Pennsylvania municipalities and regulated investor-owned utilities will benefit from legislation removing hurdles for local governments to sell water and wastewater systems, Moody’s Investors Service said.
Moody’s in a report Tuesday projected more privatizations. Municipalities within the commonwealth Pennsylvania see utility sales as a way to cope with financial distress and sidestep maintenance and compliance costs.
The report examined the $195 million sale of the Scranton wastewater system and the pending $162 million sale of the McKeesport wastewater system outside Pittsburgh to the Pennsylvania-American Water Company. Regulators must still approve the latter.
Act 12, enacted in June 2016, establishes a process of determining the “fair value” of a municipality’s water and wastewater systems by considering system revenues and market values.
Using the Act 12 process, McKeesport will net $43 million upon approval, which could eliminate all general obligation debt and nearly all unfunded pension liabilities. This deal follows Scranton's sale netting $83 million that the city intends to use to reduce debt and help fund pension obligations.
“Those two cities were financially distressed, but others that have closed on wastewater asset sales, including New Garden Township, New Cumberland and Fairview Township, are choosing to sell utility systems as a way to avoid considerable costs associated with maintenance and upgrades to comply with state and federal regulations,” said Moody’s.
In June, New Garden Township became the first municipality to close a transaction using Act 12, looking to eliminate system improvement costs.
Aqua Pennsylania's June acquisition of the much smaller New Garden Township system, in the state’s southeastern section, is the first transaction involving the Act 12 process that Pennsylvania’s Public Utilities Commission has approved. Aqua Pennsylvania is a subsidiary of Aqua America Inc.
“New Garden appears to be in better financial shape than McKeesport or Scranton and, rather than seek relief from financial distress, the transaction allows it to shed costs related to system upgrades and use the funds to make other investments,” said Moody’s.
“Similarly, New Cumberland's sale to PAWC in October 2016 outside of Act 12 allowed the city to eliminate expenses related to system upgrades and to pay off its GO debt.”
Using a one-shot revenue source while surrendering operations of a key municipal service to a private entity can pose risks, Moody’s said.
According to Moody’s, Act 12 gives municipalities a potentially more lucrative way to monetize assets, and makes Pennsylvania the most regulatory-friendly state for municipal utility acquisitions.
“It also provides clarity on how higher purchase prices, including premiums required to close transactions, will be recoverable via customer rates,” said Moody’s.
Poor management or a weak economy can reduce the sale benefits for a municipality, said Moody’s, while rate fatigue poses a risk for investor-owned utilities, or IOUs.
Moody’s cited Coatesville's 2001 sale that netted $39 million, which the city placed into a reserve fund, but the amount dwindled to $6 million in 2015 largely due to litigation involving a golf course.
“For an IOU, acquisitions can be credit negative if rate increases become too burdensome on customers and lead to political intervention,” Moody’s said.