Texas Agency Selling 'Thermal' Bonds To Regulate Medical Center's Temperature

DALLAS - A new utility plant being built with proceeds from this week's competitive sale of $230.1 million of thermal utility revenue bonds by the Harris County Health Facilities Development Corp.will provide chilled air and steam to a massive expansion of the Texas Medical Centernear downtown Houston.

Proceeds from the bonds will be used by the not-for-profit Texas Medical Center Central Heating and Cooling Services Corp. - known as TECO from its former name of Thermal Energy Corp. - to build a third thermal energy utility plant in the medical district to meet growing demand.

With the sale, TECO's outstanding debt will go from $78 million to $305 million, an increase of 282%.

The bonds have an underlying rating of Aa3 from Moody's Investors Service and AA-minus from Standard & Poor's.

RBC Capital Markets Corp. is the lead underwriter on the issue, with JPMorgan, Merrill Lynch & Co., and Siebert Brandford Shank & Co. as co-managers.

First Southwest Co. is TECO's financial adviser. Fulbright & Jaworski LLP is bond counsel.

Gerry Means, managing director at RBC and manager of its municipal finance health care group, said no decision has been made on bond insurance.

"We're evaluating insurance, and we'll make that decision on conditions prevailing at the sale day," she said. "I'm pretty sure the bonds will be insured."

Means said TECO is eager to offer the bonds to investors.

"The market has been interesting, but TECO is a really unique, high-quality credit," she said. "They are highly rated, and their clients are all highly rated. We are very excited about this opportunity."

The bond proceeds will finance the first phase of the planned plant expansion designed to serve anticipated growth in customer demand through 2011. TECO has identified capital projects totaling $367.7 million that will be financed with revenue and additional debt between 2011 and 2017. The construction schedule anticipates a bond sale of approximately $48 million in 2010.

The 700-acre medical center about four miles south of downtown Houston is keeping pace with Harris County's incredible population growth. Building projects totaling $7 billion will add almost 12 million square feet of hospitals, clinics, research facilities, and office space to the existing 28.3 million square feet by 2014. The center will extend beyond its current southern boundary with the expansion.

There are 42 institutions on the Texas Medical Center campus with more than 6,500 licensed beds and 73,600 full- and part-time employees. The institutions include 13 hospitals, two medical schools, four nursing schools, and schools of dentistry, public health, pharmacy, and other health-related professions. More heart surgeries are performed in the medical district each year than anywhere else in the world.

TECO serves facilities owned by 18 customers, of which nine are members of the thermal energy cooperative that elects the TECO board. The nine members - which include the University of Texas Health Science Center, the University of Texas MD Anderson Cancer Center, and Memorial Hermann Hospital System - account for more than 93% of TECO's total demand.

The expansion of Texas Medical Center is in anticipation of a million new residents in Harris County and another million new residents in surrounding counties within the next 20 years, said Harry Holmes, a senior vice president at the medical center. Houston is the fourth-largest city in the United States, with more than two million people, but the metropolitan area has more than five million residents.

"In addition to preventive health care for the general population growth, many of these residents will be part of the aging baby boomer generation who will most likely need expanding health care services and facilities," Holmes said. "The Texas Medical Center is expanding as the epicenter of the largest construction boom in its 60-year history."

Holmes said four multi-level buildings were completed in 2007 and construction began on another 17. In 2008, he said, 26 buildings starts are scheduled.

Of the 12 million square feet of new space, Holmes said, 46% is devoted to patient care, 26% to research, and 28% to education and office space.

Jerry Nevlund, president and chief executive officer of the Houston chapter of Associated General Contractors, said there is more construction activity scheduled at Texas Medical Center than in the whole of Houston combined.

"Texas Medical Center is by far one of the busiest markets," he said.

The new utility plant will boost TECO's conditioning capacity from its current 90,000 tons at its two existing plants to 150,000 tons. In contrast, Holmes said, the Reliant Park football complex in Houston requires only 6,000 tons of conditioning capacity.

In addition to units that produce chilled water and steam, a 50-megawatt gas-fired generating turbine will be installed at the new facility to reduce TECO's reliance on purchased power. In a combined heat-and-power process, exhaust heat from the turbine that otherwise would be vented will be used to produce steam for distribution.

The chilled water and steam are distributed through a system of pipelines to provide airconditioning and meet other utility needs.

TECO will support the bonds with revenues from the sales of thermal energy and electricity to its customers in the medical district. In the service contracts, clients agree to a stipulation that rates ensure the generation of sufficient revenue for debt service obligations. TECO's governing board can adjust rates at any time for any reason.

Operating revenues in fiscal 2007 were $69 million, with expenses of $63.3 million. TECO said it must significantly increase operating revenue to meet debt service requirements, but it expects to do so through additional sales without increasing rates.

All but two of TECO's supply contracts are set to expire in 2030, some seven years before the final bonds will mature. A clause being added to the lease agreement would trigger an accelerated payout if contracts for 90% of the sales volumes are not extended by 2020. If that happens, TECO would recalculate its debt service payments to match the existing contract term.

Although TECO does not automatically pass through fuel costs through higher rates, the board adopted a comprehensive energy policy that became effective in fiscal 2006. Rates were raised in September 2005 when fuel costs rose after hurricanes Katrina and Rita.

Since then, TECO management has fully hedged its fuel costs in an index-based bilateral agreement.

TECO's energy policy calls for locking in fuel and energy costs for 12 to 18 months at a time. It also has a $10 million line of credit with JPMorgan Chase & Co. for supplemental liquidity.

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