Austin's city utility will buy biomass plant with taxable deal

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Saddled with what its leaders see as an unfavorable contract to buy electricity from a biomass-to-energy plant, the city electric utility of Austin, Texas, is buying the facility.

Austin Energy will price about $465 million of taxable bonds Wednesday to buy the facility in East Texas. The bonds come to market following a Fitch Ratings upgrade to AA, which matches that of S&P Global Ratings. Moody’s Investors Service rates the bonds Aa3 with a stable outlook.

Austin Energy will use the bond proceeds to acquire Nacogdoches Generating Facility and its owner Nacogdoches Power LLC, a biomass energy producer now owned by Southern Power Co. Austin Energy will continue its 20-year power purchase agreement but expects to save about $275 million through ownership.

"Acquiring the biomass plant relieves our obligation to make escalating capacity payments to a third party and, over time, reduces the associated cost impacts to our customers," said Jackie Sargent, Austin Energy’s general manager. "This transaction is consistent with our efforts to manage our portfolio of generation resources in a responsible and cost-effective manner."

As the new owner of the plant, Austin Energy will move to cost-based recovery terms through the remaining life of the contract, analysts said.

“The purchase will allow AE to reduce the overall cost of the project and provide AE flexibility to make long-term decisions about operation of the facility as a component of its overall resource strategy,” said Fitch Ratings analyst Kathryn Masterson.

Fitch raised the issuer default rating on Austin Energy to AA from AA-minus, a move that affects about $1.2 billion of outstanding revenue bonds, and “reflects improvement in AE's operating cost profile, including its operating cost burden, which has been more consistent over the last five years than Fitch expected.”

JPMorgan is book-runner on the deal with co-managers Hilltop Securities, Loop Capital Markets and Piper Jaffray & Co. The bond sale is expected to close June 13.

Dennis Waley, managing director at PFM Financial Advisors, is the utility’s municipal advisor.

The city of Austin has grown nearly 25% over the past decade to nearly a million people. The city represents 85% of Austin Energy’s customer base, said Mark Dombroski, chief financial officer for the utility.

Austin Energy on April 23 announced the agreement with Southern Power to acquire the wood waste biomass-fueled power plant for $460 million. The 115-megawatt plant, which began operating in 2012, currently provides 100 megawatts of renewable power to Austin Energy.

No immediate changes to the operation of the facility are expected, and its long-term status will be addressed in Austin Energy’s future resource planning efforts, officials said.

"In the near term, we anticipate continuing to use the plant," Austin Energy wrote when it announced the deal. "That being said, we’ll continue to monitor and assess this facility, just as we do all the assets in our system, and will be prepared to make adjustments as the situation warrant."

"We've been working since I got into office to get a better financial deal around the biomass plant," said Austin Mayor Steve Adler.

Austin Energy plans to provide 65% of its customers' energy needs with renewable resources by 2027. In 2018, wind, solar and biomass energy combined to offset 38%, officials said.

The purchase came after Southern Power conducted a brokered, negotiated sale of the plant with multiple bidders. Austin Energy took part in the confidential sale process. Austin Energy will transfer all the acquired plant assets to the City of Austin immediately after the close of the transaction and will likely contract operation of the plant to a firm that specializes in such operations.

In 2008, the Austin City Council approved the 20-year agreement to buy 100 megawatts of renewable energy from the then-unbuilt 115-megawatt Nacogdoches biomass power plant. The facility was built to provide renewable energy to help meet newly established goals, mitigate rising energy prices, and diversify Austin Energy’s resource portfolio.

The agreement came when the price of natural gas was at record highs and projected to go higher due to supply concerns and the possibility of a cap on carbon emissions. However, widespread adoption of hydraulic fracturing dramatically increased natural gas supplies, lowering prices. Also, the cost of other forms of renewable energy fell.

“The effect of lower prices for natural gas and renewables has been that energy prices have fallen from their 2008 highs to much lower levels,” according to the utility.

“While the Nacogdoches PPA was entered at the height of the market, lower overall energy prices since then have been a benefit to our customers. Austin Energy’s strategy of diversifying our energy portfolio across a wide variety of power generation resources has been very successful.”

The Austin City Council approved the purchase by a unanimous vote, despite council member Alison Alter’s complaint that the agenda item made no mention of the biomass plant purchase.

Austin is expected to seek tax exemption for the property, which is appraised at $328 million by Nacogdoches County. Losing the tax revenue from the facility would affect Nacogdoches County and the Cushing Independent School District.

"The Nacogdoches Generating Facility is one of the largest wood-fired biomass plants in the United States and has been a part of Southern Power's generation fleet since 2012, demonstrating strong operating performance," said Southern Power President and CEO, Mark Lantrip.

The Lufkin-Nacogdoches area is a major provider of trees for paper production.

Since 2014, when power production from biomass peaked at 71.7 megawatt hours, expansion has come to an end, according to the U.S. Department of Energy Department.
In 2018, biomass-fired power plants generated 70.6 megawatt hours, representing about 2% of U.S. electricity generation.

Among other green energy sources is Austin Energy’s chilled water business that produces about $25 million in annual revenues. The chilled water business is a fundamental component of the electric utility's strategy to reduce electric usage during peak hours in order to reduce overall costs.

Chilled water plants use energy during off-hours to chill water that is used for air conditioning load in commercial buildings in the city's urban core. Companies participating in the city's chilled water program have built their buildings to be cooled by AE's chilled water facilities and signed long-term contracts with the city for the service.

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Revenue bonds Taxable bonds Energy industry Primary bond market City of Austin, TX Texas