End of Bonus Depreciation Could Prompt Cuts in Capital Spending ...
CORPORATES
SEPTEMBER 9, 2013
SPECIAL COMMENT
US Telecommunications and Regulated Utilities
End of Bonus Depreciation Could Prompt Cuts in Capital Spending, Dividends
Two industries could face over $100 billion in tax payments with the expiration of US tax break
Table of Contents: TIME TO PAY THE TAX COLLECTOR UTILITIES WILL HAVE AN EASIER TIME THAN TELECOMS OFFSETTING THE TAX BURDEN DIVIDEND POLICIES WILL BECOME UNSUSTAINABLE ABSENT A MIDCOURSE CORRECTION TIME IS ON THEIR SIDE APPENDIX A: ILLUSTRATIVE PROJECTION MODEL – TELECOMMUNICATIONS INDUSTRY APPENDIX B: ILLUSTRATIVE PROJECTION MODEL – UTILITIES INDUSTRY APPENDIX C: SELECT TELECOM COMPANIES INCLUDED IN THIS REPORT APPENDIX C: SELECT UTILITY COMPANIES INCLUDED IN THIS REPORT MOODY’S RELATED RESEARCH
»
Time to pay the tax collector. The US telecommunications and utilities industries could face more than $100 billion in combined federal tax payments in coming years resulting largely from accelerated depreciation benefits they have taken since 2008. Assuming the “bonus depreciation” allowance expires as scheduled at the end of 2013, companies will have to adjust capital spending and shareholder dividends to offset higher taxes.
»
Bonus depreciation has benefitted the US telecom and utility sectors. We estimate that from 2008 to 2012, federal economic stimulus has helped US telecoms and utilities defer paying taxes of roughly $30 billion and $62 billion, respectively. They could defer an additional $15 billion to $20 billion in 2013. These industries will have higher tax liabilities in future years than they would have had without bonus depreciation, which allowed them to claim depreciation expense more quickly, lowering their taxes.
»
Utilities will have an easier time than telecoms offsetting the tax burden. Utilities poured the tax benefit back into their businesses, increasing capital spending to 28% of revenues in 2012 from 18% in 2007. This will protect their rate base and enable them to reduce capital spending to partially offset the higher future tax obligation. Telecoms, on the other hand, sharply increased shareholder-friendly activity via dividends and share buy-backs and will face tougher choices between dividend reductions and capital spending.
»
For both telecom and utilities, dividend policies will become unsustainable absent a mid-course correction. Our projections suggest that the industries’ combined dividends will rise to $52 billion in 2020 from $44 billion in 2013. Such dividend payouts are unsustainable because net income and free cash flow will remain essentially flat, in part owing to higher taxes. Rising EBITDA will decouple from flat cash flow, leading to deteriorating cash-flow-to-debt metrics even as Debt/EBITDA leverage remains stable.
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Time is on their side. Assuming that bonus depreciation is not extended beyond 2013, companies could begin to face higher cash taxes next year. However, our analysis excludes other tax matters, potential adjustments to the tax code and all of the ways that companies could offset higher cash taxes. Considering these levers, we believe the telecom and utilities sectors would have ample time to amend their business plans.
2 4 5 7 8 9 10 11 13
Analyst Contacts: NEW YORK
+1.212.553.1653
Mark Stodden +1.212.553.7718 Assistant Vice President - Analyst [email protected] Jeffrey Cassella +1.212.553.1665 Analyst [email protected] Jason Cuomo +1.212.553.7795 Vice President - Senior Accounting Analyst [email protected] Tung Bui Associate Analyst [email protected]
+1.212.553.4053
Jim Hempstead +1.212.553.4318 Associate Managing Director [email protected] John Diaz +1.212.553.1977 Managing Director - Corporate Finance [email protected]
CORPORATES
Time to pay the tax collector The US telecommunications and utilities industries could face more than $100 billion in combined federal tax payments in coming years resulting from stimulus-related depreciation benefits they have taken since 2008. Assuming the “bonus depreciation” allowance expires as scheduled at the end of 2013, companies will have to adjust capital spending and shareholder dividends to offset the higher tax burden. This will be more difficult for the telecom industry than for utilities, but both industries would have time to adjust. Bonus depreciation of property, plant and equipment is a form of federal economic stimulus that from 2008 to 2012 helped US telecommunications companies and utilities avoid paying taxes of roughly $30 billion and $62 billion, respectively (see Exhibit 1). They could defer an additional $15 billion to $20 billion in 2013. This has benefitted credit quality and liquidity. But these industries will have higher tax liabilities in future years than they would have had without bonus depreciation, which reduced their tax bills by allowing them to claim depreciation expenses more quickly. Our analysis is based on the historical financial profiles of a select peer group of US telecoms and utility companies. While these are not the only industries that have benefitted from the bonus depreciation allowance, we selected them because they have similarly high capital intensity, mostly domestic business operations and high dividend payouts. To estimate the benefit of US federal tax and accounting policies that were part of the government’s economic stimulus effort, we compared the industries’ actual cash taxes paid with an illustrative calculation of cash taxes at a 35% normalized federal corporate tax rate. As a simplifying assumption, we ignore many of the tax strategies that both telecommunications and utility companies actually deploy. But we acknowledge that there are numerous corporate finance levers and other flexibilities, other than adjustments to dividends and capital expenditures, that these sectors can use to offset the effects of higher taxes. As a result, we make yet another simplifying assumption in this report by focusing only on dividends and capital expenditures.
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SEPTEMBER 9, 2013
SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
EXHIBIT 1
Cash Taxes Avoided or Deferred Approach $100 Billion for 2008-12 $ in millions
2006
2007
2008
2009
2010
2011
2012
Total ’08-‘12
8,712
8,156
7,846
5,439
5,064
996
990
20,335
Telecommunications Actual Cash Taxes Paid Cash Tax % Pre-Tax Income Cash Taxes @ 35% Corp. Tax Rate Taxes Avoided/Deferred
28%
27%
23%
20%
18%
4%
3%
-
10,780
10,755
11,901
9,512
9,612
9,159
10,390
50,574
2,068
2,598
4,055
4,073
4,548
8,163
9,400
30,240
9,348
13,073
6,815
5,073
5,574
(2,637)
352
15,177
Utilities Actual Cash Taxes Paid Cash Tax % Pre-Tax Income Cash Taxes @ 35% Corp. Tax Rate Taxes Avoided/Deferred
34%
31%
17%
12%
12%
-6%
1%
-
9,764
14,874
13,645
14,624
16,409
16,308
15,893
76,879
415
1,801
6,829
9,551
10,835
18,945
15,542
61,702
18,061
21,229
14,662
10,512
10,638
(1,641)
1,342
35,512
Combined Utilities + Telcos Actual Cash Taxes Paid Cash Tax % Pre-Tax Income Cash Taxes @ 35% Corp. Tax Rate Taxes Avoided/Deferred Bonus Depreciation Rate 1
31%
29%
20%
15%
14%
-2%
2%
-
20,544
25,629
25,546
24,136
26,021
25,467
26,283
127,453
2,483
4,400
10,884
13,624
15,384
27,108
24,942
91,941
0%
0%
50%
50%
50% 1
100%
50%
Rate increased to 100% for assets placed into service beginning September 9, 2010 through December 31, 2011
Source: Moody’s Investors Service
Bonus Depreciation Explained
Bonus depreciation is a fiscal policy tool to spur economic growth through capital investment by allowing companies to deduct depreciation more quickly. Bonus depreciation represents a substantial tax benefit because it effectively accelerates depreciation expense, lowering a company’s taxable income and, therefore, its tax obligation, in the year of the bonus. It also provides a near-term increase in cash flows. A company that takes advantage of this deduction will owe less taxes in the year of a capital expenditure, all else held constant, but more during the remaining years of the asset’s useful life. The longer the life of the asset, the greater the up-front tax benefit. Bonus depreciation is generally tax and cash neutral over the full life of the asset. Bonus depreciation is not a new benefit. It has been around for several years as a means to stimulate capital spending. On 2 January 2013, President Obama signed the American Taxpayer Relief Act of 2012, which, at the time, averted the combination of tax increases and spending cuts known as the ‘‘fiscal cliff,’’ and also extended bonus depreciation benefits previously contained in the Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act of 2010. Bonus depreciation is currently scheduled to expire at the end of 2013. However, if it is extended indefinitely or made permanent, this would be credit positive for both industries. However, we do not factor any extension into our current analysis.
3
SEPTEMBER 9, 2013
SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
Utilities will have an easier time than telecoms offsetting the tax burden Utilities’ use of the $62 billion tax benefit leaves them in better position than telecoms to offset the coming tax burden. Utilities poured the money back into their businesses, increasing capital spending to 28% of revenues in 2012 from 18% in 2007 (see Exhibit 2). This will protect their rate bases and enable them to reduce capital spending to partially offset the higher future tax obligations. EXHIBIT 2
Utilities Power Up Capital Spending Capital Expenditures
% of Revenue
100
30%
90
CapEx($ in billions)
70
20%
60 50
15%
40 10%
30 20
CapEx (% of Revenues)
25%
80
5%
10 -
0% 2007
2008
2009
2010
2011
2012
Source: Moody’s Investors Service
This capital spending cycle has largely run its course, however. The utilities’ capital spending was focused mainly on the installation of emission control equipment in preparation for the 2015 implementation of the EPA’s Mercury and Air Toxics Standards (MATS) and various state renewable portfolio standards, many of which also have 2015 production requirements. Several companies with high exposure to coal, such as Westar Energy (Baa2 stable) and Great Plains Energy (Baa2 stable), are nearing completion of their environmental construction and are set to become MATS compliant in the next couple of years. With a large amount of the current cycle’s capital spending behind them, utilities will be better positioned to reduce their capital spending budgets as a means to fund higher future tax bills. We expect capex as a percentage of revenue to decline to 20% from 28% over the next five years. Even with this decline in capital intensity, dividend policies could face pressure. Telecoms, on the other hand, used the excess cash from low taxes to appease shareholders as organic growth remained elusive. In aggregate, telecom companies’ common dividends increased to $19 billion in 2012 from $14 billion in 2006, a cumulative annual growth rate (CAGR) of 6.3%. In addition, Verizon Communications Inc. (Baa1 stable) began paying supplemental distributions (i.e. dividends) to its Verizon Wireless co-owner Vodafone Group Plc (A3 stable) with an $8 billion payout in 2012 and AT&T Inc. (A3 stable) began an aggressive share buyback program, repurchasing almost $22 billion in stock over the past 18 months. Across the sector, telecom firms will face tough choices as taxes rise. Dividend reductions are unlikely because they can result in a painful equity market response. Even at current levels, telecom stocks will face pressure related to their high dividend yields. We believe that high dividend yields and low growth make telecom stock prices somewhat bond-like, with an inverse relationship to interest rates. As rates rise, telecom stocks will face pressure as income-seeking investors rotate back to fixed-income assets. The combination of dividend cuts and rising interest rates would place significant pressure on telecom stocks. Further, the industry has little scope to reduce capital spending because of its already weak organic
4
SEPTEMBER 9, 2013
SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
growth and the risks this would pose to long-term competitiveness, both relative to telecom peers and the growing threat from cable operators. EXHIBIT 3
Telecommunications Places Capital Spending on Hold Capex
% of Revenue
70
20% 18% 16%
50
14% 12%
40
10% 30
8% 6%
20
CapEx (% of Revenues)
CapEx($ in billions)
60
4%
10
2%
-
0% 2007
2008
2009
2010
2012
2011
Source: Moody’s Investors Service
Dividend policies will become unsustainable absent a mid-course correction Our projections suggest that the industries’ combined dividends will rise by around 3% annually to $52 billion in 2020 from $44 billion in 2013, while net income and free cash flow will remain essentially flat, in part due to higher taxes. Absent a mid-course correction, dividend payout ratios as a percentage of net income will rise to 82% from 70% for utilities and to 172% from 103% for telecoms (see Exhibit 4), unsustainable levels that would be credit negative for the sectors. EXHIBIT 4
Utilities and Telecoms Dividend Payouts Utilities Payout % of Net Income
Telecoms Payout % of Net Income 190%
52
170%
50
150%
48
130%
46 110%
44
90%
42
% of Net Income
Dividends ($ in billions)
Total Dividends 54
70%
40 38
50% 2013
2014
2015
2016
2017
2018
2019
2020
Source: Moody’s Investors Service
Accommodating higher dividends will become more difficult as higher cash taxes combined with rising interest costs result in a decoupling of EBITDA and cash flows. We expect that both the telecom and utility industries will continue to achieve slow but steady revenue growth and will be successful in defending their existing EBITDA margins. But these higher operating profits will not flow through to cash, mostly due to the tax bite. This will limit the industries’ dividend-paying capacity.
5
SEPTEMBER 9, 2013
SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
The decoupling of EBITDA and cash flows could also mask a deterioration in credit quality as Debt/EBITDA leverage will remain somewhat stable but cash flow as a percentage of debt will deteriorate sharply. We assume a gradual increase in cash taxes back to around 20% of pretax income for utilities and 25% for telecoms, from 1% and 3%, respectively, in fiscal 2012, as the benefits of bonus depreciation end. We expect that companies will also look to utilize other tax assets that may have accrued during the timeframe that bonus depreciation was in place, such as net operating loss (NOL) carry-forwards, to offset some of the incremental burden. EXHIBIT 5
Telecom Historical and Projected EBITDA and CFO EBITDA
CFO
140 130
$ in billions
120 110 100 90 80 70 60 2006 2007 2008 Source: Moody’s Investors Service
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
2019
2020
2013
2014
2015
2016
2017
2018
2019
2020
EXHIBIT 6
Utility Historical and Projected EBITDA and CFO EBITDA
CFO
150 140 130
$ in billions
120 110 100 90 80 70 60 50 2006 2007 2008 Source: Moody’s Investors Service
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SEPTEMBER 9, 2013
2009
2010
2011
2012
SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
Time is on their side Assuming that bonus depreciation is not extended, as it has been several times in the past, then companies could begin to face higher cash taxes next year. However, we believe that companies would have ample time to amend their capital allocation policies in response to the expiration of bonus depreciation. Further, our analysis in this report views this tax issue in isolation for simplicity. We do not take into account other tax matters or potential adjustments to the tax code, nor every way companies could offset higher cash taxes. Utilities can use other tax-avoidance vehicles, such as repairs deductions, investment tax credits or NOLs, to reduce their future tax bills. For example, TECO Energy, Inc. (Baa2 stable) had an NOL and AMT tax credit carryforward of $685 million as of 31 December, which it plans to use as a means to offset cash taxes through the end of 2017. Telecoms have also been taking active measures to maintain their cash flow given the expected rise in cash taxes. CenturyLink Inc. (Ba1 stable) reduced its common stock dividend by 26% in early 2013, driven by the company’s expectation that its income tax bill would increase substantially in 2015 after using up all of its NOLs. AT&T Inc. is seeking approval from the Department of Labor for its plan to contribute preferred equity in AT&T Mobility II to fund its underfunded pension obligation. The transaction will have significant tax benefits, although the timing of the cash flow impact is uncertain. At the same time, the company plans to slow the pace of share repurchases.
7
SEPTEMBER 9, 2013
SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
Appendix A: Illustrative Projection Model – Telecommunications Industry $ in billions
2006
Revenue
299
307
306
309
317
329
344
353
362
371
380
390
399
409
419
n/a
2.5%
-0.4%
1.2%
2.6%
3.6%
4.7%
2.5%
2.5%
2.5%
2.5%
2.5%
2.5%
2.5%
2.5%
105
105
107
104
105
104
113
115
117
119
121
123
126
128
130
35.0%
34.4%
34.9%
33.6%
33.2%
31.8%
32.7%
32.7%
32.5%
32.2%
32.0%
31.7%
31.5%
31.2%
31.0%
46
46
50
46
46
45
50
51
51
52
52
52
52
53
53
15.5%
14.9%
16.3%
14.7%
14.5%
13.6%
14.4%
14.4%
14.1%
13.9%
13.6%
13.4%
13.1%
12.9%
12.6%
31
29
(7)
28
28
20
25
32
31
27
26
25
24
23
22
9
18
(3)
8
4
7
6
10
10
9
8
8
8
8
7
29%
63%
35%
29%
13%
35%
23%
32%
32%
32%
32%
32%
32%
32%
32%
Net Income
24
11
(11)
14
19
7
9
21
21
18
17
17
16
16
15
Cash Taxes
9
8
8
5
5
1
1
1
2
3
4
5
6
6
6
28%
27%
23%
20%
18%
4%
3%
3%
7%
10%
15%
20%
25%
25%
25%
83
87
83
87
91
88
99
100
99
96
96
96
96
97
98
(55)
(53)
(52)
(47)
(53)
(56)
(58)
(59)
(61)
(62)
(64)
(65)
(67)
(69)
(70)
% growth EBITDA EBITDA % EBIT EBIT % Pretax Income Income Tax Expense Income Tax Exp. %
Cash Tax % CFO Capex
2007
2008
2009
2010
2011
2012
2013E
2014E
2015E
2016E
2017E
2018E
2019E
2020E
Dividend
14
15
18
17
18
19
27
22
22
22
23
23
24
25
26
FCF
14
18
13
22
19
13
14
18
17
12
9
7
5
3
2
270
241
263
288
288
312
333
342
397
402
416
434
454
476
499
Debt/EBITDA
2.57
2.28
2.46
2.77
2.73
2.99
2.96
2.96
3.39
3.37
3.42
3.51
3.62
3.73
3.85
EBITDA Margin
35%
34%
35%
34%
33%
32%
33%
33%
32%
32%
32%
32%
31%
31%
31%
EBITDA-Capex/Interest
3.22
3.49
3.51
3.10
2.82
2.61
2.76
2.92
2.75
2.29
2.20
2.14
2.07
1.99
1.91
EBIT/Interest
2.98
3.06
3.16
2.48
2.48
2.41
2.49
2.65
2.49
2.07
1.98
1.93
1.86
1.78
1.71
CFO/Debt
31%
36%
31%
30%
31%
28%
30%
29%
25%
24%
23%
22%
21%
20%
20%
FCF/Debt
5%
8%
5%
8%
7%
4%
4%
5%
4%
3%
2%
2%
1%
1%
0%
Dividend Payout (% of CFO-Capex)
49%
46%
57%
43%
48%
59%
66%
54%
56%
65%
71%
77%
84%
89%
94%
Dividend Payout (% of Net Income)
59%
143%
-158%
124%
96%
257%
299%
103%
104%
123%
132%
138%
148%
159%
172%
Total Debt Key Metrics:
Source: Moody’s Investors Service
8
SEPTEMBER 9, 2013
SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
Appendix B: Illustrative Projection Model – Utilities Industry $ in billions
2006
2007
2008
2009
2010
2011
Revenue
345
365 6%
394
355
361
361
344
349
354
361
368
378
387
399
411
8%
-10%
2%
0%
-5%
1.5%
1.5%
2.0%
2.0%
2.5%
2.5%
3.0%
3.0%
81
99
96
105
110
110
114
115
117
119
122
125
128
132
136
23%
27%
24%
30%
30%
30%
33%
33%
33%
33%
33%
33%
33%
33%
33%
48
64
61
66
71
70
70
71
72
74
75
77
79
81
84
14%
18%
15%
19%
20%
19%
20%
20%
20%
20%
20%
20%
20%
20%
20%
Pretax Income
28
43
6
42
47
44
45
47
46
46
46
46
47
48
50
Income Tax Expense
12
14
2
13
16
14
14
16
16
16
16
16
16
17
17
42%
34%
40%
32%
34%
31%
30%
35%
35%
35%
35%
35%
35%
35%
35%
Net Income
18
28
4
28
31
30
30
31
30
30
30
30
31
32
33
Cash Taxes
9
13
7
5
6
(3)
0
0
2
3
5
6
7
8
8
34%
31%
17%
12%
12%
-6%
1%
1%
5%
7%
10%
12%
15%
17%
17%
63
59
59
87
82
90
89
93
91
91
90
90
90
92
95
(57)
(67)
(77)
(74)
(74)
(81)
(95)
(96)
(89)
(90)
(81)
(83)
(77)
(80)
(82)
% growth EBITDA EBITDA % EBIT EBIT %
Income Tax Exp. %
Cash Tax % CFO Capex
2012
2013E
2014E
2015E
2016E
2017E
2018E
2019E
2020E
Dividend
15
16
17
18
18
20
21
22
22
23
24
24
25
26
27
FCF
(9)
(24)
(36)
(5)
(11)
(12)
(27)
(25)
(20)
(23)
(15)
(18)
(12)
(13)
(14)
335
339
404
413
424
453
506
525
527
541
559
579
593
609
625
4.14
3.43
4.21
3.92
3.85
4.12
4.46
4.55
4.50
4.53
4.59
4.64
4.64
4.62
4.61
Total Debt Key Metrics: Debt/EBITDA EBITDA-Capex/Interest
1.17
1.48
0.86
1.28
1.52
1.22
0.76
0.80
1.11
1.07
1.39
1.35
1.57
1.58
1.58
EBIT/Interest
2.37
2.98
2.79
2.71
2.97
2.98
2.84
3.01
2.80
2.71
2.56
2.48
2.45
2.46
2.47
CFO/Debt
19%
17%
15%
21%
19%
20%
18%
18%
17%
17%
16%
16%
15%
15%
15%
FCF/Debt
-3%
-7%
-9%
-1%
-2%
-3%
-5%
-5%
-4%
-4%
-3%
-3%
-2%
-2%
-2%
Dividend Payout (% of CFO-Capex)
250%
-186%
-92%
141%
235%
238%
-368%
-626%
1076%
7165%
278%
358%
193%
207%
206%
Dividend Payout (% of Net Income)
86%
55%
411%
63%
60%
66%
70%
70%
74%
76%
79%
81%
82%
82%
82%
Source: Moody’s Investors Service
9
SEPTEMBER 9, 2013
SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
Appendix C: Select Telecom Companies Included in This Report Company
Long Term Rating
Outlook
Baa3
Stable
AT&T Inc.
A3
Stable
CenturyLink, Inc.
Ba1
Stable
Cincinnati Bell Inc.
B2
Stable
Frontier Communications Corporation
Ba2
Stable
Level 3 Communications, Inc.
B3
Stable
Sprint Communications, Inc
Ba3
Stable
Telephone and Data Systems, Inc.
Baa2
Stable
Verizon Communications, Inc.
Baa1
Stable
Windstream Corporation
Ba3
Stable
tw telecom inc.
Ba3
Stable
FairPoint Communications, Inc.
B2
Stable
Leap Wireless International, Inc.
B3
Ratings Under Review
Crown Castle International Corp.
Ba2
Stable
NII Holdings Inc.
B3
Stable
Equinix, Inc.
Ba3
Positive
EarthLink, Inc.
B2
Stable
Hughes Satellite Systems Corporation
B2
Negative
American Tower Corporation
10
SEPTEMBER 9, 2013
SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
Appendix C: Select Utility Companies Included in This Report Company
Long Term Rating
Outlook
Alliant Energy Corporation
Baa1
Stable
Ameren Corporation
Baa3
Stable
American Electric Power Company, Inc.
Baa2
Stable
American Water Works Company, Inc.
Baa1
Stable
Atmos Energy Corporation
Baa1
Stable
Avista Corp.
Baa2
Stable
Black Hills Corporation
Baa3
Positive
CenterPoint Energy, Inc.
Baa2
Stable
Cleco Corporation
Baa3
Positive
CMS Energy Corporation
Baa3
Stable
Consolidated Edison, Inc.
Baa1
Positive
Dominion Resources Inc.
Baa2
Stable
DPL Inc.
Ba1
Ratings Under Review
DTE Energy Company
Baa1
Stable
Duke Energy Corporation
Baa2
Ratings Under Review
Duquesne Light Holdings, Inc.
Baa3
Stable
Edison International
Baa2
Stable
El Paso Electric Company
Baa2
Stable
Entergy Corporation
Baa3
Stable
Exelon Corporation
Baa2
Stable
FirstEnergy Corp.
Baa3
Negative
Great Plains Energy Incorporated
Baa3
Stable
Hawaiian Electric Industries, Inc.
Baa2
Stable
IDACORP, Inc.
Baa2
Stable
Integrys Energy Group, Inc.
Baa1
Stable
Laclede Group, Inc. (The)
Baa2
Stable
NextEra Energy, Inc.
Baa1
Stable
NiSource Inc.
Ba2
Stable
Northeast Utilities
Baa2
Stable
A3
Negative
NorthWestern Corporation
Baa1
Stable
NRG Energy, Inc.
Ba3
Stable
Northwest Natural Gas Company
NSTAR LLC
11
SEPTEMBER 9, 2013
A3
Stable
NV Energy Inc.
Baa3
Stable
OGE Energy Corp.
Baa1
Stable
Otter Tail Corporation
Baa3
Stable
Pepco Holdings, Inc.
Baa3
Stable
PG&E Corporation
Baa1
Stable
SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
Company
Long Term Rating
Outlook
A3
Stable
Pinnacle West Capital Corporation
Baa2
Stable
PNM Resources, Inc.
Ba1
Positive
PPL Corporation
Baa3
Stable
Progress Energy, Inc.
Baa2
Stable
Public Service Enterprise Group Incorporated
Baa2
Stable
Puget Energy, Inc.
Ba1
Positive
SCANA Corporation
Baa3
Stable
Sempra Energy
Baa1
Stable
Southern Company (The)
Baa1
Stable
Southwest Gas Corporation
Baa1
Stable
TECO Energy, Inc.
Baa2
Stable
UIL Holdings Corporation
Baa3
Stable
UNS Energy Corporation
Baa3
Stable
Westar Energy, Inc.
Baa2
Stable
A3
Stable
Baa1
Stable
Piedmont Natural Gas Company, Inc.
Wisconsin Energy Corporation Xcel Energy Inc.
12
SEPTEMBER 9, 2013
SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
Moody’s Related Research Industry Outlooks:
»
US Regulated Utilities: Regulation Provides Stability as Business Model Faces Challenges, July 2013 (156754)
»
US Wireline Telecommunications: Stable Outlook Hinges on Lower Capex, But Pressure Is Building, June 2013 (155727)
»
US Wireless Telecommunications: Big Carriers Continue to Drive Cash Flow Growth, June 2013 (155736)
Special Comments:
»
US Investor-Owned Utilities: Bonus Depreciation and Pension Adjustments Create Short Term Cash Bridge But Longer Term Issues Persist, October 2012 (146039)
»
U.S. Investor-Owned Utilities: Bonus Depreciation Provides Material Near-Term Benefit For The Sector But Raises Longer-Term Questions, February 2011 (131078)
»
Increasingly Stringent Environmental Mandates Lurch Forward, January 2012 (139096)
»
US Investor-Owned Utilities: High Capital Expenditures Adding to Rate Pressure for Utilities, October 2012 (144792)
»
US Wireless Industry: Verizon’s Financial Flexibility Reduced, Rivals Stand to Gain in Vodafone Deal, September 2013 (157949)
»
US Telecommunications: Dividend Dilemma for Telecoms: How to Support Stock Prices When Interest Rates Rise, December 2012 (147762)
»
US Cable and Telecommunications: Cable Companies Quash Telecom Business-Revenue Rebound, May 2012 (141956)
»
US Wireless Industry: AT&T, Verizon Strengthen Position In US Wireless Market as Competition Fades, February, 2012 (139522)
To access any of these reports, click on the entry above. Note that these references are current as of the date of publication of this report and that more recent reports may be available. All research may not be available to all clients.
13
SEPTEMBER 9, 2013
SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
Report Number: 157572
Authors Mark Stodden Jeffrey Cassella Tung Bui Jim Hempstead
Production Associate Prabhakaran Elumalai
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14
SEPTEMBER 9, 2013
SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
SEPTEMBER 9, 2013
SPECIAL COMMENT
US Telecommunications and Regulated Utilities
End of Bonus Depreciation Could Prompt Cuts in Capital Spending, Dividends
Two industries could face over $100 billion in tax payments with the expiration of US tax break
Table of Contents: TIME TO PAY THE TAX COLLECTOR UTILITIES WILL HAVE AN EASIER TIME THAN TELECOMS OFFSETTING THE TAX BURDEN DIVIDEND POLICIES WILL BECOME UNSUSTAINABLE ABSENT A MIDCOURSE CORRECTION TIME IS ON THEIR SIDE APPENDIX A: ILLUSTRATIVE PROJECTION MODEL – TELECOMMUNICATIONS INDUSTRY APPENDIX B: ILLUSTRATIVE PROJECTION MODEL – UTILITIES INDUSTRY APPENDIX C: SELECT TELECOM COMPANIES INCLUDED IN THIS REPORT APPENDIX C: SELECT UTILITY COMPANIES INCLUDED IN THIS REPORT MOODY’S RELATED RESEARCH
»
Time to pay the tax collector. The US telecommunications and utilities industries could face more than $100 billion in combined federal tax payments in coming years resulting largely from accelerated depreciation benefits they have taken since 2008. Assuming the “bonus depreciation” allowance expires as scheduled at the end of 2013, companies will have to adjust capital spending and shareholder dividends to offset higher taxes.
»
Bonus depreciation has benefitted the US telecom and utility sectors. We estimate that from 2008 to 2012, federal economic stimulus has helped US telecoms and utilities defer paying taxes of roughly $30 billion and $62 billion, respectively. They could defer an additional $15 billion to $20 billion in 2013. These industries will have higher tax liabilities in future years than they would have had without bonus depreciation, which allowed them to claim depreciation expense more quickly, lowering their taxes.
»
Utilities will have an easier time than telecoms offsetting the tax burden. Utilities poured the tax benefit back into their businesses, increasing capital spending to 28% of revenues in 2012 from 18% in 2007. This will protect their rate base and enable them to reduce capital spending to partially offset the higher future tax obligation. Telecoms, on the other hand, sharply increased shareholder-friendly activity via dividends and share buy-backs and will face tougher choices between dividend reductions and capital spending.
»
For both telecom and utilities, dividend policies will become unsustainable absent a mid-course correction. Our projections suggest that the industries’ combined dividends will rise to $52 billion in 2020 from $44 billion in 2013. Such dividend payouts are unsustainable because net income and free cash flow will remain essentially flat, in part owing to higher taxes. Rising EBITDA will decouple from flat cash flow, leading to deteriorating cash-flow-to-debt metrics even as Debt/EBITDA leverage remains stable.
»
Time is on their side. Assuming that bonus depreciation is not extended beyond 2013, companies could begin to face higher cash taxes next year. However, our analysis excludes other tax matters, potential adjustments to the tax code and all of the ways that companies could offset higher cash taxes. Considering these levers, we believe the telecom and utilities sectors would have ample time to amend their business plans.
2 4 5 7 8 9 10 11 13
Analyst Contacts: NEW YORK
+1.212.553.1653
Mark Stodden +1.212.553.7718 Assistant Vice President - Analyst [email protected] Jeffrey Cassella +1.212.553.1665 Analyst [email protected] Jason Cuomo +1.212.553.7795 Vice President - Senior Accounting Analyst [email protected] Tung Bui Associate Analyst [email protected]
+1.212.553.4053
Jim Hempstead +1.212.553.4318 Associate Managing Director [email protected] John Diaz +1.212.553.1977 Managing Director - Corporate Finance [email protected]
CORPORATES
Time to pay the tax collector The US telecommunications and utilities industries could face more than $100 billion in combined federal tax payments in coming years resulting from stimulus-related depreciation benefits they have taken since 2008. Assuming the “bonus depreciation” allowance expires as scheduled at the end of 2013, companies will have to adjust capital spending and shareholder dividends to offset the higher tax burden. This will be more difficult for the telecom industry than for utilities, but both industries would have time to adjust. Bonus depreciation of property, plant and equipment is a form of federal economic stimulus that from 2008 to 2012 helped US telecommunications companies and utilities avoid paying taxes of roughly $30 billion and $62 billion, respectively (see Exhibit 1). They could defer an additional $15 billion to $20 billion in 2013. This has benefitted credit quality and liquidity. But these industries will have higher tax liabilities in future years than they would have had without bonus depreciation, which reduced their tax bills by allowing them to claim depreciation expenses more quickly. Our analysis is based on the historical financial profiles of a select peer group of US telecoms and utility companies. While these are not the only industries that have benefitted from the bonus depreciation allowance, we selected them because they have similarly high capital intensity, mostly domestic business operations and high dividend payouts. To estimate the benefit of US federal tax and accounting policies that were part of the government’s economic stimulus effort, we compared the industries’ actual cash taxes paid with an illustrative calculation of cash taxes at a 35% normalized federal corporate tax rate. As a simplifying assumption, we ignore many of the tax strategies that both telecommunications and utility companies actually deploy. But we acknowledge that there are numerous corporate finance levers and other flexibilities, other than adjustments to dividends and capital expenditures, that these sectors can use to offset the effects of higher taxes. As a result, we make yet another simplifying assumption in this report by focusing only on dividends and capital expenditures.
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SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
EXHIBIT 1
Cash Taxes Avoided or Deferred Approach $100 Billion for 2008-12 $ in millions
2006
2007
2008
2009
2010
2011
2012
Total ’08-‘12
8,712
8,156
7,846
5,439
5,064
996
990
20,335
Telecommunications Actual Cash Taxes Paid Cash Tax % Pre-Tax Income Cash Taxes @ 35% Corp. Tax Rate Taxes Avoided/Deferred
28%
27%
23%
20%
18%
4%
3%
-
10,780
10,755
11,901
9,512
9,612
9,159
10,390
50,574
2,068
2,598
4,055
4,073
4,548
8,163
9,400
30,240
9,348
13,073
6,815
5,073
5,574
(2,637)
352
15,177
Utilities Actual Cash Taxes Paid Cash Tax % Pre-Tax Income Cash Taxes @ 35% Corp. Tax Rate Taxes Avoided/Deferred
34%
31%
17%
12%
12%
-6%
1%
-
9,764
14,874
13,645
14,624
16,409
16,308
15,893
76,879
415
1,801
6,829
9,551
10,835
18,945
15,542
61,702
18,061
21,229
14,662
10,512
10,638
(1,641)
1,342
35,512
Combined Utilities + Telcos Actual Cash Taxes Paid Cash Tax % Pre-Tax Income Cash Taxes @ 35% Corp. Tax Rate Taxes Avoided/Deferred Bonus Depreciation Rate 1
31%
29%
20%
15%
14%
-2%
2%
-
20,544
25,629
25,546
24,136
26,021
25,467
26,283
127,453
2,483
4,400
10,884
13,624
15,384
27,108
24,942
91,941
0%
0%
50%
50%
50% 1
100%
50%
Rate increased to 100% for assets placed into service beginning September 9, 2010 through December 31, 2011
Source: Moody’s Investors Service
Bonus Depreciation Explained
Bonus depreciation is a fiscal policy tool to spur economic growth through capital investment by allowing companies to deduct depreciation more quickly. Bonus depreciation represents a substantial tax benefit because it effectively accelerates depreciation expense, lowering a company’s taxable income and, therefore, its tax obligation, in the year of the bonus. It also provides a near-term increase in cash flows. A company that takes advantage of this deduction will owe less taxes in the year of a capital expenditure, all else held constant, but more during the remaining years of the asset’s useful life. The longer the life of the asset, the greater the up-front tax benefit. Bonus depreciation is generally tax and cash neutral over the full life of the asset. Bonus depreciation is not a new benefit. It has been around for several years as a means to stimulate capital spending. On 2 January 2013, President Obama signed the American Taxpayer Relief Act of 2012, which, at the time, averted the combination of tax increases and spending cuts known as the ‘‘fiscal cliff,’’ and also extended bonus depreciation benefits previously contained in the Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act of 2010. Bonus depreciation is currently scheduled to expire at the end of 2013. However, if it is extended indefinitely or made permanent, this would be credit positive for both industries. However, we do not factor any extension into our current analysis.
3
SEPTEMBER 9, 2013
SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
Utilities will have an easier time than telecoms offsetting the tax burden Utilities’ use of the $62 billion tax benefit leaves them in better position than telecoms to offset the coming tax burden. Utilities poured the money back into their businesses, increasing capital spending to 28% of revenues in 2012 from 18% in 2007 (see Exhibit 2). This will protect their rate bases and enable them to reduce capital spending to partially offset the higher future tax obligations. EXHIBIT 2
Utilities Power Up Capital Spending Capital Expenditures
% of Revenue
100
30%
90
CapEx($ in billions)
70
20%
60 50
15%
40 10%
30 20
CapEx (% of Revenues)
25%
80
5%
10 -
0% 2007
2008
2009
2010
2011
2012
Source: Moody’s Investors Service
This capital spending cycle has largely run its course, however. The utilities’ capital spending was focused mainly on the installation of emission control equipment in preparation for the 2015 implementation of the EPA’s Mercury and Air Toxics Standards (MATS) and various state renewable portfolio standards, many of which also have 2015 production requirements. Several companies with high exposure to coal, such as Westar Energy (Baa2 stable) and Great Plains Energy (Baa2 stable), are nearing completion of their environmental construction and are set to become MATS compliant in the next couple of years. With a large amount of the current cycle’s capital spending behind them, utilities will be better positioned to reduce their capital spending budgets as a means to fund higher future tax bills. We expect capex as a percentage of revenue to decline to 20% from 28% over the next five years. Even with this decline in capital intensity, dividend policies could face pressure. Telecoms, on the other hand, used the excess cash from low taxes to appease shareholders as organic growth remained elusive. In aggregate, telecom companies’ common dividends increased to $19 billion in 2012 from $14 billion in 2006, a cumulative annual growth rate (CAGR) of 6.3%. In addition, Verizon Communications Inc. (Baa1 stable) began paying supplemental distributions (i.e. dividends) to its Verizon Wireless co-owner Vodafone Group Plc (A3 stable) with an $8 billion payout in 2012 and AT&T Inc. (A3 stable) began an aggressive share buyback program, repurchasing almost $22 billion in stock over the past 18 months. Across the sector, telecom firms will face tough choices as taxes rise. Dividend reductions are unlikely because they can result in a painful equity market response. Even at current levels, telecom stocks will face pressure related to their high dividend yields. We believe that high dividend yields and low growth make telecom stock prices somewhat bond-like, with an inverse relationship to interest rates. As rates rise, telecom stocks will face pressure as income-seeking investors rotate back to fixed-income assets. The combination of dividend cuts and rising interest rates would place significant pressure on telecom stocks. Further, the industry has little scope to reduce capital spending because of its already weak organic
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SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
growth and the risks this would pose to long-term competitiveness, both relative to telecom peers and the growing threat from cable operators. EXHIBIT 3
Telecommunications Places Capital Spending on Hold Capex
% of Revenue
70
20% 18% 16%
50
14% 12%
40
10% 30
8% 6%
20
CapEx (% of Revenues)
CapEx($ in billions)
60
4%
10
2%
-
0% 2007
2008
2009
2010
2012
2011
Source: Moody’s Investors Service
Dividend policies will become unsustainable absent a mid-course correction Our projections suggest that the industries’ combined dividends will rise by around 3% annually to $52 billion in 2020 from $44 billion in 2013, while net income and free cash flow will remain essentially flat, in part due to higher taxes. Absent a mid-course correction, dividend payout ratios as a percentage of net income will rise to 82% from 70% for utilities and to 172% from 103% for telecoms (see Exhibit 4), unsustainable levels that would be credit negative for the sectors. EXHIBIT 4
Utilities and Telecoms Dividend Payouts Utilities Payout % of Net Income
Telecoms Payout % of Net Income 190%
52
170%
50
150%
48
130%
46 110%
44
90%
42
% of Net Income
Dividends ($ in billions)
Total Dividends 54
70%
40 38
50% 2013
2014
2015
2016
2017
2018
2019
2020
Source: Moody’s Investors Service
Accommodating higher dividends will become more difficult as higher cash taxes combined with rising interest costs result in a decoupling of EBITDA and cash flows. We expect that both the telecom and utility industries will continue to achieve slow but steady revenue growth and will be successful in defending their existing EBITDA margins. But these higher operating profits will not flow through to cash, mostly due to the tax bite. This will limit the industries’ dividend-paying capacity.
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SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
The decoupling of EBITDA and cash flows could also mask a deterioration in credit quality as Debt/EBITDA leverage will remain somewhat stable but cash flow as a percentage of debt will deteriorate sharply. We assume a gradual increase in cash taxes back to around 20% of pretax income for utilities and 25% for telecoms, from 1% and 3%, respectively, in fiscal 2012, as the benefits of bonus depreciation end. We expect that companies will also look to utilize other tax assets that may have accrued during the timeframe that bonus depreciation was in place, such as net operating loss (NOL) carry-forwards, to offset some of the incremental burden. EXHIBIT 5
Telecom Historical and Projected EBITDA and CFO EBITDA
CFO
140 130
$ in billions
120 110 100 90 80 70 60 2006 2007 2008 Source: Moody’s Investors Service
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
2019
2020
2013
2014
2015
2016
2017
2018
2019
2020
EXHIBIT 6
Utility Historical and Projected EBITDA and CFO EBITDA
CFO
150 140 130
$ in billions
120 110 100 90 80 70 60 50 2006 2007 2008 Source: Moody’s Investors Service
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2009
2010
2011
2012
SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
Time is on their side Assuming that bonus depreciation is not extended, as it has been several times in the past, then companies could begin to face higher cash taxes next year. However, we believe that companies would have ample time to amend their capital allocation policies in response to the expiration of bonus depreciation. Further, our analysis in this report views this tax issue in isolation for simplicity. We do not take into account other tax matters or potential adjustments to the tax code, nor every way companies could offset higher cash taxes. Utilities can use other tax-avoidance vehicles, such as repairs deductions, investment tax credits or NOLs, to reduce their future tax bills. For example, TECO Energy, Inc. (Baa2 stable) had an NOL and AMT tax credit carryforward of $685 million as of 31 December, which it plans to use as a means to offset cash taxes through the end of 2017. Telecoms have also been taking active measures to maintain their cash flow given the expected rise in cash taxes. CenturyLink Inc. (Ba1 stable) reduced its common stock dividend by 26% in early 2013, driven by the company’s expectation that its income tax bill would increase substantially in 2015 after using up all of its NOLs. AT&T Inc. is seeking approval from the Department of Labor for its plan to contribute preferred equity in AT&T Mobility II to fund its underfunded pension obligation. The transaction will have significant tax benefits, although the timing of the cash flow impact is uncertain. At the same time, the company plans to slow the pace of share repurchases.
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SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
Appendix A: Illustrative Projection Model – Telecommunications Industry $ in billions
2006
Revenue
299
307
306
309
317
329
344
353
362
371
380
390
399
409
419
n/a
2.5%
-0.4%
1.2%
2.6%
3.6%
4.7%
2.5%
2.5%
2.5%
2.5%
2.5%
2.5%
2.5%
2.5%
105
105
107
104
105
104
113
115
117
119
121
123
126
128
130
35.0%
34.4%
34.9%
33.6%
33.2%
31.8%
32.7%
32.7%
32.5%
32.2%
32.0%
31.7%
31.5%
31.2%
31.0%
46
46
50
46
46
45
50
51
51
52
52
52
52
53
53
15.5%
14.9%
16.3%
14.7%
14.5%
13.6%
14.4%
14.4%
14.1%
13.9%
13.6%
13.4%
13.1%
12.9%
12.6%
31
29
(7)
28
28
20
25
32
31
27
26
25
24
23
22
9
18
(3)
8
4
7
6
10
10
9
8
8
8
8
7
29%
63%
35%
29%
13%
35%
23%
32%
32%
32%
32%
32%
32%
32%
32%
Net Income
24
11
(11)
14
19
7
9
21
21
18
17
17
16
16
15
Cash Taxes
9
8
8
5
5
1
1
1
2
3
4
5
6
6
6
28%
27%
23%
20%
18%
4%
3%
3%
7%
10%
15%
20%
25%
25%
25%
83
87
83
87
91
88
99
100
99
96
96
96
96
97
98
(55)
(53)
(52)
(47)
(53)
(56)
(58)
(59)
(61)
(62)
(64)
(65)
(67)
(69)
(70)
% growth EBITDA EBITDA % EBIT EBIT % Pretax Income Income Tax Expense Income Tax Exp. %
Cash Tax % CFO Capex
2007
2008
2009
2010
2011
2012
2013E
2014E
2015E
2016E
2017E
2018E
2019E
2020E
Dividend
14
15
18
17
18
19
27
22
22
22
23
23
24
25
26
FCF
14
18
13
22
19
13
14
18
17
12
9
7
5
3
2
270
241
263
288
288
312
333
342
397
402
416
434
454
476
499
Debt/EBITDA
2.57
2.28
2.46
2.77
2.73
2.99
2.96
2.96
3.39
3.37
3.42
3.51
3.62
3.73
3.85
EBITDA Margin
35%
34%
35%
34%
33%
32%
33%
33%
32%
32%
32%
32%
31%
31%
31%
EBITDA-Capex/Interest
3.22
3.49
3.51
3.10
2.82
2.61
2.76
2.92
2.75
2.29
2.20
2.14
2.07
1.99
1.91
EBIT/Interest
2.98
3.06
3.16
2.48
2.48
2.41
2.49
2.65
2.49
2.07
1.98
1.93
1.86
1.78
1.71
CFO/Debt
31%
36%
31%
30%
31%
28%
30%
29%
25%
24%
23%
22%
21%
20%
20%
FCF/Debt
5%
8%
5%
8%
7%
4%
4%
5%
4%
3%
2%
2%
1%
1%
0%
Dividend Payout (% of CFO-Capex)
49%
46%
57%
43%
48%
59%
66%
54%
56%
65%
71%
77%
84%
89%
94%
Dividend Payout (% of Net Income)
59%
143%
-158%
124%
96%
257%
299%
103%
104%
123%
132%
138%
148%
159%
172%
Total Debt Key Metrics:
Source: Moody’s Investors Service
8
SEPTEMBER 9, 2013
SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
Appendix B: Illustrative Projection Model – Utilities Industry $ in billions
2006
2007
2008
2009
2010
2011
Revenue
345
365 6%
394
355
361
361
344
349
354
361
368
378
387
399
411
8%
-10%
2%
0%
-5%
1.5%
1.5%
2.0%
2.0%
2.5%
2.5%
3.0%
3.0%
81
99
96
105
110
110
114
115
117
119
122
125
128
132
136
23%
27%
24%
30%
30%
30%
33%
33%
33%
33%
33%
33%
33%
33%
33%
48
64
61
66
71
70
70
71
72
74
75
77
79
81
84
14%
18%
15%
19%
20%
19%
20%
20%
20%
20%
20%
20%
20%
20%
20%
Pretax Income
28
43
6
42
47
44
45
47
46
46
46
46
47
48
50
Income Tax Expense
12
14
2
13
16
14
14
16
16
16
16
16
16
17
17
42%
34%
40%
32%
34%
31%
30%
35%
35%
35%
35%
35%
35%
35%
35%
Net Income
18
28
4
28
31
30
30
31
30
30
30
30
31
32
33
Cash Taxes
9
13
7
5
6
(3)
0
0
2
3
5
6
7
8
8
34%
31%
17%
12%
12%
-6%
1%
1%
5%
7%
10%
12%
15%
17%
17%
63
59
59
87
82
90
89
93
91
91
90
90
90
92
95
(57)
(67)
(77)
(74)
(74)
(81)
(95)
(96)
(89)
(90)
(81)
(83)
(77)
(80)
(82)
% growth EBITDA EBITDA % EBIT EBIT %
Income Tax Exp. %
Cash Tax % CFO Capex
2012
2013E
2014E
2015E
2016E
2017E
2018E
2019E
2020E
Dividend
15
16
17
18
18
20
21
22
22
23
24
24
25
26
27
FCF
(9)
(24)
(36)
(5)
(11)
(12)
(27)
(25)
(20)
(23)
(15)
(18)
(12)
(13)
(14)
335
339
404
413
424
453
506
525
527
541
559
579
593
609
625
4.14
3.43
4.21
3.92
3.85
4.12
4.46
4.55
4.50
4.53
4.59
4.64
4.64
4.62
4.61
Total Debt Key Metrics: Debt/EBITDA EBITDA-Capex/Interest
1.17
1.48
0.86
1.28
1.52
1.22
0.76
0.80
1.11
1.07
1.39
1.35
1.57
1.58
1.58
EBIT/Interest
2.37
2.98
2.79
2.71
2.97
2.98
2.84
3.01
2.80
2.71
2.56
2.48
2.45
2.46
2.47
CFO/Debt
19%
17%
15%
21%
19%
20%
18%
18%
17%
17%
16%
16%
15%
15%
15%
FCF/Debt
-3%
-7%
-9%
-1%
-2%
-3%
-5%
-5%
-4%
-4%
-3%
-3%
-2%
-2%
-2%
Dividend Payout (% of CFO-Capex)
250%
-186%
-92%
141%
235%
238%
-368%
-626%
1076%
7165%
278%
358%
193%
207%
206%
Dividend Payout (% of Net Income)
86%
55%
411%
63%
60%
66%
70%
70%
74%
76%
79%
81%
82%
82%
82%
Source: Moody’s Investors Service
9
SEPTEMBER 9, 2013
SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
Appendix C: Select Telecom Companies Included in This Report Company
Long Term Rating
Outlook
Baa3
Stable
AT&T Inc.
A3
Stable
CenturyLink, Inc.
Ba1
Stable
Cincinnati Bell Inc.
B2
Stable
Frontier Communications Corporation
Ba2
Stable
Level 3 Communications, Inc.
B3
Stable
Sprint Communications, Inc
Ba3
Stable
Telephone and Data Systems, Inc.
Baa2
Stable
Verizon Communications, Inc.
Baa1
Stable
Windstream Corporation
Ba3
Stable
tw telecom inc.
Ba3
Stable
FairPoint Communications, Inc.
B2
Stable
Leap Wireless International, Inc.
B3
Ratings Under Review
Crown Castle International Corp.
Ba2
Stable
NII Holdings Inc.
B3
Stable
Equinix, Inc.
Ba3
Positive
EarthLink, Inc.
B2
Stable
Hughes Satellite Systems Corporation
B2
Negative
American Tower Corporation
10
SEPTEMBER 9, 2013
SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
Appendix C: Select Utility Companies Included in This Report Company
Long Term Rating
Outlook
Alliant Energy Corporation
Baa1
Stable
Ameren Corporation
Baa3
Stable
American Electric Power Company, Inc.
Baa2
Stable
American Water Works Company, Inc.
Baa1
Stable
Atmos Energy Corporation
Baa1
Stable
Avista Corp.
Baa2
Stable
Black Hills Corporation
Baa3
Positive
CenterPoint Energy, Inc.
Baa2
Stable
Cleco Corporation
Baa3
Positive
CMS Energy Corporation
Baa3
Stable
Consolidated Edison, Inc.
Baa1
Positive
Dominion Resources Inc.
Baa2
Stable
DPL Inc.
Ba1
Ratings Under Review
DTE Energy Company
Baa1
Stable
Duke Energy Corporation
Baa2
Ratings Under Review
Duquesne Light Holdings, Inc.
Baa3
Stable
Edison International
Baa2
Stable
El Paso Electric Company
Baa2
Stable
Entergy Corporation
Baa3
Stable
Exelon Corporation
Baa2
Stable
FirstEnergy Corp.
Baa3
Negative
Great Plains Energy Incorporated
Baa3
Stable
Hawaiian Electric Industries, Inc.
Baa2
Stable
IDACORP, Inc.
Baa2
Stable
Integrys Energy Group, Inc.
Baa1
Stable
Laclede Group, Inc. (The)
Baa2
Stable
NextEra Energy, Inc.
Baa1
Stable
NiSource Inc.
Ba2
Stable
Northeast Utilities
Baa2
Stable
A3
Negative
NorthWestern Corporation
Baa1
Stable
NRG Energy, Inc.
Ba3
Stable
Northwest Natural Gas Company
NSTAR LLC
11
SEPTEMBER 9, 2013
A3
Stable
NV Energy Inc.
Baa3
Stable
OGE Energy Corp.
Baa1
Stable
Otter Tail Corporation
Baa3
Stable
Pepco Holdings, Inc.
Baa3
Stable
PG&E Corporation
Baa1
Stable
SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
Company
Long Term Rating
Outlook
A3
Stable
Pinnacle West Capital Corporation
Baa2
Stable
PNM Resources, Inc.
Ba1
Positive
PPL Corporation
Baa3
Stable
Progress Energy, Inc.
Baa2
Stable
Public Service Enterprise Group Incorporated
Baa2
Stable
Puget Energy, Inc.
Ba1
Positive
SCANA Corporation
Baa3
Stable
Sempra Energy
Baa1
Stable
Southern Company (The)
Baa1
Stable
Southwest Gas Corporation
Baa1
Stable
TECO Energy, Inc.
Baa2
Stable
UIL Holdings Corporation
Baa3
Stable
UNS Energy Corporation
Baa3
Stable
Westar Energy, Inc.
Baa2
Stable
A3
Stable
Baa1
Stable
Piedmont Natural Gas Company, Inc.
Wisconsin Energy Corporation Xcel Energy Inc.
12
SEPTEMBER 9, 2013
SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
Moody’s Related Research Industry Outlooks:
»
US Regulated Utilities: Regulation Provides Stability as Business Model Faces Challenges, July 2013 (156754)
»
US Wireline Telecommunications: Stable Outlook Hinges on Lower Capex, But Pressure Is Building, June 2013 (155727)
»
US Wireless Telecommunications: Big Carriers Continue to Drive Cash Flow Growth, June 2013 (155736)
Special Comments:
»
US Investor-Owned Utilities: Bonus Depreciation and Pension Adjustments Create Short Term Cash Bridge But Longer Term Issues Persist, October 2012 (146039)
»
U.S. Investor-Owned Utilities: Bonus Depreciation Provides Material Near-Term Benefit For The Sector But Raises Longer-Term Questions, February 2011 (131078)
»
Increasingly Stringent Environmental Mandates Lurch Forward, January 2012 (139096)
»
US Investor-Owned Utilities: High Capital Expenditures Adding to Rate Pressure for Utilities, October 2012 (144792)
»
US Wireless Industry: Verizon’s Financial Flexibility Reduced, Rivals Stand to Gain in Vodafone Deal, September 2013 (157949)
»
US Telecommunications: Dividend Dilemma for Telecoms: How to Support Stock Prices When Interest Rates Rise, December 2012 (147762)
»
US Cable and Telecommunications: Cable Companies Quash Telecom Business-Revenue Rebound, May 2012 (141956)
»
US Wireless Industry: AT&T, Verizon Strengthen Position In US Wireless Market as Competition Fades, February, 2012 (139522)
To access any of these reports, click on the entry above. Note that these references are current as of the date of publication of this report and that more recent reports may be available. All research may not be available to all clients.
13
SEPTEMBER 9, 2013
SPECIAL COMMENT: US TELECOMMUNICATIONS AND REGULATED UTILITIES: END OF BONUS DEPRECIATION COULD PROMPT CUTS IN CAPITAL SPENDING, DIVIDENDS
CORPORATES
Report Number: 157572
Authors Mark Stodden Jeffrey Cassella Tung Bui Jim Hempstead
Production Associate Prabhakaran Elumalai
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