Fitch Rates Southern Company's Senior Notes 'A'; Outlook Stable
NEW YORK -- August 22, 2013
Fitch Ratings has assigned its 'A' rating to the Southern Company's issuance
of $500 million series 2013A 2.45% senior notes due Sept. 1, 2018. These notes
are senior, unsecured obligations of Southern Company. The Rating Outlook is
The net proceeds from the offering will be used to repay a portion of Southern
Company's outstanding short-term indebtedness, which totaled approximately
$739 million as of Aug. 20, 2013, and for other general corporate purposes.
KEY RATING DRIVERS:
Southern Company's ratings recognize the relatively stable and predictable
cash generation of its operating subsidiaries and the financial support it
gets from them in the form of dividends for the payment of corporate expenses,
debt service, dividends to common stockholders, and for other business
matters. Southern Company's regulated utility subsidiaries enjoy a relatively
favorable regulatory framework in their service territories and exhibit
limited commodity price risks due to the ability to recover fuel and purchased
power through separate cost trackers.
Its non-regulated generation subsidiary, Southern Power Company, follows a
conservative business model by signing long-term sale contracts with
creditworthy counterparties and has minimal commodity exposure via recovery of
fuel costs through its power supply contracts. Southern Company provides
equity funding to its subsidiaries for their long-term growth and to optimize
their capital mix within a target range. The Stable Outlook for Southern
Company reflects adequate liquidity, financial flexibility, and easy access to
capital markets during a period of high capital investment.
Regulatory risk has increased for Southern Company's utility subsidiaries
given the ongoing rate proceedings at Georgia Power Company (Georgia Power)
and Gulf Power Company (Gulf Power), and higher regulatory scrutiny of
Mississippi Power Company's (Mississippi Power) cost overruns associated with
the 580 MW Integrated Gasification and Combined Cycle (IGCC) plant at Kemper.
Favorable outcome for Georgia Power's regulatory proceedings will be key to
sustaining Southern Company's current ratings given that it accounts for
approximately 50% of consolidated operating income.
Fitch acknowledges that the downside risk to return on equity (ROE) is high
for Georgia Power given the national trend of declining ROEs. At the same
time, Fitch recognizes the constructive regulatory regime in Georgia and low
commodity prices that provide a favorable backdrop for rate negotiation. The
last rate case outcome for Georgia Power in 2010 was quite constructive, which
enabled the utility to embark on a heavy capex spend with strong credit
metrics. Fitch believes Georgia Public Service Commission (PSC) will continue
to be supportive of the financial health of the utility. Furthermore, the
expected increase under the Nuclear Construction Cost Recovery (NCCR) tariff
of approximately 1% per year through 2017 lowers the overall rate pressure on
Georgia Power's customers.
Southern Company's second largest subsidiary, Alabama Power Company (Alabama
Power), recently received a vote from the Alabama PSC regarding review of its
rate stabilization and equalization (RSE) mechanism. The PSC voted to replace
the current ROE range of 13.0%-14.5% and allowed equity ratio of 45% with a
weighted cost of equity (WCE) provision. The WCE range was established by the
PSC at 5.75%-6.21% with an adjusting point of 5.98%, which is modestly lower
than the implied WCE range under current rates of 5.85%-6.53% with an
adjusting point of 6.19%. In addition, Alabama Power will be eligible for a
performance-based adder of 0.07% if it is rated 'A' by at least one of the
major credit rating agencies or is in the top one-third in customer
satisfaction survey. The resolution of the RSE review is in line with Fitch's
expectation and removes a key source of regulatory uncertainty for Alabama
Fitch's rating concerns for Southern Company include significant construction
and regulatory risks associated with the two large baseload projects under
construction, namely the 2,200 MW Plant Vogtle nuclear units 3 and 4 being
built by Georgia Power and the 580 MW Kemper IGCC plant being built by
Mississippi Power. The Vogtle nuclear units have been recovering the financing
costs on construction work in progress (CWIP) through a tracker since 2011.
Fitch expects that any adjustments to the overall project costs will be deemed
recoverable by the Georgia PSC. Significant project cost overruns that cannot
be recovered in rates or unexpected long deferral periods for project cost
recovery would be adverse credit factors.
The Kemper IGCC project has faced significant overruns relative to its
original project costs estimate. The project is now expected to cost $4.7
billion, of which $853 million is subject to exemptions and exceptions from
the regulatory cost cap. Of the remaining $3.87 billion, Mississippi Power
does not intend to seek rate recovery for $990 million of costs incurred above
the $2.88 billion cost cap and has taken an equivalent charge to income in the
year-to-date financial results. Southern Company has committed to inject
equity in Mississippi Power to restore its capital structure.
Southern Company is planning to finance the approximately $1 billion equity
infusion into Mississippi Power largely through equity. Management has
committed to issue equity of $700 million in 2013 and $600 million in 2014.
Management has further committed to issue additional equity in 2015, if
needed, to maintain the consolidated equity ratio at the targeted 44% levels.
The funding of Kemper cost overruns primarily by equity is a key factor for
Fitch's recent affirmation of Southern Company's Issuer Default Rating and
Stable Outlook. It is Fitch's expectation that any future cost overruns at
Kemper will be similarly funded largely through equity such that the
consolidated capital structure remains within the targeted range. Fitch's
financial projections assume that Kemper becomes operational within the
currently projected capital costs and schedule and that the Mississippi PSC
approves the seven-year plan proposed by Mississippi Power to ensure rate
stability for retail customers.
Southern Company's consolidated environmental compliance expenditures remain
significant over Fitch's forecast period. The company is planning to spend
approximately $3.6 billion over 2013-2015 on environmental capex. All of
Southern Company's regulated subsidiaries, with the exception of Georgia
Power, have environmental trackers. Georgia Power has typically recovered
environmental compliance-related costs through base rate case decisions.
For the last 12 months (LTM) ending June 30, 2013, the funds flow from
operations (FFO)-to-total debt ratio stood at 21%, which includes the benefit
of bonus depreciation, and the adjusted debt-to-EBITDA ratio stood at 3.9x.
Fitch forecasts Southern Company's coverage ratios to remain strong, over
6.0x, which reflects the declining benefit of bonus depreciation subsidies.
Fitch expects Southern Company's adjusted debt-to-EBITDA ratio to be
approximately 3.5x and FFO-to-adjusted debt to be approximately 21% by 2015.
Incorporated in the ratings is Fitch's expectation that Southern Company's
financial measures will remain weak through the large capex cycle at Georgia
Power, its largest subsidiary.
Positive Rating Actions: Fitch does not anticipate any positive rating actions
for Southern Company in the near future.
Project execution risk: Significant time/cost overrun at the Vogtle and/or
Kemper projects that are primarily debt financed and negative regulatory
actions on the recovery of those costs would be a trigger for downward rating
Significant slowdown in sales: Weather-adjusted retail sales have declined
0.7% year-to-date as compared to the same period last year. Residential and
commercial sales have continued to exhibit weakness while industrial sales are
beginning to firm up modestly. Lower than expected sales are a key factor in
both Gulf Power's and Georgia Power's pending rate increase request.
Persistent economic weakness and lower than expected sales across Southern
Company's utility subsidiaries could lead to weak consolidated credit metrics
putting pressure on ratings.
Unfavorable regulatory actions: Less than constructive outcomes in the pending
rate proceeding at Georgia Power can also lead to negative rating actions.
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria and Related Research:
--'Corporate Rating Methodology', Aug. 5, 2013;
--'Parent and Subsidiary Rating Linkage', Aug. 5, 2013;
--'Short-Term Ratings Criteria for Non-Financial Corporates', Aug. 5, 2013;
--'Treatment and Notching of Hybrids in Nonfinancial Corporate and REIT Credit
Analysis', Dec. 13, 2012;
--'Recovery Ratings and Notching Criteria for Utilities', Nov. 13, 2012;
--'Rating North American Utilities, Power, Gas and Water Companies', May 16,
Applicable Criteria and Related Research:
Rating North American Utilities, Power, Gas, and Water Companies
Recovery Ratings and Notching Criteria for Utilities
Treatment and Notching of Hybrids in Nonfinancial Corporate and REIT Credit
Short-Term Ratings Criteria for Non-Financial Corporates
Parent and Subsidiary Rating Linkage Fitch's Approach to Rating Entities
within a Corporate Group Structure
Corporate Rating Methodology: Including Short-Term Ratings and Parent and
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Shalini Mahajan, CFA, +1 212-908-0351
Fitch Ratings, Inc.
One State Street Plaza
New York, NY, 10004
Lindsay Minneman, +1 212-908-0592
Glen Grabelsky, +1 212-908-0577
Brian Bertsch, +1 212-908-0549
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