Fitch: Electric Utilities Rode Out the Storm By Restructuring VR, AR Debt

The public power sector remained relatively financially stable through fiscal 2008 despite the economic downturn, partly because utilities were able to restructure variable-rate and auction-rate debt, as well as unwind out-of-the-money swaps, Fitch Ratings will say in a report released today.

In the report, Fitch compares the roughly 110 utility systems that it rates - adjusting for such things as retail utilities buying most of their energy - and examined the sector overall. Christopher Jumper, a Fitch analyst who worked on the report, said it is representative of the sector.

The rating agency looked at the systems' operating cash coverage, liquidity, equity, leverage, and variable-rate debt. The information for almost all of the utilities was based on audited financial reports, more than half of which were dated Dec. 31, 2008.

While not directly linked with specific rating categories, Fitch said that strong financial measures generally correlate with strong credit ratings.

The agency found that in 2008, managers of public power systems were able to maintain their fiscal strength in spite of slowing electric sales, auction-rate debt remarketing failures, and reduced access to traditional bank lines of credit because of low availability.

Because of unpredictable fuel costs and frozen capital markets, liquidity, rather than debt-service coverage, took "center stage" as an indicator of a utility system's financial strength, Jumper said.

For utilities, last year was about "getting past the markets freezing up, continuing on with their capital improvement programs even though they didn't have access to the long-term debt markets for a period of time," he said. Some utilities looked to letters of credit, while others used commercial paper to fund their programs while they were locked out of the markets, Jumper said.

However, prudent financial management, good leadership, and the relatively modest use of auction-rate securities and variable-rate demand obligations before the ARS market collapsed and the short-term market froze helped utilities stay in a more favorable position than other sectors, Jumper said.

The new stimulus law's authorization of the Build America Bonds program has also helped utilities by allowing them to enter the taxable market, Jumper said.

But the future poses challenges for the sector, he said. "Utilities are in quite a conundrum because now, if you have a myopic view, growth is down, the economy is slowing down, [utilities may think] 'Maybe we shouldn't continue with a capital program,' " he added. "They really have to be forward thinking."

Energy and climate legislation again pose a consistent challenge for the sector, although many capital improvement programs are being geared toward energy efficiency, according to Jumper.

While utilities' debt-service coverage has been stable for both wholesale and retail utilities over the past five years, Fitch said it "expects to see greater pressure on maintaining debt-service coverage at historic levels." Utility systems may need to increase their base rates in order to maintain the sturdiness of their coverage ratios, the report added.

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