Financial Market and Capital Structure
Considerations In
Public Power Pricing Decisions
Prepared by Public Financial Management Inc. (Michael Mace, Managing Director) For Salt River Project December 12, 2014 Financial Market and Capital Structure Considerations
in
Public Power Pricing Decisions
Introduction
As the Salt River Project (“SRP”) Board and Management approach the upcoming Pricing
Process, they must again balance the desire to maintain SRP’s favorable electric prices, with
the dual goals of preserving SRP’s financial strength and ensuring that future SRP
customers continue to benefit from affordable, reliable electric energy. SRP’s current
customers have affordable energy today because SRP has a history of making responsible
decisions that strike an appropriate balance between these competing near-term and longterm objectives. SRP has a history of meeting its capital needs with a conservative balance
of customer revenue and external debt financing. Public power utilities have only two means
of obtaining funds to finance capital additions – (1) external debt, and (2) the margin, or
coverage, by which current revenues exceed current cash flow needs. This margin is often
referred to as customer equity. Public power utilities do not have access to external equity
funding, and can only chose between external debt or internal equity to fund their capital
investments. SRP, like many of the competitive and highly-rated public power utilities is able
to deliver low-cost energy because their historic use of customer equity and measured
approach to debt financing, leaves them with a manageable debt load and affordable annual
debt service that must be recovered in current energy prices.
Current customers derive the benefits of conservative debt management in multiple ways.
The most obvious result of reduced reliance on debt in the past are reduced debt service
obligations well into the future. In addition, reduced debt translates to stronger financial
metrics (e.g. liquidity, cash flow, debt ratios) that are carefully followed by credit rating
analysts and bond investors. These metrics are some of the most important factors in
determining a utility’s credit ratings, and thus the interest rates paid on debt. SRP’s interest
rates on its prior financings were typically the lowest rates available at the time to any
governmental utility borrower in the United States. SRP also has two very low-cost revolving
credit agreements to support its commercial paper program. Credit enhancement fees are a
direct function of a utility’s credit strength and ratings. When SRP updated pricing on its prior
credit facility in 2012, and received pricing on its new credit facility in 2013,SRP’s pricing was
at the lowest cost of any comparable public power credit facility since before the financial
market disruption in 2008. SRP’s current customers pay low rates today because previous
pricing decisions have left SRP with less debt, and lower cost debt than other utilities.
SRP’s 2015 Price Process will have a direct impact on current customers. The 2015 Price
process will also have a major impact on future customers. SRP has one of the largest
projected capital plans of any public power utility – with over $4 billion in SRP’s projection
period between FY 2015 and FY 2020. SRP also has over $2 billion of refinancing
candidates over the next five years whose refunding savings will be a function of SRP’s
ability to achieve favorable borrowing costs. SRP’s pricing decisions could either: (1)
preserve its long-standing credit strength and deliver lower future capital costs and greater
future refunding savings, or (2) erode its financial condition and lead to greater reliance on
debt, higher borrowing costs and less in the way of future refunding savings.
Debt minimization and credit rating maximization are not the most important considerations
in SRP’s pricing decisions. There are lesser-rated utilities, with higher relative debt burdens,
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that function adequately through a range of credit market conditions. It is likely that SRP
could assume a greater debt burden. But the more important question is – should SRP
change its historical approach and rely more on debt financing?
SRP’s most recent pricing processes in 2010 and 2012 were conducted in the aftermath of
the most significant period of financial turmoil ever experienced by most SRP customers. In
these pricing processes, the case for preserving credit strength was quite strong, at times
when the cost of financial carelessness was visible and painful. The economic environment
and bond market conditions are clearly improved, though still not “normal” by many
standards. The current bond market does not overly penalize lesser-rated utility credits by
charging the interest rate differentials seen during and after the financial crisis. However, a
variety of economic or geopolitical events, could lead to the return of wider credit spreads. In
addition, the implementation of proposed environmental regulations could lead to much
greater capital costs for many utilities – due to expensive retrofit requirements for existing
resources and/or the costs of replacing existing resources with higher-cost alternatives. As a
result, the industry faces the possibility of significantly higher future capital costs. SRP and
other utilities also face the present reality of industry transformation that could make it
increasingly difficult to recover existing fixed costs – including debt service costs.
Conservation and distributed/renewable generation technologies are changing the way
utilities bring value to a growing number of customers. For many customers, the local utility
will be supplying fewer kilowatt hours, yet still providing capacity and distribution services
that are 100% essential to achieving the policy and economic objectives that are driving
utility industry transformation. The combination of higher capital costs, and the increasing
difficulty of recovering these costs, could bring a new set of challenges which are best
addressed from a position of credit strength.
Achieving lower interest rates and debt service costs have always been compelling reasons
for SRP to limit the use of debt and maintain its credit strength. Another less obvious, but
equally compelling reason to maintain credit strength is Fairness. SRP’s current customers
have low energy prices today because of SRP’s historic practice of balancing its debt
issuance relative to its use of customer equity as sources of funds to pay for large capital
investments. Future customers will also benefit from competitive electric prices if SRP
continues this historic practice. A reversal from SRP’s historic balanced approach would be
at the expense of future customers. They would be paying for a higher debt burden that
would be financed at higher interest rates. If SRP maintains its historical approach to debt
financing, future customers can expect the same relative benefits as current customers.
SRP’s 2015 Proposed Price Changes and Impacts
The proposed price changes currently under consideration by SRP will generally be sufficient
to limit the deterioration in SRP’s financial position. But even with the proposed actions, SRP
will experience a noticeable decline in the most important public power financial strength
metrics.
The most widely recognized public power financial indicator is Debt Service Coverage –
which is the multiple of annual free cash flow available to pay debt service, relative to annual
debt service. Consistently high debt service coverage typically drives higher liquidity levels
and provides funds for required capital investment. This reduces the reliance on external
debt funding and moderates debt ratios. Strong liquidity balances and debt metrics are the
results of solid historical year-to-year debt service coverage performance.
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With SRP’s Proposed Combined Pricing Action of 3.9%, debt service coverage is projected
to decline somewhat over the next several years, declining from 3.12X in FY 2015, to 2.61X
in FY 2020. Without any change in prices, SRP’s debt service coverage would drop more
sharply, down to 2.07X by FY 2020. The projected results of both a “No Increase” and the
“3.9% FY 2015 Increase”, as calculated by SRP, are listed below:
Case: No price increase in FY15
($ MILLIONS)
2015
2016
2017
2018
2019
2020
TOTAL
Combined Net Revenue
‐14
‐46
‐143
‐192
‐309
‐411 ‐1,115
Funds Available for Corporate Purposes
396
361
299
292
241
161
1,751
Capital Expenditures
696
727
684
622
608
716
4,053
Debt Issuance
375
328
416
378
435
624
2,556
Debt Ratio
50.0% 50.9% 52.6% 54.5% 57.3% 61.3%
Debt Service Coverage Ratio
3.07X
2.88X
2.61X
2.52X
2.35X
2.07X
Case: Price increase of 3.9% in FY15
($ MILLIONS)
2015
2016
2017
2018
2019
2020
TOTAL
Combined Net Revenue
0
66
‐23
‐64
‐171
‐262
‐454
Funds Available for Corporate Purposes
410
473
418
421
379
310
2,412
Capital Expenditures
696
727
684
622
608
716
4,053
Debt Issuance
375
204
298
251
298
477
1,903
Debt Ratio
49.9% 49.6% 50.1% 50.7% 52.1% 54.8%
Debt Service Coverage Ratio
3.12X
3.29X
3.05X
3.00X
2.88X
2.61X
Neither of the scenarios outlined above presents the picture of a financially “troubled” utility.
However, it is likely that credit rating agencies and investors would see a clear difference
between the two scenarios. Even with the 3.9% FY 2015 price increase, SRP’s key financial
metrics are projected to decline – but only toward the mid to lower end of the range for SRP’s
AA rated peer group and rating agency guidelines for AA rated utilities. The proposed price
increase, and the resulting financial metrics will send the message that SRP continues to
value credit strength and ratings. PFM expects that the resulting metrics should be sufficient
to preserve SRP’s credit ratings, and its position as one of the premier credits in the taxexempt bond market. With this, SRP can expect to continue to borrow at the lowest rates
available to any municipal utility system. Without the price increase, SRP’s financial metrics
will decline to levels that are below those exhibited other strong AA rated utilities. The
combination of the lower metrics, and a clear departure from SRP’s historical emphasis on
credit strength, is likely to lead to lower credit ratings for SRP. With lower credit ratings, SRP
would still be able to access the capital markets on favorable terms, but at costs that could
be 0.10% to 0.50% higher than under its current bond ratings. The actual interest rate
differential would depend on the extent of any rating actions, and market conditions at the
time. Over the past five years, the average borrowing cost differential between AA rated and
A rated tax-exempt borrowers has been over 0.50%. Issuers that are experiencing
deterioration in metrics and ratings are often penalized with higher interest costs than a more
stable credit of the same rating. It would not be unreasonable to expect, without the
proposed price action, that SRP’s borrowing rates could eventually increase by roughly
0.25% relative to what SRP might otherwise obtain if the 3.90% increase is implemented.
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This degree of interest rate differential between the two price increase scenarios will be
meaningful to SRP’s most important stakeholders – the customer. As mentioned earlier, and
as shown on the tables above, SRP projects over $4 billion of capital expenditures during the
upcoming projection period – much of it to be funded through debt issuance. SRP also has
several series of outstanding bonds, totaling over $2.0 billion that become eligible for
refinancing during the projection period. These bonds series are listed below:
Series
Refundable Amount
2004A
$
Call Date
49,670,000
Current
2005A
327,090,000
Jan, 2016
2006A
296,000,000
Jan, 2016
2008A
795,975,000
Jan, 2018
2009A
593,795,000
Jan, 2019
TOTAL
$ 2,062,530,000
The average coupon on these outstanding bonds is close to 5.0%. Current market rates for
comparable bonds are closer to 3.0%. If interest rates stay below 5%, and SRP maintains
favorable credit ratings, there will be considerable refunding activity during the projection
period. SRP’s potential refunding issuance, combined with SRP’s projected new capital
borrowing, could add up to nearly $4.0 billion of debt issuance during the projection period –
assuming the implementation of the proposed 3.9% price action. Without the funds provided
by the price increase, SRP is projected to need an additional $600 million of debt.
The decision to implement the proposed price increase could mean the difference between
borrowing roughly $4.0 billion at the lowest rates available in the market, or borrowing
roughly $4.6 billion at rates that could be 0.25% above the lowest potential rates. The higher
borrowing amount, combined with a 0.25% interest rate differential could add up to additional
debt service costs of over $1.5 billion over 30+ years. If SRP had lower credit ratings, it
would also pay more for its revolving credit agreement, and possibly on other credit-based
financial and energy contracts.
It is not a certainty that SRP’s failure to implement the proposed price action will lead to over
$1.5 billion of increased debt service costs. It could be more, or less, and will depend on the
bond market conditions and the timing and degree of any rating agency response to SRP’s
declining financial metrics. But based on the methodologies employed by the rating
agencies, and the comparative financial metrics of SRP’s public power peer group, the
proposed rate increase appears to be necessary to prevent an eventual ratings downgrade
for SRP. Following is a discussion of credit rating considerations for SRP.
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Public Power Credit Rating Considerations
This report contains considerable discussion about the credit metrics and ratings. Credit
analysts employed by rating agencies and major bond investors (e.g. bond funds, banks and
insurance companies) are responsible for comparing, contrasting and ranking public power
investment opportunities. Their opinions are important to public power utilities because their
opinions have a direct impact on utility capital costs – a large cost component in the capital
intensive utility business. Utilities might prefer to conduct their business without concern for
the opinion of these external parties. However as many utilities require considerable
amounts of capital from external investors, they must be aware of, and responsive to, the
opinions that influence investor decisions and capital costs. As a result, this report examines
these third parties’ views, and their ability to influence one of SRP’s major cost components.
The credit rating scale ranges from AAA (best) to C (worst). A brief description of the rating
levels are portrayed below:
Source: Standard & Poor’s. Fitch has identical rating categories as S&P. Moody’s rating categories range from Aaa
to C with numerical modifiers 1,2, and 3. The modifier 1 indicates the obligation ranks in the higher end of its generic
rating category whereas 3 indicates a ranking in the lower end of that generic rating category.
The credit quality of the public power sector has historically been very strong. The credit
rating agencies note the sector’s fundamental strengths, which include the near monopoly
provision of an essential service, often with unregulated rate-setting ability. In their efforts to
5
assess and compare public power credit strength, the rating agencies consider a variety of
credit characteristics – both objective and subjective in nature. The following table is a
summary of key rating criteria that each of the three major credit rating agencies consider in
determining a utility’s credit rating.
Public Power Key Rating Areas by Rating Agency
Moody's
Standard and Poor's
Fitch
 Cost Recovery




 Management
 Operations
 Competitive Position
Framework Within
Service Territory
Willingness to Recover 
Costs With Sound

Financial Metrics

Management of

Generation Risk

Competitiveness
Financial Strength
 Governance and

Markets

Regulation

Service Area Economy
Finances

Legal Provisions
Management Strategy
Assets and Operations
Cost Structure
Financial Performance
and Legal Provisions
Customer Profile and
Service Area
While each credit rating agency evaluates risk based on its own standards, applies its own
ratings methodology, and weighs the factors differently, all three agencies emphasize actions
taken by governance and management that enhance the utility’s ability to make scheduled
debt service and other fixed payments.
In 2011, Moody’s Investor Service updated their rating methodology for public power utilities.
The goal of this new rating methodology was to improve the transparency in how Moody’s
arrives at utility revenue bond ratings, what factors they consider most important, and how
these factors map to specific rating outcomes. Although the two other rating agencies (S&P
and Fitch) examine similar criteria, Moody’s is the only agency that publishes a distinct listing
and weighting of their key credit criteria.
SRP was one of the first public power utilities to be scored under the new Moody’s
methodology, and the scoring process has been refined somewhat since SRP’s most recent
bond rating effort in March of this year. The overall rating result with the new methodology
continues to be favorable, with SRP retaining its strong Aa1 rating from Moody’s. SRP also
has a strong AA rating from S&P. However, applying the Moody’s grid scoring methodology
leaves SRP scoring closer to the Moody’s Aa2 mid-range than to its high-end Aa1 level
within the overall Aa category. Moody’s has continually stated that the grid scoring is not the
sole criteria in the rating process, and that Moody’s considers other non-quantitative factors
in the final ratings determination.
Following is PFM’s summary of the new Moody’s public power methodology and criteria, and
the actual results of Moody’s scoring for SRP according to the summarized categories.
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Summary of SRP Scoring on Moody's Public Power Methodology
Factor
Description
Weight
Aaa
Aa
A
Score
Weighted
Cost Recovery
Framework
Unregulated, LocallyControlled
Service Area Economy
Customer Base Stability
25%
local control and VERY
strong economy
local control and strong
economy
local control and
average economy
1
0.25
Willingness/Ability
to Recover Costs
Rate Setting Record
Timeliness of Recovery
Local Gov't Support
General Fund Transfer
25%
excellent record, 10 day
adjustment, no politics,
limited transfers
strong record, 10 to 30
day adjustment, limited
politics,
conservative/defined
transfers
adequate record, 30 to
60 day adjustment,
some politics, moderate
transfers
3
0.75
Management of
Diversity of Supply
Generation Risk, Reliability/Cost of Supply
Cost, Reliability
10%
strong mngmt, very
strong mngmt, diverse, average mngmt, some
diverse, price insulation, some price insulation,
price exposure, single
single asset and/or coal single asset and/or coal asset and/or coal <55%,
<20%, carbon strategy <40%, carbon strategy
carbon strategy
3
0.30
Rate
Competitiveness
State and Regional
10%
25% or more below
average
25% to 7.5% below
average
7.5% below to 7.5%
above average
3
0.30
Adjusted Days Liquidity
10%
> 250 days
150 to 250 days
90 to 150 days
3
0.30
Debt Ratio
10%
less than 25%
25% to 50%
50% to 75%
6
0.60
Adjusted DS Coverage
Fixed Obligation Coverage
10%
greater than 2.50X
2.00X to 2.50X
1.50X to 2.0X
3
0.30
1
3
6
Aaa < 1.5
Aa 1.5 to 4.5
A 4.5 to 7.5
2.80
Financial Strength
and Liquidity
Note: the yellow shaded areas represent Moody’s most recent scoring for SRP in each one
of the criteria. This scoring is from the Moody’s report published in June of 2013.
Focusing on the Moody’s grid, we can see that SRP’s pricing recommendations and their
resulting financial metrics do not in themselves provide any assurance that SRP will retain its
Aa1 rating from Moody’s. Under the proposed price increase, SRP would “score” slightly
above the AA range for debt service coverage, but toward the low end of the AA range for
debt ratio and liquidity. However, failure to adopt price increases, and the resulting
deterioration in credit metrics, could possibly move SRP to drop a rating level below those it
currently holds for debt service coverage and debt ratio. In its 2013 rating report on SRP,
Moody’s points out that downward rating pressures would build if SRP’s coverage dropped
below 2.00X or its debt ratio rose above 60%. Without the proposed price adjustment, SRP
would experience a deterioration in metrics that would take SRP close to or through these
threshold levels.
Failure to adopt the recommended price increases might also lead
Moody’s, S&P and the broader investment community to question SRP’s Willingness/Ability
to Raise Rates – another key rating criterion. This important criteria has a 25% weighting in
the Moody’s methodology. A decline from Aa to A in Willingness/Ability to Raise Rates,
when added to the other category declines, would put SRP’s overall score toward the low
end of Moody’s overall Aa category.
Moody’s scoring grid is not the sole determinant of a credit rating. There are several public
power utilities whose actual credit ratings are above those implied by the scoring outcome.
However, it would be unrealistic for SRP, or any borrower, to expect to maintain ratings that
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are higher than those indicated by a transparent, standardized rating methodology at a time
when the financial community is calling for greater transparency and standardization. The
pricing decision will send a clear message to the rating agencies regarding the likely direction
of SRP’s financial condition.
PFM believes that the proposed price increase is likely to prevent potential credit rating
downgrades in the foreseeable future. However, with the recent changes to rating agency
regulation and their internal policies, it is more difficult than in the past to predict the outcome
of any given credit rating process. In the absence of the price increases that will mitigate
SRP’s financial ratio deterioration, it is very likely that the rating agencies and investors
would be concerned that SRP’s long held position as a premier public power credit could be
in jeopardy. This could lead to a credit rating downgrade and higher interest rates on its
future SRP debt issuance.
Other Pricing Process Considerations
Capital structure, credit rating and utility pricing decisions are not a “one size fits all” situation
for the municipal utility industry. For some of the lesser-rated utilities in SRP’s Peer Group it
would be inordinately expensive for them to achieve the financial metrics required to improve
their credit ratings in the near term. This degree of credit turnaround would require
unaffordable price increases for the utility’s customers. There are higher priorities in the
Pricing Process than simply trying to work toward the highest possible credit ratings.
In December 2000, the SRP Board adopted five Pricing Principles that have guided the
pricing of SRP’s electric service. Two of these Pricing Principles - Gradualism and Equity relate directly to the task of balancing customer interests with the desire to maintain financial
strength.
Gradualism recognizes the desire on the part of customers to have consistent, stable prices.
There will be situations where unexpected, isolated costs arise – such as those related to a
plant outage – and it will be reasonable for a utility to absorb these costs in the short run and
allow financial metrics to deteriorate temporarily. The unexpected cost could be recovered
over time with a slight adjustment, as opposed to a short-term, sharp price increase.
Conversely, a permanent, systemic cost increase – for example, a carbon tax – may be more
appropriate for immediate and full recovery via a price adjustment. Delaying the recovery
would only require a more severe, or less gradual, price adjustment in the future.
The principle of Equity applies both to fairness between customer classes (e.g., residential
vs. industrial), and to fairness between customer generations (past, present and future).
SRP’s Board is tasked with protecting the value of SRP’s considerable resources and the low
cost power they provide. SRP’s current competitive prices are a function of these valuable
assets and the manner in which they have been financed over the years. SRP’s prices are
competitive today because there was not a disproportionate reliance on debt to fund prior
resource investments. In the same fashion, future prices will reflect current resource and
capital structure decisions. A good definition of Equity or fairness between past, present and
future customers would appear to be preservation of SRP’s asset base and its hard-earned
capital structure. Today’s customers benefit from a capital structure that was built by prices
paid by past customers. The Pricing Principle of Equity would argue for pricing decisions
that preserve SRP’s assets and capital strength so that future customers will benefit from a
similarly competitive SRP pricing structure.
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Based on PFM’s review of SRP’s Proposed Adjustments to SRP’s Standard Electric Price
Plans Dated December 12, 2014 (the Bluebook), it appears that the overall price adjustments
are required to recover ongoing, systemic cost increases; and to preserve SRP’s capital
strength and credit ratings. PFM recommends that SRP continue to emphasize the
principles of Gradualism and Equity and maintain the capital strength you have built over
many decades.
Conclusions
The potential price increase currently under consideration by SRP should preserve SRP’s
credit strength. The proposed price increase will provide cash flow to cover debt service and
contribute to SRP’s considerable capital improvement program. The pricing action will send
a message to the financial community that SRP is making the difficult decisions that will
balance the needs of current customers with the goal of maintaining its strong financial
condition.
PFM expects that the proposed price increase will prevent potential credit rating downgrades
in the foreseeable future. However, with more potential change to the methodologies and
processes employed by the credit rating agencies, it is increasingly difficult to predict the
outcome of the credit rating process.
In the absence of price increases that maintain SRP’s financial condition, and with the
increased rating agency focus on financial metrics, PFM would expect at least one of the
rating agencies to eventually respond with some form of negative action – either a Negative
Outlook, or a Downgrade. It is possible that the resulting higher interest rates on SRP debt
that would follow a negative rating action would be manageable in the near term. However,
there are events that could lead credit spreads to return back toward levels seen in 2008 and
2009. This would lead to higher costs and larger price increases in the future. Imposing
these costs on customer in the future would not be consistent with SRP’s Pricing Principles
of Gradualism and Equity.
PFM supports the price increase recommended by SRP Management in its December 12,
2014 Bluebook. We further believe that adherence to the Pricing Principles is in SRP’s long
term best interests and will maintain SRP’s position within the investment community and
with the rating agencies. It will also provide future SRP customers an opportunity to benefit
from the same comparative pricing advantage that SRP’s current customers experience
today.
9
Public Financial Management as Provider of the Report
Public Financial Management (“PFM”) provides a full range of financial and investment
advisory services to state and local government entities throughout the United States. For
the past five years, PFM has served as advisor on a larger par amount of debt financing for
United States governmental entities than any other financial institution. PFM has roughly
450 employees in over 40 offices throughout the country. Ten of these professionals spend
nearly all their time providing financial advice to electric utilities that are either owned,
controlled, or somehow affiliated with state or local governmental jurisdictions. PFM
currently provides financial advisory services to roughly 70% of the 50 largest public power
utilities in the country, and to eight utilities in the 12 member Public Power Peer Group
covered in the financial comparison. The following chart provides an indication of PFM’s
position in the public power financial advisory sector.
Rank
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
21
22
23
24
25
50 Largest Public Power Entities by MWH Sold (2010) with PFM Clients Highlighted
State
Rank Public Power Entity
Public Power Entity
NY
26
New York Power Authority
Grand River Dam Authority
AZ
27
Salt River Project
North Carolina MPA No 1
SC
28
Santee Cooper
Tacoma Public Utilities
CA
29
Los Angeles DWP
Florida MPA
TX
30
CPS Energy
Indiana MPA
NE
31
Nebraska Public Power District
EPB -Chattanooga Electric Power Board
NY
32
Long Island Power Authority
Southern California Public Power Authority
33
PR
Knoxville Utilities Board
Puerto Rico Electric Power Authority
NE
34
Omaha Public Power District
Huntsville Utilities
TX
35
Lower Colorado River Authority
WPPI Energy
FL
36
JEA
Utah Associated Municipal Power Systems
TN
37
Memphis Light, Gas and Water
Colorado Springs Utilities
WA
38
Seattle City Light
Clark Public Utilities
UT
39
Intermountain Power Agency
PUD No 1 of Cowlitz County
GA
40
MEAG Power
Colorado River Commission of Nevada
TN
41
Nashville Electric Service
Lincoln Electric System
OH
42
American Municipal Power, Inc
Platte River Power Authority
TX
43
Austin Energy
Eugene Water & Electric Board
CA
44
Sacramento Municipal Utility District
Michigan Public Power Agency
WA
45
PUD No 2 of Grant County
Turlock Irrigation District
WA
46
Energy Northwest
Silicon Valley Power
WA
47
Chelan County PUD No 1
City Utilities of Springfield
WA
48
PUD No 1 of Snohomish County
Northern California Power Agency
FL
49
Orlando Utilities Commission
Alabama Municipal Electric Authority
NC
50
North Carolina Eastern MPA
Texas Municipal Power Agency
Source: 2012-2013 American Public Power Association Public Power Annual Directory & Statistical Report
10
State
OK
NC
WA
FL
IN
TN
CA
TN
AL
WI
UT
CO
WA
WA
NV
NE
CO
OR
MI
CA
CA
MO
CA
AL
TX
Appendix I - Public Power Financial Comparison
To assist in anticipating rating agency and investor reactions to SRP’s potential ratemaking
decisions, it is helpful to examine certain SRP financial metrics as they compare to a Peer
Group of other large municipal utilities in the United States. This Peer Group comparison will
enable SRP’s Board, Management and customers the opportunity to see SRP in the same
comparative framework that will be used by investors and rating agencies.
PFM elected to evaluate the public power electric utility systems that we felt had the most in
common with SRP. We selected a group of 12 utilities that met some or all of the following
criteria:
 Generating Annual Revenues in Excess of $1 billion
 Serving in Excess of 150,000 Customers
 Having a Balance Sheet with Over $2 Billion in Assets
The utilities in this group are listed below:
Memphis Light, Gas & Water*
Orlando Utilities Commission
City Public Service of San Antonio (CPS)
Nashville Electric Service*
Los Angeles Dept of Water & Power
Sacramento Muni Utility Dist.
Omaha Public Power District
Salt River Project
JEA (formerly Jacksonville Elec. Auth.)
Seattle City Light
Austin Energy
Long Island Power Authority **
* Memphis Light Gas & Water nad Nashville Electric Service provide electric service to its customers,
but unlike the other utilities, receives all of its power from one source: the Tennessee Valley Authority.
** Long Island Power Authority was formed in 1998 to purchase the distribution assets of an investorowned utility, and has a large amount of debt due to its purchase of a non-operating nuclear facility as
part of the acquisition.
This group represents the most comparable Peer Group for SRP. Even within this limited
number of municipal utilities there are significant differences in resource size, the number of
customers served and type of resource, among other criteria. The subset of this group that
are the most comparable public power entities to SRP are the Los Angeles Department of
Water & Power (“LADWP”) and City Public Service of San Antonio (‘CPS Energy”). These
are both large systems that serve growing, energy dependent communities. They meet their
energy needs through a considerable portion of self-generation, powered by a variety of fuel
sources. Like SRP, they have prices that are below those of neighboring investor-owned
utilities. They also have considerable capital improvement plans that include significant
expenditures to meet carbon reduction and renewable objectives. The table on the following
page provides a comparison of selected financial information for the 12 utility Peer Group.
The figures are from the most recently published audited financial statements. Most, but not
all, of the utilities had publicly available information for 2013.
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Selected Financial Data for the Large Public Power Peer Group
Financial Data ($millions)(1)
Ratings
Municipal Utility
San Antonio City Public Service
Moody's
Aa1
S&P
AA
Fitch
AA+
Memphis Light, Gas & Water (Elec)
Aa2
AA+
AA+
AA+
Nashville Electric Service
Revenue
2,435
Balance Sheet Ratios
Customer
Equity
3,383
Debt to
Assets
53%
Debt Serv
Debt/(Debt Coverage
(2)
+Equity)
62%
2.72X
Assets
10,539
Debt
5,545
1,411
2,303
910
1,054
40%
46%
1.79X
AA+
1,174
1,357
529
600
39%
47%
2.46X
2,980
11,424
4,413
4,736
39%
48%
3.19X
825
3,236
1,487
1,104
46%
57%
2.42X
Salt River Project (Phoenix, AZ)
Aa1
AA
-
Orlando Utilities Commission
Aa2
AA
AA
Omaha Public Power District
Aa2
AA
-
1,090
4,847
2,718
1,870
56%
59%
2.25X
Seattle City Light
Aa2
AA
-
842
3,464
1,870
1,154
54%
62%
1.85X
JEA (Electric System)
Aa2
AA-
AA
1,275
3,891
2,838
760
73%
79%
2.57X
Los Angeles Dept. Water & Power
Aa3
AA-
AA-
3,162
13,837
7,495
5,191
54%
59%
2.52X
Austin Energy
A1
AA-
AA-
1,288
3,766
1,400
1,663
37%
46%
2.01X
Sacramento Muni. Utility District
A1
AA-
A+
1,428
5,492
3,076
847
56%
78%
2.48X
Long Island Power Authority
Baa1
A-
A-
3,756
11,965
10,078
378
84%
96%
2.59X
(1)
Source: Reflects most audited financial statements
(1)
Source: Issuers' most recent financial statements.
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Discussion of Comparison Results
The Debt to Assets and Debt to Capitalization ratios provide an indication of the relative
amounts of fixed debt costs to be recovered through future utility prices. The Debt Service
Coverage comparison provides an indication of the amount of cash flow that is available to
make debt service payments, relative to the amount of the payments themselves. Higher
coverage implies stronger financial health and greater ability to withstand unexpected
declines in revenues or increased expenditures.
SRP’s Debt to Assets ratio is in the lower/stronger range for utilities in the 12 utility Peer
Group. The same is true of SRP’s Debt to Capitalization ratio. SRP’s ratios are similar to
those of LADWP and San Antonio’s CPS Energy. SRP’s current debt service coverage ratio
is in the high range of the overall group. There are some unexpected outliers in the group –
both strong and weak – but these are usually the result of individual balance sheet
circumstances or unique results within a recent year. SRP’s favorable ratios contribute to its
high bond ratings and to SRP’s borrowing cost advantage relative to most members of the
Peer Group. SRP, along with a limited number of public power borrowers, are seen as the
premier credits in this market sector. These “benchmark” issuers receive the benefit of
strong investor demand due to investor perception that their bonds will remain highly-rated
and have an active following in the secondary market. Secondary market liquidity is
particularly important to large institutional investors. They prefer bonds that carry an
expectation of superior liquidity in the event they ever have to sell a bond to meet their own
liquidity requirements.
An interesting feature of any debt funded capital program is that the more a utility relies on
debt financing, the more the debt is likely to cost. Debt burden and projected annual debt
service levels are important rating agency credit criteria. More debt and larger annual debt
service payments can erode financial metrics and contribute to credit rating downgrades. As
shown earlier in the report, lower credit ratings impose higher interest rates. One of the
major challenges in establishing utility prices, and making the resulting capital structure
decisions, is to determine a balance of customer contribution and debt financing that will
preserve the capital structure and bond ratings. SRP’s current strong capital position is a
direct result of considerable historic customer investment in the system. SRP’s current
customers benefit from lower annual debt payments on the lower debt base. This capital
strength also allows SRP to access the market for future investment at borrowing costs that
are substantially lower than other large utilities. SRP’s current and future customers will
derive significant benefit from SRP’s history of conservative financial management and
investment.
Description of Financial Comparison Information
Bond Ratings
There are three major bond rating agencies – Fitch Ratings, Moody’s Investor Services, and
Standard & Poor’s (S&P) – that assign credit ratings to a wide variety of borrowers around
the world. The S&P and Moody’s ratings are listed because most public power issuers carry
ratings from these two entities. The table above lists the utilities in order according to their
S&P ratings, from strongest (AA+) at the top to weakest (A-) at the bottom.
Total Assets
Total assets listed are generally for the 2013 fiscal year. The Total Assets figure provides a
measure by which to compare the overall size of various utilities. In most cases, the major
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asset classes include; net plant, current assets (cash and receivables) and investments. In
some cases there are utilities with “regulatory” or “recoverable” assets, which represent a
valuation for the expectation of future revenues.
Long Term Debt
This category is meant to include all debt expected to be repaid in more than one year. It
includes conventional long-term debt, variable-rate debt, senior and subordinated debt,
capital lease obligations and other obligations that could be classifies as “quasi-debt” in
nature. As such, there are instances where the Long Term Debt in the table does not
coincide with an amount of long term debt listed in the annual financial statements for a given
utility.
Equity
The “equity” measure for public power utilities is typically presented as accumulated net
revenues or retained earnings in financial statements. It represents “profits” over time.
These are the meaningful sources of public power equity.
Long Term Debt to Assets
This figure is the percentage obtained by dividing the Long Term Debt number described
above by the utility’s Assets. This is a good relative measure of leverage in comparing public
power systems.
Long Term Debt to Capitalization
For this measure, Long Term Debt is divided by total Capitalization. Total Capitalization is
defined as Long Term Debt plus the Equity measure. The primary purpose of utilizing this
measure, in addition to the Long Term Debt to Assets figure, is to adjust for accounting
differences between utilities. Specifically, there are several utilities that carry “regulatory
assets” or “deferrals”. These are typically linked to the expectation of receipt of specific future
revenues, and not associated with any “hard assets”.
Debt Service Coverage
This is generally a measure of annual free cash flow available to cover annual debt service
payments. Operating expenses are deducted from total revenue to arrive at an amount often
referred to as Net Revenues. Net Revenues are divided by annual debt service to arrive at
the amount by which Net Revenues “cover” annual debt service payments. It is perhaps the
single most important metric by which the rating agencies measure year-to-year financial
strength. For the purposes of the Public Power Peer Comparison, we have utilized the
overall debt service coverage calculation which divides Net Revenues by all debt service –
including senior and subordinated debt service, if any.
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