Fitch Rates Black Hill Corp.'s Unsecured Notes 'BBB+'

NEW YORK--(BUSINESS WIRE)-- Fitch Ratings has assigned a rating of 'BBB+' to Black Hills Corporation's (BKH) issuance of $700 million of senior unsecured notes. The debt issuance is to be comprised of two tranches: $400-$450 million of 10-year notes due 2027 and $250-$300 million of 30-year notes due 2046.

Proceeds from the issuance will be used to refinance long-term debt including the legacy debt of Black Hills Gas Holdings, LLC (BHGH; formerly SourceGas Holdings LLC). BKH acquired BHGH, the parent company of Black Hills Gas LLC (BHG; formerly SourceGas, LLC; 'BBB'/ Outlook Positive) for $1.89 billion in February. The Rating Outlook on BKH's Long-Term Issuer Default Rating (IDR) is Negative.

BKH's Negative Outlook primarily reflects the increased leverage associated with the BHGH acquisition. If BKH were successful in its plan to implement a cost of service gas program, Fitch could revise the company's Rating Outlook to Stable from Negative. Implementation of a cost of service gas program would improve BKH's business risk profile, mitigating downward rating pressure caused by the company's weaker pro forma credit metrics due to the BHGH acquisition.

Concurrent with today's announced debt issuance, BKH plans to retire the remaining $420 million of legacy BHGH notes composed of $95 million of secured notes due 2019 and $325 million of unsecured notes due 2017 and plans to give bondholders the required 10-day and 30-day advance notice, respectively.

KEY RATING DRIVERS

Increased Leverage: BKH's leverage increased materially in the near term, as a result of the BHGH acquisition. Pro forma FFO adjusted leverage is approximately 6.6x, pressuring credit metrics at the current rating level. Although BKH's financial metrics will remain weak as a result of increased leverage associated with the acquisition, Fitch expects consolidated FFO adjusted leverage to strengthen to 4.5x by 2018. Leverage is expected to benefit from a combination of EBITDA growth due to the timely recovery of utility investments under rate rider mechanisms, anticipated synergies, and debt reduction. BKH recently announced that it has sold a 49.9% member equity interest in a 200-MW natural gas-fired power plant from its independent power producer (IPP) portfolio for $216 million, with the proceeds used to reduce leverage.

Improved Business Risk Profile: The BHGH acquisition was positive for BKH's business risk profile, as it increased the regulated utility business mix to approximately 87% of consolidated EBITDA, from 80% previously. The acquisition also increased BKH's utility customer base by 55%, to more than 1.2 million, strengthening the company's existing footprint in Colorado, Nebraska, and Wyoming, while expanding its service territory into Arkansas. BKH's regulated electric and natural gas utility operations now span eight states, all of which allow for pass-through of commodity and/or purchased power costs, with several of the states allowing other riders or recovery mechanisms that enhance timely recovery of expenses and invested capital.

GRC Moratoriums: As a condition of receiving regulatory approvals for the BHGH acquisition, management agreed to general rate case (GRC) stay-out provisions in AR, CO, NE, and WY ranging from zero to three years, depending on the regulatory jurisdiction. The GRC moratorium allows for the realization of potential synergies over the next two years and does not preclude increases in the various rate recovery riders.

Cost of Service Gas Program: BKH recently withdrew its remaining cost of service gas program applications in WY, IA, KS, and SD following the recent denial of its application in NE and dismissal of its application in CO, with regulators citing concerns over a lack of detailed information about specific properties, reserves and costs. BKH plans to refile its cost of service gas program applications at a later date with additional details on specific gas reserve properties.

BKH's proposed cost of service gas program would materially lower the risk of BKH's natural gas exploration and production business while adding a degree of stability to the electric and gas utility subsidiaries' fuel costs. BKH's utility subsidiaries, including BHP, would procure up to 50% of their annual gas consumption through long-term contracts tied to the company's natural gas production costs. The BHGH acquisition in February 2016 roughly doubles the amount of natural gas that could be contracted by BKH owned utilities under this program.

Shift in Oil and Gas Strategy: BKH's oil and gas business strategy is focused on its proposed utility cost of service gas program. BKH has ceased drilling new wells and meaningfully reduced its planned capex over the next three years due to the low commodity price environment and resulting shift in strategy. The company plans to spend approximately $34 million on oil and gas capex through 2018, a reduction of approximately 90% when compared with the prior three-year period. BKH plans to retain its key properties in the Piceance and Powder River Basins to support the company's proposed utility cost of service gas program, but is expected to divest its non-core oil and gas assets during the third quarter.

Increased Utility Capex: BKH plans to spend roughly $2 billion on capex through 2019 with approximately 80% of that amount at the regulated utilities. The projected capex spend currently excludes the proposed cost of service gas program and will be primarily focused on new generation, transmission, and distribution investments at the electric and gas utilities. Due to looming regulations under the EPA's Clean Power Plan, future electric generation needs are likely to be in the form of new natural gas-fired power plants and small-scale wind and solar renewable projects. Capex at the gas utilities is primarily focused on pipeline replacement, typically subject to automatic recovery mechanisms. Fitch expects BKH to remain FCF negative through the forecast period and has assumed that the cash shortfall will be funded with a balanced mix of debt and equity financing.

KEY ASSUMPTIONS

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

--Constructive regulatory environment across all jurisdictions;

--Successful integration of BHGH;

--Excludes the cost of service gas program;

--Capex of $2.1 billion through 2019.

RATING SENSITIVITIES

Positive: Future developments that may, individually or collectively, lead to a stabilization of ratings at the current level include:

--Constructive outcome in the pending cost of service gas program regulatory proceedings;

--FFO adjusted leverage at 4.0x or below.

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

--An unfavorable outcome in the pending cost of service gas program regulatory proceedings;

--Expectations for FFO adjusted leverage to remain above 4.5x through the forecast period;

--A weaker business risk profile from larger investments in the oil and gas business, outside of a cost of service gas program.

LIQUIDITY

BKH's liquidity is supported by sufficient availability under its $750 million unsecured revolving credit facility. The credit facility can be upsized up to $1 billion with the consent of the lenders and matures in August 2021. The credit facility is currently subject to a maximum debt-to-capitalization ratio covenant of 70% which sunsets to 65% in March of 2017; as of June 30, 2016, BKH was in compliance with a debt-to-capitalization ratio of 69%. BKH's $750 million bank credit facility contains covenants that trigger cross-default if BKH or its subsidiaries fail to make timely payments of debt obligations. Fitch expects BKH's long-term debt maturities to be manageable through the forecast period.

Date of Relevant Rating Committee: Feb. 12, 2016.

Disclosure: There were no financial statement adjustments made that were material to the rating rationale outlined above.

Additional information is available on www.fitchratings.com

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

Additional Disclosures

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View source version on businesswire.com: http://www.businesswire.com/news/home/20160810005867/en/

Fitch Ratings
Primary Analyst:
Daniel Neama, +1-212-908-0561
Associate Director
Fitch Ratings, Inc.
33 Whitehall St.
New York, NY 10004
or
Secondary Analyst:
Kevin L. Beicke, CFA, +1-212-908-0618
Director
or
Committee Chairperson:
Philip W. Smyth, CFA, +1-212-908-0531
Senior Director
or
Media Relations:
Alyssa Castelli, +1-212-908-0540
New York
[email protected]

Source: Fitch Ratings

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