OREANDA-NEWS. Fitch Ratings has assigned an 'A-' rating to Southwestern Public Service Company's (SPS) $300 million, 3.4% first mortgage bonds (FMBs) due Aug. 15, 2046. The FMBs will rank pari passu with SPS's other senior secured obligations.

The Rating Outlook on SPS's 'BBB' Long-Term Issuer Default Rating (IDR) is Stable.

Net proceeds will be used for general corporate purposes, including the repayment of short-term debt and the funding of the utility's capex program.

KEY RATING DRIVERS

Challenging Regulatory Environment

SPS operates in Texas and New Mexico under the jurisdiction of the Public Utility Commission of Texas (PUCT) and the New Mexico Public Regulation Commission (NMPRC). Fitch considers these regulatory jurisdictions to be challenging. Electric utilities in these states have historically received authorized returns on equity (ROE) that are slightly lower than the nationwide average. In addition, regulatory lag from the use of a historic test year and other factors in the rate-setting process make it difficult for utilities to earn their low authorized ROE.

Texas Electric Rate Case

In February 2016, SPS filed an electric rate case in Texas and is seeking an overall increase in annual base rate revenue of $68.6 million. The request is based on a historic test year ending Sept. 30, 2015 adjusted for known and measurable changes, a 10.25% authorized ROE, and a 53.97% equity ratio. A decision by the PUCT is expected in the first quarter of 2017. A balanced decision is important for SPS's credit quality, given that 71% of its retail electric revenues are derived from Texas.

New Mexico Electric Rate Case

In October 2015, SPS filed an electric rate case in New Mexico seeking a $45.4 million increase in non-fuel base rates. The filing was based on a historic test year ending June 2015, adjusted for known and measurable changes, a 10.25% authorized ROE, and a 53.97% equity ratio. A settlement stipulation was filed in May 2016 for a $23.5 million increase in non-fuel base rates, which the NMPRC is expected to rule on in August.

Large Capex Plan

SPS has a large capital spending plan. Capex totaled $600 million in 2015, roughly stable since 2013, after increasing significantly from an annual average of $330 million over 2010-2012. Management projects base capex to total approximately $2.9 billion over 2016-2020, peaking at $725 million in 2017. The bulk of capex is for transmission investments in New Mexico.

Modest Weakening in Credit Metrics

SPS's credit metrics are likely to weaken in the near term due to the utility's large capex program and significant regulatory lag in recovering invested capital, but should remain adequate for existing ratings. Fitch expects adjusted debt/EBITDAR and funds flow from operations (FFO)-adjusted leverage to average around 3.8x-4.1x through 2018 and FFO fixed-charge coverage to average around 5.5x-6.0x.

Standard Notching

There is a moderate-to-strong linkage between the IDRs of parent Xcel Energy Inc. (Xcel; 'BBB+'/Outlook Stable) and each of its subsidiaries. The linkages originate primarily from strategic drivers. Each subsidiary is important to Xcel, and the parent financially supports its subsidiaries when needed via equity infusions and funding the inter-company money pool. Fitch considers a one - to two-notch differential between the IDRs of Xcel and its subsidiaries to be appropriate.

KEY ASSUMPTIONS

Fitch's key assumptions within the rating case for SPS include:

--EBITDA growth averaging 7% per year over 2016-2019;

--Base capex of approximately $2.9 billion over 2016-2020;

--Rate case outcomes consistent with historical rate orders.

RATING SENSITIVITIES

Positive Rating Action: Given SPS's large capex plan, a positive rating action is unlikely, but could occur if regulatory lag were to improve materially and if Fitch were to expect adjusted debt/EBITDAR to improve to 3.5x and FFO-adjusted leverage to remain less than 4.0x on a sustained basis.

Negative Rating Action: Developments that may, individually or collectively, lead to a negative rating action include materially unfavorable regulatory developments, adjusted debt/EBITDAR expected to exceed 4.5x on a sustained basis, and a shift in management strategy that results in weaker financial support from Xcel.

LIQUIDITY

Fitch considers SPS's liquidity to be adequate. Xcel and its utility subsidiaries primarily meet their short-term liquidity needs through the issuance of commercial paper (CP) under an aggregate $2.75 billion revolving credit facility that expires in June 2021. SPS has a borrowing limit of $400 million under this facility. As of June 30, 2016, SPS had $25 million of CP issued and $7 million of letters of credit outstanding, leaving $368 million of availability under SPS's portion of the facility.

Liquidity is also available to SPS through participation in an intercompany money pool with its sister utilities Northern States Power Company-Minnesota ('A-'/Outlook Stable) and Public Service Company of Colorado ('A-'/Outlook Stable). SPS has a borrowing limit of $100 million, which was fully drawn at June 30, 2016.

SPS's operations require modest cash on hand. At June 30, 2016, the utility had less than $1 million of unrestricted cash and cash equivalents.