OREANDA-NEWS. Fitch Ratings has assigned 'AA-' ratings to San Diego Gas and Electric Company's (SDG&E) \$140 million issue of floating rate first mortgage bonds series OOO due 2017 and the \$250 million issue of amortizing first mortgage bonds series PPP due 2022. The Rating Outlook is Stable.

KEY RATING DRIVERS

--Constructive regulatory environment;
--Strong credit metrics;
--Sizeable capital expenditure program.

The stable earnings and cash flow at SDG&E are supported by the California regulatory framework which includes bifurcation of general rate case (GRC) orders and cost-of-capital proceedings, forward-looking test years and attrition rate increases, revenue decoupling, and the use of balancing accounts to manage cost fluctuations and reduce regulatory lag.

SDG&E currently operates under the 2012 GRC order which expires at the end of 2015. SDG&E and its affiliate Southern California Gas Company (SoCalGas) filed their 2016 GRC in November 2014 with the California Public Utility Commission (CPUC). The existing cost-of-capital (CoC) rates will remain in place until the end of 2016. Fitch's forecasts reflect the commission-approved rate increases in the 2012 GRC order. Fitch expects no material changes in the rate case outcome from the existing authorized 10.3% Return on Equity (ROE) for SDG&E and 10.1% for SoCalGas, and the 52% common equity ratio for both utilities.

In November 2014, the CPUC approved an amended settlement involving the closure of San Onofre nuclear generation plan (SONGS). The settlement is somewhat more in favor of the ratepayers by increasing the refund by \$145 million compared to a previous proposal by the administrative law judge, totaling \$1.45 billion. Additionally SDG&E and Southern California Edison will share evenly the litigation proceeds from the manufacturer and insurance. As SDG&E is only 20% owner of the plant and SONGS only represented approximately 11% of SDGE's generated and contracted power supply (2011), Fitch believes that SDG&E's portion of the refund, the unrecovered steam generator project costs, and the energy replacement costs are manageable and should not impact the long-term credit quality. The completion of the Sunrise Power Link - a 500kV transmission line linking San Diego to Imperial Valley, a renewable-rich region in the state - helps relieve the loss of SDG&E's portion of power from SONGS. The line brings 800MW to 1,000MW of power into San Diego.

SDGE's stand-alone coverage ratio is expected to remain strong with funds from operations (FFO)-to-interest expense ratios projected to average 6.5x and FFO-to-debt ratio projected to in the low 20%. These ratios have incorporated the \$5.7 billion capital spending program, the expected increase in upstream dividend, and estimated negative impact from SONGS for the next few years.

SDG&E's capital investment peaked in 2011 and 2012 as it constructed the Sunrise Powerlink and invested in smart grid infrastructure programs. In the next five years, SDGE will invest approximately \$5.7 billion, 62% of which is CPUC and FERC based investment. Risks associated with the sizeable capital investment program are mitigated by the balanced regulatory structures at both the state and federal levels, including pre-approval of construction projects.

The notching between SDG&E and its parent Sempra Energy (SRE) is supported by the regulatory restrictions in place in California that limit distributions to SRE and the view that maintenance of the capital structure at the utility continues to be in the best interest of the parent from an economic perspective. Conversely, SDGE's ratings are upward constrained by SRE due to SRE's investments in international and U.S. non-regulated operations, as well as the degree of leverage that exists at the parent to support these investments.

Long-term credit concerns for SDG&E include the potential for customer rate pressure given the significant planned expenditures and relatively high renewable goals, and the increase in distributed generation in California.

RATING SENSITIVITIES

Positive:
--In light of the capital program and the SONGS settlement, it is unlikely that SDGE's ratings will be upgraded in the foreseeable future.

Negative:
--If the capex program is not prudently financed or experiences significant cost overrun or regulatory delay in cost recovery, thus causing the FFO-to-debt to be below 18% during construction. Post construction, if FFO-to-debt is below 23% on a sustained basis;
--A downgrade at the parent SRE.