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31 Aug 2004
MOODY'S AFFIRMS TRANSCO GROUP RATINGS, BUT CHANGES OUTLOOK TO NEGATIVE FOLLOWING DISPOSAL ANNOUNCEMENT; NATIONAL GRID TRANSCO RATINGS AND OUTLOOK UNCHANGED
Rating Action follows Announcement of Distribution Network Disposals and Return of Capital
London, 31 August 2004 -- Moody's Investors Service has today affirmed Transco Plc's
A2 long-term ratings and Prime-1 short-term ratings,
as well as Transco Holdings Plc's A3 long-term ratings following
the announcement by its ultimate holding company, National Grid
Transco Plc (NGT), that it had agreed the sale of four of its eight
UK gas distribution networks. At the same time, Moody's
has changed the rating outlook for Transco Plc and Transco Holdings Plc
(both the "Transco subgroup") to negative from stable,
reflecting NGT's decision to up-stream GBP3.5 billion
of disposal proceeds from Transco to NGT, which will return GBP2.0
billion of capital to shareholders and increase the ordinary dividend
for the current year by 20%, maintaining growth of 7%
per annum thereafter until 2008. Moody's affirmed the Baa1
long-term and Prime-2 short-term ratings of National
Grid Transco Plc and left the rating outlook unchanged at stable.
Moody's statement is in response to NGT's announcement today
that it had agreed in principle to sell four of its eight regional gas
distribution networks for a total consideration of approximately GBP5.8
billion. The networks to be sold are in Scotland, South of
England, North of England and Wales & the West, while
Transco will be retaining those in London, West Midlands,
East of England and North West.
Moody's decision to affirm the ratings of the Transco subgroup is
underpinned by the intention of the group's management to use some
of the disposal proceeds to reduce Transco's debt by about GBP2.3
billion. At the same time, the subgroup will be disposing
of approximately GBP5.2 billion of its regulated asset value (RAV),
and up-streaming cash to NGT of around GBP3.5 billion.
In Moody's view, the implications of the disposals for Transco's
business risk profile are minimal, as the group will remain a substantial
regulated network business, retaining the high-pressure national
transmission system (NTS) and four existing gas distribution networks.
However, Moody's notes that the combination of lower regulated
cash flows and a proposed substantial up-streaming of cash to NGT
will exert pressure on Transco's debt protection measures,
which are likely to weaken somewhat as a result of the transaction.
Transco's current ratings by Moody's assume debt-to-RAV
not materially higher than 50%, retained cash flow to debt
no lower than 10%, funds from operations to debt comfortably
above 20% and interest coverage of at least three times.
Moody's believes that some of these parameters could be stretched
as a result of the transaction, but expects any temporary deterioration
to be recovered quickly. The negative rating outlook consequently
reflects the added uncertainty of Transco's ability to restore its
financial profile -- in conjunction with potentially greater long-term
challenges -- in the face of developing comparative competition from
newly independent gas distribution peers. However, this is
partially mitigated by Moody's expectation that Transco's
track record and expertise in managing gas distribution networks will
position it at the efficiency frontier versus its peers -- at least
in the early stages of their independence from Transco. Moody's
also notes ongoing discussions between Transco and Ofgem, the UK
regulator, regarding the organisational separation of Transco's
high-pressure transmission business from its remaining distribution
businesses, which could have implications for the structure of the
subgroup going forward.
Any adverse events, which would add further pressure on Transco's
debt protection measures, could result in the subgroup's ratings
being lowered. At the same time, better-than-expected
performance and a timely return to financial metrics which are more comfortably
positioned within the parameters underpinning the rating, could
result in Moody's readjusting the outlook back to stable.
Moody's decision to affirm National Grid Transco's Baa1/Prime-2
ratings and to maintain a stable outlook is based on the moderately negative
impact of the transaction on NGT group's business risk profile in
conjunction with mildly positive financial implications. Moody's
adds that the disposals will result in cash flows from non-regulated
activities and from US operations becoming more prominent in the group's
overall business mix. However, the agency added that NGT's
two regulated UK businesses, Transco and National Grid Company Plc
(rated A2/Prime-1, stable outlook), will continue to
contribute substantially to group cash flows at more than 50%,
with the dominant remaining part largely constituting relatively predictable
US regulated cash flows. Consequently, and provided NGT maintains
its current mix of regulated and more competitive businesses, Moody's
believes that the overall impact of lower regulated contributions from
Transco following the disposal of four networks is moderate.
NGT's financial risk profile is moderately supported by the transaction
in the short-term. Despite a proposed one-off GBP2.0
billion return of capital to shareholders and an increase in the ordinary
dividend for the current year of 20%, the holding company
benefits from a GBP3.5 billion upstreaming of cash from the Transco
subgroup. It is Moody's expectation that the residual value
will be retained at the holding company as liquidity to meet debt repayments
and ongoing dividend payments, if needed. This provides NGT
with some flexibility for future growth opportunities, provided
these are conducive to the group's overall low-risk business
Moody's decision to maintain NGT's stable outlook independently
of the negative outlook at the Transco subgroup is based on the agency's
view that the existing rating of NGT already incorporated the prospect
of some weakening in NGT's consolidated credit profile, whether
or not related to changes in the profile of the regulated businesses,
or M&A actions elsewhere in the group. While the Transco subgroup's
rating profile may be weakening, Moody's does not view it
as being sufficient at this stage to result in the consolidated group's
profile also weakening. If Transco's credit profile were
to weaken further, additional downward pressure could develop on
the consolidated group. This is particularly the case if the credit
profile of the regulated operating company were to weaken to such an extent
that the risk of regulatory ring-fence provisions being enforced
to trap cash in the operating company to the detriment of holding company
creditors were to materialise. NGT's Baa1 rating reflects
Moody's view of the credit quality of the consolidated group and
cash flows available to service debt located at the NGT holding company.
Moody's believe that NGT's credit evolution going forward
will depend on the medium-term use of extra liquidity at the holding
company, and changes in the overall business mix of the consolidated
group, in addition to relative credit quality at the Transco subgroup
Headquartered in London, England, National Grid Transco Plc
is the holding company for a range of international businesses focusing
on the ownership and operation of electricity and gas networks.
Its two principal geographic areas of activity are the UK and the US.
At year-end March 2004, NGT had revenues of over GBP 9.0
Transco Plc, a wholly owned subsidiary of Transco Holdings Plc,
owns and operates the Great Britain natural gas transmission and distribution
network. Transco Holdings Plc is a wholly owned indirect subsidiary
of NGT. At year-end March 2004, Transco had revenues
of over GBP 3.0 billion.
National Grid Company Plc, a wholly owned indirect subsidiary of
NGT, owns and operates the high-voltage electricity transmission
system in England and Wales. At year-end March 2004,
NGC had revenues of over GBP 1.3 billion.
Philipp L. Lotter
Asst Vice President - Analyst
Moody's Investors Service Ltd.
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Moody's Investors Service Ltd.
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