Moody's issues stable outlook for public power utilities

Financial metrics will remain stable in 2014, if utilities willingly adjust rates to maintain sound financial results

The outlook for public power utilities in the U.S. will remain steady in 2014, according to a report by Moody’s Investors Service This is due to the utilities’ ongoing unregulated ability to set retail electricity rates at levels that maintain adequate debt service coverage and liquidity.

Moody’s expects liquidity and leverage ratios to improve modestly next year due to stable business conditions, an improving economy and low natural gas prices. Customer demand has been tracking the slow but steady economic improvements. Sector risks remain long-term, with many tied to environmental compliance and the transition to cleaner power sources.

The U.S. public power industry’s unregulated ability to set retail electricity rates to maintain sound debt-service coverage ratios and liquidity drives our stable outlook, along with the industry’s ability to adapt to changing customer demand. But rising costs tied to environmental compliance and the transition to cleaner power sources create longer-term risks.

Financial metrics will remain stable in 2014, if utilities willingly adjust rates to maintain sound financial results. Relative stability in business conditions, a slowly improving economy and low natural gas prices will continue to temper electric-rate increases.

Customer demand is tracking slow improvement in the U.S. economy. Slow customer-demand growth will continue, which reduces the ability of utilities to spread costs over a larger customer base. However, slow-growing customer demand will also delay the need to finance new energy and capacity to meet growth, which moderates debt ratios

Pace of environmental compliance and the transition to cleaner power sources could pressure electric rates. Rate pressure could threaten the willingness of ratepayers to support stable financial metrics, and this could put downward pressure on the stable outlook. Stable natural gas prices are a moderating factor.

Power markets are changing, adding a layer of uncertainty. Regional energy and capacity markets, like the Southwest Power Pool, continue to move toward an integrated market, and shifts in the Electric Reliability Council of Texas (ERCOT) have long-term implications for public power utilities and add a layer of uncertainty, particularly for cost- recovery of the newest coal-fired generation assets.

Credit risks are in the shadows. An accelerated pace of carbon regulation and advances in technology that threaten the utility industry’s monopoly on customers are long-term credit risks.

The main reason for our stable outlook for the U.S. public power industry is the industry’s unregulated ability to establish electricity rates to produce sound debt-service coverage ratios.

Also important is the sector’s ability to adapt to changes in the business environment and in customer demand for the essential service. For example, the Salt River Project (Aa1 stable), which serves a major part of the Phoenix metropolitan area, first adapted to growth in electrical demand tied to the housing boom and then managed the subsequent slowdown while maintaining its strong financial metrics.

The sector also has other important advantages that have bolstered credit quality, such as utilities’ use of lower-cost tax-exempt debt and its preference rights to low-cost federal hydroelectric production. Moreover, stable fuel prices, limited new debt issuance and slight gains in the U.S. economy should lead to modest improvements in liquidity and leverage ratios in 2014.

Public power electric utilities have avoided the stresses that local governments have faced regarding unfunded pension obligations and cuts in federal aid. The reason for this is that few public power electric utilities rely on federal aid and, relative to local governments, utilities have fewer employees (which minimizes the budget impact of unfunded pensions). Whether some local governments that own electric utilities will try to ease their financial burdens by turning to surplus funds from their utilities remains to be seen.

Similar to 2013, certain utilities continue to face specific credit challenges. For example, the South Carolina Public Service Authority (Santee Cooper) (A1 stable) and the Municipal Electric Authority of Georgia (MEAG Power) (Project J: A2; Project P: Baa2; and Project M: A2) are in the middle of a large new nuclear construction program. Omaha Public Power District (Aa2 stable) continues to face challenges with restarting its single-asset nuclear unit. Puerto Rico Electric Power Authority (PREPA) (Baa3 negative) suffers from a serious weakening in the island economy. The combined debt of these entities represents about 15 percent of the industry’s debt outstanding.

Credit challenges will continue over the next year for some Midwestern municipal utilities that are absorbing the increased fixed costs related to the commercial startup of the Prairie State coal-fired generation project, now that the debt is fully amortizing and capitalized interest has been exhausted.

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