“We have no intention now or in foreseeable future of filing for bankruptcy,” Paducah Power manager Mark Crisson told the Paducah City Council Tuesday, after noting that the downgrade of the utility's debt to BBB will likely boost surety bond costs.

BRADENTON, Fla. - Fitch Ratings downgraded Kentucky's Paducah Power to BBB from A-minus as it struggles with its costly stake in the Prairie State power plant and other pressures.

Fitch's action came a week after Paducah Power officials met with rating agencies in New York to explain its financial recovery plan, and to visit surety bond providers. As part of the plan to stabilize rates and its stressed finances, PPS plans to seek a surety bond to replace debt service reserves and free up cash for liquidity.

Wednesday's two-notch downgrade applies to PPS's $153 million in 2009A revenue bonds, and $1 million in refunding revenue bonds issued in 2010. The system had $164.25 million in outstanding revenue bonds through 2038 at the end of fiscal 2013.

"The rating downgrade reflects PPS' constrained financial position resulting from several years of inadequate rate recovery and Fitch's expectation that the utility's medium-term financial metrics will be supported by planned, one-time actions to bolster liquidity," analyst Ryan Greene said.

"Fitch views the actions, however necessary, as stopgap measures more consistent with the lower rating until improved asset performance at the Prairie State Energy Campus provides longer-term relief through lower purchased power costs," he said.

The coal-fired generating plant in Washington County, Ill., has been more expensive to build and operate than its public power owners anticipated. The plant went online in 2012, and has yet to reach full capacity, though Crisson told the City Council that its operation is improving.

The downgrade is not the end of the world, but it likely will increase the premium PPS will pay for a surety bond, interim manager Mark Crisson told the Paducah City Council Tuesday after learning about the pending downgrade before it was released publicly.

Crisson said he thought the utility was well received by bond insurers, but that rating agencies asked pointed questions about why PPS did not raise its power adjustment cost as required.

"That was received, I would say, negatively by the credit rating agencies," he told the council.

In October, the power board voted against implementing a quarterly power cost adjustment after public outcry over high rates.

As a result, the utility encountered a $472,000 revenue shortfall compared with what would have otherwise been collected that month. The cumulative cost adjustment deficit was about $3 million as of September, according to Fitch.

A rate recovery plan adopted by the power board on Nov. 13 prescribes actions to stabilize rates and shore up finances, including potentially selling some of its interest in the controversial Prairie State campus, selling all or parts of other assets, and refinancing debt.

Fitch said the deficit created by freezing rates compounds lackluster fiscal 2014 unaudited results, which indicates debt service coverage near 1.16 times and "very limited cash on hand totaling 14 days."

"PPS' prolonged period of financial weakness is outside the bounds of a normal business cycle," Greene said. "While the utility's financial position and recovery plan support an investment-grade rating, its weakened metrics, planned one-time measures to generate liquidity, and modest projected debt service coverage ratios from cash flows are more consistent with the BBB category."

Adding to the utility's financial problems is its off-balance sheet obligation to the Kentucky Municipal Power Agency, a local joint power agency created by Paducah and Princeton to invest in the Prairie State project.

KMPA issued $491.4 million in 35-year bonds in 2007 and 2010 to finance a 7.82% ownership stake in Prairie State, entitling Paducah to 104 megawatts and Princeton to 20 megawatts through take-or-pay power contracts.

With the investment in Prairie State, Paducah Power transitioned to owning generation, in part to escape rising costs and to meet projected load growth that has not materialized, said Fitch, adding that PPS's total power supply is "long by approximately one half, including all sources of capacity online through 2016 and a reserve margin."

The situation at Paducah, coupled with weaker-than-expected Prairie State performance, has added sizable costs to the utility's rate base.

Retail rates are 141% of the state average, according to data by the Energy Information Administration, while the community has below average wealth and employment indicators, Fitch said.

In March 2013, Moody's Investors Service downgraded Paducah Power bonds to A3 from A2 because of its increased risk profile, and its large off-balance sheet leverage due to its take-or-pay contracts with KMPA.

The issue of whether the utility might file for Chapter 9 bankruptcy also arose at Tuesday's council meeting after Mayor Gayle Kaler asked Crisson about a recent guest editorial in the local newspaper by the Cleveland-based Institute for Energy Economics and Financial Analysis, or IEEFA.

After some local residents urged the utility to file for bankruptcy, the Paducah Power Board recently passed a resolution stating its intent not to seek reorganization because the utility is solvent, Crisson told the council.

The IEEFA commentary said that most of Paducah Power's problems are related to debt and its stake in Prairie State. The article also said that all stakeholders in Prairie State, including bondholders, "should be compelled to join the public dialogue on how to find a solution" to the high costs faced by PPS.

"The idea that residents and businesses alone should bear all the costs of a shared mistake is hogwash," the institute said.

Crisson told the City Council that the institute is an anti-coal organization, and that its editorial "about getting stakeholders in the process around the table to share in the pain" is a euphemism for filing for bankruptcy.

"We've examined that issue and made it clear in a resolution last week we are clearly not a candidate for bankruptcy," Crisson said. "We have no intention now or in foreseeable future of filing for bankruptcy."

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