WASHINGTON — Debt issued for municipally owned power utilities will continue to be stable this year, but such issues as possible new federal and state regulations on greenhouse gas emissions and a growing need to build new baseload facilities could threaten the sector’s steadiness, experts said in recent interviews. Experts also said that while fewer prepaid natural gas deals have been coming to market because of the subprime mortgage crisis, they believe that may turnaround this year as more investment banks look to enter the market. The deals are used by public power utilities to buy natural gas at a lower prices than available on the spot market. “Our outlook continues to be somewhat stable for the next year, with the caveat that we really do not expect a lot of ratings upgrades,” said Fitch Ratings analyst Karl Pfeil. “We feel that the ability to get higher ratings in this environment are extremely tough, but we do see probably over the next 12 months or so a balance of positive to negative ratings actions.” “However, over the long term — the three- to five-year outlook — we have a little bit more of a negative slant,” Pfeil said. “We believe that if systems do not prepare and take precautions over the next few years, if these issues affect them to the point that it weakens their margins or financial metrics, you could see an increase in ratings downgrades over upgrades.” Public power utilities are nonprofit electricity providers that are owned and operated by state and local governments and issue tax-exempt bonds to finance construction and maintenance of their facilities. There are more than 2,000 public power utilities in the United States, many very small, and they serve about 14% of the nation’s electricity users, according to the American Public Power Association, which lobbies the federal government on behalf of the industry. Under its recently installed president and chief executive officer Mark Crisson, APPA will be watching to see what, if any, greenhouse gas regulations are enacted by Congress this year. It also will push Congress for an expansion of the clean renewable energy bonds program. CREBs are taxable tax-credit bonds that provide investors with an income tax credit in lieu of cash interest payments. Under the current program, which is administered by the Internal Revenue Service, up to $1.2 million of CREBs can be issued by municipal and nonprofit utilities to finance the construction of renewable energy projects, such as facilities that generate electricity from the wind or sun. The program expires at the end of 2008. Short-term Stability Other analysts at Moody’s Investors Service and Standard & Poor’s agreed that the public power sector will be stable in 2008. However they emphasized that credit risks abound, including possible new federal regulation of greenhouse gases, which was under consideration in Congress last year. Carbon dioxide, which is believed to be the greenhouse gas most responsible for global warming, is emitted by power plants when fossil fuels, such as coal, are burned for energy. Natural gas also emits carbon dioxide, but it is much cleaner burning than coal, experts say. Last year, Congress focused on drafting legislation to mitigate global warming. Efforts to address the issue came after control of Congress in 2006 went back to Democrats, who have made climate change a major plank in their platform. Congressional activity also followed an unprecedented campaign by former Vice President Al Gore to raise awareness of the problem through lectures and a 2006 Oscar-award winning documentary film. He was awarded the Nobel Peace Prize last year for his work. “When you have an ex-vice president who wins the Nobel Peace Prize for his environmentalism, [the issue] is on everybody’s mind,” Pfeil said. The specter of federal regulations comes as municipal utilities are exploring the construction of new baseload facilities — as opposed to facilities that handle peaking power demand — to keep pace with the growing populations they serve. Demand for power is growing by 2% per year on average for the public power industry, according to Fitch. The issue of new federal regulations poses a conundrum for public power operators because they have to decide whether to build a coal-fired plant, which might have higher costs under new regulations, or a plant fueled by natural gas, which is subject to violent swings in price. And the operators have to decide soon because of the time it takes for a plant to go online. “We are looking quite closely at how utilities that have coal, primarily, but oil and gas as well, are going to be managing the mitigation of whatever the regulations will be in the next several years,” said Moody’s analyst Dan Aschenbach. Last year, about 48.2% of domestic electric power generation was coal fired, 21.7% was natural gas fueled, and 19.1% was nuclear, according to the U.S. Department of Energy. Sources such as hydroelectric power, oil, and wind account for the balance of electric power generation. If public power operators wait too long to decide on new plants, they run the risk of having to buy power from the volatile wholesale market, which could add to a utility’s costs and hurt margins, the analyst said. Despite the possibility of federal regulations, several coal plants are on the drawing board, including the $2.9 billion Prairie State coal-fired power plant in Illinois and Omaha Public Power District’s $800 million Nebraska City 2 plant. The new plants come as a total of $15.8 billion of public power bonds were issued last year in 188 transactions — an increase over the $14.3 billion of bonds issued in 177 deals the year before, according to data from Thomson Financial. “Public power is moving ahead,” said Standard & Poor’s Peter Murphy. “It takes up to five years to install a coal plant. You can’t wait to see what happens [in Congress] because you need the power.” Murphy said coal is a logical choice for a fuel source because it is so abundant. But to hedge their bets, the new plants are typically using a variety of “clean coal” technology, such as coal gasification, which allows for separation of currently regulated pollutants — nitrogen oxide, sulfur dioxide, and mercury — from the gas before burning it. Carbon dioxide can also be separated. The cost of building new facilities also is increasing because the prices of construction materials and labor have ballooned as demand from India and China has grown, the analyst pointed out. In addition, there could be possible resistance to electricity rate increases needed to finance the new plants. Municipal utilities typically pass costs on to ratepayers and this allows them to keep healthy financial margins, ensuring repayment of their outstanding debt. But analysts warned that there is a possibility that ratepayers could oppose rate increases, which could affect a utility’s debt coverage ratios. “If you can’t get the rates, it affects coverage, and there is potential pressure out there for this to be a concern,” Aschenbach said. Wariness of Coal While Congress has been slowly mulling new regulations, some state governments have been quicker to act. In 2006, California enacted legislation to bring the state’s greenhouse gas emissions back to 1990 levels by 2020 — roughly a 25% reduction from current levels. It also prohibited utilities, including municipal utilities, from entering into new baseload generation deals that don’t comply with new greenhouse performance standards. Last summer Florida followed suit when Gov. Charlie Crist signed executive orders pledging to reduce greenhouse gas emissions. The governor’s position played a key role in the shelving in July of a new coal-fired energy plant in north Florida called the Taylor Energy Center that was designed to increase energy supply and diversity. Crist also was instrumental in persuading the state’s Public Service Commission in June to reject the first of several coal-fired power plant projects seeking construction permits. Fitch’s Pfeil warned that the state’s negative reaction to coal could be a credit risk because “they are falling back to natural gas resources, but diversification of fuels is very important over a long period of time to stabilize your credit, and these utilities are getting forced into one type of fuel.” He added that as more states look to enact similar greenhouse gas restrictions, a resulting surge in demand for natural gas could cause prices to rise. Analysts also say they expect a growing number of prepaid gas deals this year. Under prepaid gas transactions, utilities issue debt to buy a long-term supply of natural gas. The supply of gas is guaranteed by the gas supplier, which is typically the affiliate or subsidiary of the investment bank underwriting the bonds; and a commodity swap gives the utility a specified discount from spot market prices for the gas it uses during the life of the contract, rather than locking in it into a fixed price for decades. The ratings on the deals depend primarily on the strength of the banks, which have suffered in the wake of the subprime mortgage crisis. As a result, the number of deals dwindled toward the end of last year, but the market is expected to pick up in 2008. “These transactions clearly rely on the performance of the financial institution in the rating,” Pfeil said. “That has slowed down the issuance of these deals toward the end of 2007. We know of multiple transactions that have been on hold.” “The investment bankers and issuers are waiting for some stability in the marketplace to bring those transactions to the market,” he added. “There is a strong desire from the issuers to continue to pursue those types of structures, because for them, they are credit neutral and economically favorable, in terms of how the gas is priced.” The analysts also said more investment banks are looking to do prepaid gas deals because “it looks profitable” and “these banks feel that they have a more stable credit profile, relative to some of the current ones out there.” Public Power Bills Meanwhile, public power lobbyists will be urging Congress to take another stab at expanding the CREBs program next year. “Everyone in the industry is dealing with climate change,” APPA’s Crisson said, adding that CREBs are a vital tool that municipal utilities use to finance renewable energy projects. “Whether you have coal plants or not, it is an issue because it is going to affect either your current [generating fuel] resource base, or your future [resource base] or both.” His comments came after House and Senate Democrats were forced to drop nearly $22 billion of energy tax incentives — including authorization of $2 billion for CREBs — from energy legislation after Republicans opposed controversial tax provisions. Opposition to the tax package had focused on a revenue-raising measure that would have paid for most of the $21.8 billion of renewable-energy tax benefits by repealing $13 billion of tax breaks to the oil and gas industry. Critics of the oil and gas tax language said that it would have reduced domestic exploration and increase gas prices. They included President Bush, who had listed the repeal as one reason why he would have vetoed the bill. However, House and Senate leaders have said they intend to revisit the energy issue next year, and Crisson said APPA will urge lawmakers to include CREBs as part of any raft of renewable-energy tax incentives that they take up. Under the tax package that was dropped last month, public power providers, electric cooperatives, and states and localities would be authorized to issue a new type of CREB. The bonds would differ from previous authorizations, which were divided between governmental entities and electric cooperatives with no separate category for public power. Another bond program included in the tax package would have allowed states and localities to issue up to $3 billion of qualified conservation bonds to finance initiatives designed to reduce greenhouse gas emissions. A third would have authorized issuance of up to $500 million of bonds for projects designed to acquire land for forestry conservation purposes. Other major legislation APPA will be eyeing next year include a bill approved by the Senate Environment and Public Works Committee that would cut greenhouse gas emissions about 70% by 2050. The legislation would establish a complex trading system for emission credits with the goal of reducing total U.S. greenhouse gas emissions nearly 20% from 2005 levels by 2020 and about 70% 30 years after that. The full Senate is expected to take up the bill, which was written by Sens. Joseph Lieberman, I-Conn., and John Warner, R-Va., this year. Power plants are responsible for about 35% to 40% of carbon dioxide emissions, scientists say, and both municipal and investor-owned utilities are concerned about how to implement such a cap and trade system. “Any cap [on carbon] assumes you have some way to limit emissions, or do something with the greenhouse gases once they are emitted in a capture-and-sequestration program, and that kind of a technology doesn’t exist on a commercial scale,” Crisson said. “So how are we supposed to make this work? There has been a lot of hand-wringing about that.” The rationale behind the bill is that the dollars generated by trading the emission credits would help fund research and development of technology to capture and store carbon. “The cap and trade has worked with other [pollutants] because there was existing mitigation technology,” Crission said. “When you don’t have the technology, you don’t know what it will cost. How this is all going to work is not very clear right now.” APPA also will be pushing for action on legislation in the House and Senate that would block states from banning municipalities from providing broadband services. The Senate Commerce Committee approved legislation in late October and the bill — sponsored Sens. Frank Lautenberg, D-N.J., and Ted Stevens, R-Alaska — could be debated on the floor this year. The Energy and Commerce Committee could also consider a corresponding bill in the House. “It is in play and we are pretty optimistic that the Senate Commerce Committee passed it as a stand-alone bill” instead of as part of a broader telecommunication reauthorization, said APPA senior vice president for government relations Joe Nipper. Public power utilities have long been interested in providing broadband services to enhance their operations, such as automatic meter reading, but also to provide the service to their customers, according to APPA. A handful of utilities have sold tax-exempt revenue bonds to finance their broadband infrastructure, but those issues tend to be small. Formerly director of Tacoma Public Utilities since 1993, Crisson took over APPA last month from Alan H. Richardson, who announced in March that he would end his 30-year career with the interest group at the end of the year. Crisson previously served an eight-year stint on APPA’s board and is a former chairman of the Large Public Power Council. His previous experience in the business and with APPA has led to a smooth transition from Richardson, according to Crisson. “One of the reasons that I was interested in joining the association is that I felt that my priorities of what I felt was important to public power were pretty much aligned with what the team here had put together,” he said.