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Rating Action:

Moody's affirms Phoenix Natural Gas's Baa2 rating; outlook stable

29 Jan 2014

London, 29 January 2014 -- Moody's Investors Service has today affirmed the Baa2 rating on the bonds issued by Phoenix Natural Gas Limited's (PNG) wholly-owned financing subsidiary, Phoenix Natural Gas Finance PLC (PNGF), following PNG's acceptance of new price controls imposed by the Northern Irish energy regulator (the Utility Regulator) in December 2013 for the gas distribution networks (GDNs). The new price controls, known as GD14, specify the amount of revenue the regulated GDNs are able to recover from customers over the three-year period 2014 to 2016. The outlook on the rating is stable.

RATINGS RATIONALE

"While the decision to accept rather than seek a re-determination from the Competition Commission (CC) is positive and reduces uncertainty, the company has nevertheless received a challenging set of price limits from the regulator, which will be difficult to outperform in our view." said Scott Phillips, a Vice President - Senior Analyst in Moody's Infrastructure Finance Group and lead analyst for PNG. "Moody's sees the regulator's determination as tough but neutral for PNG's Baa2 rating" he added.

Moody's views two areas of the determination as particularly challenging: (1) the weighted average cost of capital (WACC) and (2) the operating expenditure (opex) allowance. The allowed WACC remains at 7.5% (real, pre-tax) for this price control period but a modelling assumption for 2017 onwards based on the settlement for the Great Britain (GB) GDNs in 2013-14 (4.83% real, pre-tax) has been used. This still impacts revenue in the current period -- as all future costs, including the WACC are forecast under the unique and long-term regulatory framework that applies to PNG. Whilst a modelling assumption only, the Utility Regulator reiterated in its Final Determination that it believes PNG to be no more risky than a GB GDN suggesting it could be tough on the WACC going forwards. PNG received a challenging opex allowance; a 3% cut on historical spend with a significant proportion of this allowance contingent on delivering an increased level of connections, and credit metrics will be adversely impacted by any overspend on costs or under-delivery on connections.

Moody's expects the company's near-term financial metrics to continue to be weak, in particular the interest cover ratio, but expect PNG's shareholders to manage its dividend policy as necessary in order to maintain leverage (as measured by net debt / Total Regulatory Value [TRV]) in-line with our guidance for the current rating (low-70s).

In light of this determination, Moody's continues to believe that the riskiness of the regulatory framework is higher in Northern Ireland than in Great Britain, principally due to the lack of track record of decision making but also following the two Competition Commission referrals in 2012 and 2013. In Moody's view, these have undermined confidence in the decision making process, a key rating consideration under its methodology, with the importance of a transparent, stable and predictable framework further elevated by the regulatory framework resulting in a deferral of revenues for PNG, a key credit consideration. Moody's considers this increased risk is slightly offset by a small capex programme and the expectation of higher revenues in the future from increased customer numbers and volumes as more customers switch from heating oil to natural gas.

RATING OUTLOOK

The stable outlook is based on Moody's expectation that management will continue to focus on its core regulated activity and that Net Debt to TRV will remain no higher than the low-70s.

WHAT COULD CHANGE THE RATING UP/DOWN

Given the current funding structure and Moody's expectation that the company would likely maintain leverage close to the maximum level allowed by its financial covenants in shareholders' interest, there will be limited potential for an upgrade in the intermediate term.

In contrast, the rating could come under downward pressure in the event of (1) adverse regulatory determinations or material changes in the regulatory framework, (2) serious underperformance in operating or capital expenditure, (3) leverage higher than the guidance discussed above or failure to improve over time cash flow-based financial metrics, (4) negative funding conditions, or (5) Net Debt to TRV higher than the low-70s.

PRINCIPAL METHODOLOGY

The principal methodology used in this rating was Regulated Electric and Gas Networks published in August 2009. Please see the Credit Policy page on www.moodys.com for a copy of this methodology.

REGULATORY DISCLOSURES

For ratings issued on a program, series or category/class of debt, this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series or category/class of debt or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the rating action on the support provider and in relation to each particular rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.

For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this rating action, and whose ratings may change as a result of this rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.

Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.

Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.

Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating.

Scott Phillips
Vice President - Senior Analyst
Infrastructure Finance Group
Moody's Investors Service Ltd.
One Canada Square
Canary Wharf
London E14 5FA
United Kingdom
JOURNALISTS: 44 20 7772 5456
SUBSCRIBERS: 44 20 7772 5454

Monica Merli
MD - Infrastructure Finance
Infrastructure Finance Group
JOURNALISTS: 44 20 7772 5456
SUBSCRIBERS: 44 20 7772 5454

Releasing Office:
Moody's Investors Service Ltd.
One Canada Square
Canary Wharf
London E14 5FA
United Kingdom
JOURNALISTS: 44 20 7772 5456
SUBSCRIBERS: 44 20 7772 5454

Moody's affirms Phoenix Natural Gas's Baa2 rating; outlook stable
No Related Data.
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