesswire.com/news/home/20150908006770/en/

Fitch Ratings
Primary Analyst
Philippe Beard, +1-212-908-0242
Director
Fitch Ratings, Inc.
33 Whitehall Street
New York, NY 10004
or
Secondary Analyst
Shalini Mahajan, +1-212-908-0351
Senior Director
or
Committee Chairperson
Craig Fraser, +1-212-908-0310
Managing Director
or
Media Relations
Alyssa Castelli, +1-212-908-0540
[email protected]

Source: Fitch Ratings

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