Fitch Ratings has assigned an 'A' rating to Indianapolis Power & Light Company's (IPL, d/b/a AES Indiana) $350 million 5.650% first mortgage bonds (FMBs), due Dec. 1, 2032.
AES Indiana's long-term Issuer Default Rating is 'BBB+'. The Rating Outlook is Stable.
AES Indiana's rating and Outlook are driven by the stable and predictable regulated utility operations in Indiana. The approved $1.2 billion seven-year plan for eligible transmission, distribution and storage systems improvement is rate base accretive and have minimal regulatory lag. AES Indiana's generation capacity is 43% coal, but 415 MW of coal generation is slated to retire in 2023. Pending the outcome of the next Integrated Resource Plan, AES Indiana plans to exit coal by 2025.
Key Rating Drivers
Supportive Regulation
AES Indiana's ratings and Outlook reflect the favorable regulatory environment in Indiana. The company has minimal commodity price exposure due to a regulatory pass-through mechanism that allows the utility to recover fuel and purchased power costs on a timely basis. AES Indiana relies on Environmental Compliance Cost Recovery Adjustment and the Indiana Senate bills 29 and 251 to reduce regulatory lag. The bills allow the recovery of federally mandated environmental compliance costs and the installation of clean coal technologies reducing airborne emissions associated with the use of coal.
The Transmission, Distribution and Storage System Improvement Charge (TDSIC) statute provides for cost recovery outside of a rate case proceeding for new or replacement for gas or electric safety, reliability and modernization. The statute requires a seven-year plan of eligible investments. Once the plan is approved by the Indiana Utility Regulatory Commission (IURC), 80% of eligible costs can be recovered using a periodic rate adjustment mechanism, minimizing regulatory lag. In March 2020, Indiana Public Utility Commission approved AES Indiana's $1.2 billion seven-year (through 2027) DSIC plan for eligible transmission, distribution and storage systems improvement.
Indiana' authorized ROEs tend to be higher that other states while equity capitalization is lower than average. AES Indiana's authorized ROE is 9.99% and equity capitalization is 41.5%.
Coal Retirement Settlement
Fitch views the approval of the coal retirement settlement favorably. In August 2021, AES Indiana reached a settlement with intervenors associated with its plan to retire approximately 630 MW of coal-fired generation at Petersburg Units 1 and 2. The settlement was approved in November 2021 and allows for creating regulatory assets upon retirement, a method of amortization and recovery of regulatory assets through ongoing amortization through future rate cases. AES Indiana retired 230 MW Petersburg Unit 1 on May 31, 2021 and expects to retire Unit 2 in 2023.
Improving Fuel Mix
AES Indiana's generation capacity continues to be coal-intensive, although fuel diversity has improved substantially in the last 15 years through retirement and new build. In 2021, 43% of AES Indiana's generation capacity was from coal, 56% natural gas and 2% oil. In 2007, 79% of the generation capacity was from coal, 14% natural gas and 7% oil. In 2021, 56.2% of the retail energy was generated from coal-fired steam generation, 22.2% from natural gas-fired units, and 21.6% from power purchase agreements (primarily from renewables) and from the wholesale power market. The coal generation was temporarily high in 2021 due to the outage at Eagle Valley CCGT plant.
In June 2021, IURC also approved AES Indiana's 195 MW Hardy Hills Solar Project to be developed in Clinton County, Indiana and to be completed in 2023. In November 2021, IURC approved AES Indiana's 250 MW solar and 180 MWh energy storage facility to be developed in Pike County, Indiana and to be completed in 2024.
After the retirements of the Petersburg Units 1 and 2 and the commencement of the Hardy Hills and Petersburg renewable projects, approximately 47% of installed capacity will come from natural gas units, 29% from coal-fired generation, 13% from owned renewable projects, and 11% from wind and solar PPAs. AES Indiana will file a new integrated resource plan (IRP) on December 1, 2022. The preferred portfolio that will be a part of the IRP calls for the remaining 1 GW of coal generation to be converted to natural gas by 2025.
Large Capex
AES Indiana will execute a very large capex program ($1.8 billion) in the next three years. Spending will peak around $900 million in 2022. Approximately $800 million capex will be spent on power generation projects including the solar and battery storage projects. About $500 million will be spent on TDSIC investments, and nearly $400 million will be spent on transmission and distribution related additions, improvements and extensions. Fitch views rate-base accretive investments favorably, but the credit metrics could be elevated.
Credit Metrics
AES Indiana's credit metrics weakened due to COVID-19 and a large capex program. In the last two years, AES Indiana's FFO leverage averaged 4.1x. In the next three years, incorporating a very large capex program, Fitch expects AES Indiana to produce FFO leverage, on average, of 4.1x from 2022 to 2024, respectively. These credit metrics are consistent with its ratings.
Derivation Summary
AES Indiana is about the same size in terms of operating EBITDA and has a similar fuel mix as Indiana Michigan Power (IMP, A-/Stable) and Northern Indiana Public Service Corp (NIPSCO, BBB/Stable). Similar to IMP and NIPSCO, AES Indiana benefits from a supportive regulatory and business environment in Indiana. However, Fitch considers NIPSCO's gas distribution operation superior to AES Indiana's and IMP's integrated electric-only operations. NIPSCO plans to exit coal generation by 2028. Pending the outcome of the next IRP, AES Indiana plans to exit coal by 2025.
AES Indiana's FFO leverage is expected to average 4.1x in the next three years, compared with IMP's projected 3.5x-4.0x. Although AES Indiana's credit metrics are strong for its ratings, it is upwardly constrained by IPALCO. NIPSCO's credit metrics are similar to those of AES Indiana, but Fitch assigns NIPSCO's rating based on the consolidated credit profile of its corporate parent NiSource Inc. (BBB/Stable).
Key Assumptions
Implement a seven-year TDSIC plan;
$1.8 billion capex in total from 2022 to 2024.
RATING SENSITIVITIES
Factors that could, individually or collectively, lead to positive rating action/upgrade:
Due to the two-notch differential between AES Indiana and its parent holding company IPALCO, AES Indiana is unlikely to be upgraded absent an upgrade at IPALCO.
Factors that could, individually or collectively, lead to negative rating action/downgrade:
Negative regulatory development resulting in FFO Leverage rising above 4.7x on a sustained basis.
Best/Worst Case Rating Scenario
International scale credit ratings of Non-Financial Corporate issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579.
Issuer Profile
AES Indiana is an integrated and regulated utility and has exclusive right to provide electric service to approximately 516,000 retail customers in the city of Indianapolis and neighboring areas. AES Indiana's service area covers about 528 square miles with an estimated population of 977,000.
Date of Relevant Committee
14 April 2022
REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING
The principal sources of information used in the analysis are described in the Applicable Criteria.
ESG Considerations
Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of '3'. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/esg
AES INDIANA 