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Bonds and Financing

What the ratings agencies are saying about public power

Several events have rattled the industry over the past year, raising questions of how utility financing might be affected in the short and long term. In reviewing reports and other materials from S&P Global, Fitch Ratings, and Moody’s Investors Service, there are common themes about what can potentially help or potentially hurt public power.

Overall, the agencies point to a stable outlook for public power, noting the essential nature of its services and the strength and resilience of the business model.

A resilient model

Resilience is specifically what S&P cited in January 2021, saying that utilities seemed to be weathering disruptions from the pandemic.

Other factors supporting S&P’s positive outlook include low prices for natural gas and the cost-cutting measures utilities have taken in response to financial pressures, such as reduced electric sales. S&P found an advantage of modest economic growth, in that it has slowed the need for investment in additional generation. The outlook also listed low borrowing costs that are helping fuel capital-intensive investments as an advantage in the current environment.

Moody’s December 2020 report also gave a stable outlook for public power, pointing to positives in the business model in the face of challenges from a weaker economy throughout 2021. Specific positives noted are public power’s “inherent resilience” and the ability of public power utilities to “set rates to help manage cost recovery.”

Moody’s noted the essential nature of the services that public power utilities provide, plus strong liquidity, as other factors working in public power’s favor.

Fitch Ratings had a similar tone in its December 2020 report, citing how lower expenses have helped preserve margins and liquidity in the face of declines in electric demand and revenue. The Fitch report stated “a continuance of low, stable energy prices and interest rates should also help preserve operating margins and affordability.”

The Uri effect

Following Winter Storm Uri, dozens of cooperative and public power utilities saw a negative credit impact from S&P, either from being placed on CreditWatch or from having their rating downgraded. S&P cited immediate concerns from utilities that had depleted liquidity because of the extremely high prices during the storm and longer-term concern with deficiencies in the Electric Reliability Council of Texas’ market posing a likelihood for extreme price spikes in the future. Factors that S&P notes might further negative credit ratings for affected utilities include total defaults for ERCOT market participants, if utilities enact steep rate increases, and the pricing and availability of hedging measures.

According to an S&P report from March, “Uri upended the Texas not-for-profit utility sector’s traditional resilience because the magnitude of the weather event’s price spikes was so large and protracted that we see it as diminishing ratemaking options.”

The report went on to explain that utilities that added to their debt in the wake of the storm now face upward pressure on rates, which undermines public power’s tradition of flexibility in ratemaking.

The S&P report acknowledged that while utilities outside of ERCOT experienced price spikes during the storm, only Texas-based utilities saw ratings affected.

Challenges ahead

As for what might affect the longer-term national outlook, two factors appear to be strongest on the rating agencies’ minds: environmental regulation and the speed of economic recovery.

S&P expects that more stringent environmental regulations will “place upward pressure on electricity production costs and retail rates,” while Fitch’s 2021 outlook report said that implementing a national renewable standard “could pressure operating costs, as well as the affordability metrics, at public power systems located in states with no standards or targets, or that have exemptions in place.”

S&P also expects that only a handful of public power utilities that rely heavily on load related to travel and tourism would be vulnerable to the pandemic’s economic pressures into 2021. According to the report, “We recognize that financial performance and credit ratings could be pressured, particularly at utilities that rely on electric revenues from customers hardest hit by the pandemic, such as businesses engaged, and residential ratepayers employed, in the hospitality and travel industries, or utilities required to make transfer payments to offset declines in municipal tax revenues.”

Moody’s noted that demand has continued to improve since spring 2020, and, like S&P, expects utilities that serve areas with industries disproportionately affected by the pandemic to continue to be hardest hit. However, Moody’s noted that if the economy recovers faster than expected, then it expects public power’s liquidity and fixed charge coverage ratios to strengthen, switching the outlook for public power to positive. The uneven economic effects also mean that some communities have seen load growth, due in large part to commercial and industrial sectors that have picked up during the pandemic, such as home improvement and food production.