CHICAGO -- Ohio-based American Municipal Power Inc. - the largest public owner of the bond-financed Prairie State Energy Campus in Illinois - plans to refund and restructure up to $646 million of debt tied to the controversial project.

Higher-than-expected costs for power generated at the campus have angered some cities and municipal utilities that obtain power from Prairie State, and the restructuring is aimed at easing the rate pressures.

The strains those higher costs place on the balance sheets of local municipal participants, due in part to resistance from some members of AMP's Prairie State group to raise rates, triggered an outlook change on the bonds' A rating to negative from stable from Fitch Ratings.

Standard & Poor's affirmed its A rating and stable outlook. Moody's Investors Service affirmed its A1 rating and stable outlook.

Environmental groups last year revealed that the Securities and Exchange Commission subpoenaed AMP on the project. The new offering statement discloses AMP's receipt of the subpoena from the SEC enforcement division "seeking information and documents relating to the PSEC" in January 2013.

"AMP is fully cooperating with the SEC's investigation which is non-public in nature," the offering statement says. Environmental groups discovered AMP's disclosure of the subpoena in documents they obtained from the city of Cleveland.

AMP will refund debt from 2008 and 2009 issues that are part of $1.7 billion of debt tied to its ownership in the project. The refunding is expected to price Thursday. The offering statement reported the agency is also evaluating a possible direct placement of the refunding bonds.

The sale includes two series, an Series A for $507 million in a fixed rate structure maturing between 2015 and 2043 and a Series B for $139 million structured with a soft put and initial maturities in 2019 and 2020.

The offering statement warns potential investors that the ability to sell the soft put bonds outside of the tender process may be limited.

Should a remarketing fail, AMP is not obligated to purchase the tendered bonds but "a failed remarketing would potentially expose the PSEC project and the AMP participants to higher borrowing costs," Fitch warned. A mitigating factor is AMP's option to call the bonds six months ahead of the tender date or to tap a $750 million revolving credit facility if capital market access was impaired.

The refunding will restructure principal with it now beginning five years later, resulting in savings of about 4%. AMP will take the cash flow savings in excess of $10 million annually in the first five years from the new debt service schedule providing a "cushion to ease the impact of the higher Prairie State costs on ratepayers.

"While all AMP participants have met their contractual obligations to date, the debt restructuring gives more headroom to absorb the weight of the related fixed costs," Moody's wrote. "Overall AMP's wholesale rates that incorporate Prairie State and other owned generation costs and market purchases are now competitive and improve further with the debt service savings."

RBC Capital Markets is the senior manager and remarketing agent with Wells Fargo Securities as co-senior manager and another six firms rounding out the syndicate.

The bonds are secured by take or pay contracts with 68 of AMP's municipal utility members including 60 from Ohio and others from Michigan, Virginia, and West Virginia.

"We view AMP's membership base as deep and diverse," said Standard & Poor's analyst Judith Waite. "This, coupled with rate-setting authority and step-up provisions, should provide the company with adequate support to meet financial obligations."

AMP is the largest owner of Prairie State with a 23% stake, for 368 megawatts of power, followed by Illinois Municipal Electric Agency with a 15% stake. The other owners include the Indiana Municipal Power Agency, the Missouri Joint Municipal Electric Utility Commission, Prairie Power Inc., Southern Illinois Power Cooperative, Kentucky Municipal Power Agency, Northern Illinois Municipal Power Agency, and Lively Grove Energy. Combined, they issued $4.5 billion of debt for the project.

Originally the project had a targeted price of $2.9 billion but it rose. Construction delays and cost overruns drove the final tab to nearly $5 billion.

The Washington County, Ill. campus includes a dual unit, coal-fired plant that generates 1600 megawatts of electricity and an adjacent mine. Peabody Energy Inc. initially sponsored the project.

Even with the higher than expected costs, the project offers financial benefits over the long term as it provides a stable price and reliable source of energy, ratings analysts have said, adding that bond investors remain protected by the sturdy protections afforded by the contracts.

As the costs for the project increased so did the costs passed along to local government users, prompting some to explore whether they could exit their contracts. In Illinois, a group of ratepayers in Batavia filed a lawsuit against five advisors and consultants, accusing them of misrepresenting the value the Chicago suburb's participation in the project.

"PSEC is up and running and poised to be among the most efficient and environmentally clean coal plants nationally," said AMP CEO Marc Gerken. The first unit became operational in mid-2012 and the second in late 2012.

The project boasts of state-of-the-art pollution controls but environmental critics counter it will still be a major contributor of greenhouse gas emissions.

AMP is promoting with investors the strength of those contracts that chief financial officer Robert Trippe notes are commonly known as a "hell or high water commitment." Still, the contracts' enforceability could be limited in a bankruptcy of a participant.

The bonds benefit from a cash-funded debt service reserve and members must step up to cover any other member's default.

"The vast majority of those 68 participants have the ability to set their own rates and recover all operating expenses and debt service obligations," Trippe said.

Resistance from some key members to pass along higher rates to meet the project's higher energy costs, however, contributed to Fitch's move on the bonds' outlook.

"A key credit concern is the meaningful deterioration exhibited by four of the top six participants, Hamilton, Cleveland, Piqua, and Celina," Fitch wrote. "In particular, a delay in implementing needed rate increases to recover higher purchased power costs may have contributed to the decline in debt service coverage and depletion of cash resources at these cities."

The AMP team is also highlighting new top management at Prairie State and efforts underway to curtail outages and other operational problems that cut into energy generation. The plant has seen 68% generating capacity so far this year, below averages at other similar plants in the early stages of operations. The figure has improved dramatically in recent months, official said.

Donald Gaston, a 30-year veteran of the energy generation industry, took over a chief executive officer of Prairie State in November and a new chief operating officer was hired in June.

Fitch noted the efforts to improve operations through a strategic overview process.

"The overview, which included a change in project leadership, appears reasonable and has contributed to stronger plant availability toward the latter part of 2014," Fitch wrote.

Standard & Poor's said the increased construction costs, delayed commercial operation, and erratic plant performance does not impact AMP's creditworthiness for several reasons including the strength of the take-or-pay power sales contracts.

Analysts said they expect Prairie State can absorb modest increases in environmental costs from future carbon limits imposed by the federal government and should maintain a competitive cost structure.

Ramirez & Co. and Kensington Capital Advisors LLC are advising AMP Ohio. Sidley Austin LLP is tax counsel and Peck, Shaffer & Williams, a division of Dinsmore & Shohl LLP, is bond counsel.

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