Legislation to keep utility afloat

David Strow

Thursday, April 19, 2001 | 11:22 a.m.

Sierra Pacific Resources, parent of Nevada Power Co. and Sierra Pacific Power Co., says it should be able to avoid bankruptcy thanks to legislation approved by the Legislature on Wednesday.

The utility says bankruptcy had been a distinct possibility because Sierra Pacific's lenders were threatening to cut off its credit because of its deteriorating financial situation -- a result of the West's energy crisis.

"We still have a lot of explaining to do (with creditors)," said Mark Ruelle, chief financial officer of Sierra Pacific. "They're a tight-knit group of investors and creditors that have been badly burned by the California debacle. Without this legislation, that would be an impossible task. With it, I think we can assure them again that we're a good place to invest money."

Some say the credit situation could have easily caused the company to follow in the steps of Pacific Gas & Electric, the California utility that filed for Chapter 11 bankruptcy protection earlier this month -- and that Nevada could have faced the same rolling blackouts and exploding electric costs that have plagued the Golden State.

"It can happen really fast," said Ron Tanner, utilities analyst with Legg Mason. "Unless the capital markets get comfortable that the legislative and regulatory environment is different in Nevada than it is in California, there's a lot of uncertainty."

As legislators were convinced that was the case, Sierra Pacific won a guarantee that it would receive repayment of any losses it takes from selling electricity to consumers when market prices for electricity are high. This mechanism could hike rates anywhere from 15 percent to 30 percent next year, and keeps the higher rates in place for up to three years, even if the market prices of electricity fall.

Investors seemed to believe it was good news -- this morning Sierra Pacific stock traded at $14.30, a gain of nearly 6 percent.

Not everyone, however, buys the argument that Sierra Pacific was on such shaky ground. Tim Hay, the state's consumer advocate, notes that the $311 million rate increase imposed by the Nevada utilities in March was supposed to make up for the losses that Sierra Pacific was experiencing.

"There's a big discrepancy between what the company did (with the rate increase) and what they're telling people now, I believe," Hay said. "I'm very skeptical their financial condition is as dire as they're indicating."

The issue revolves around the rapid growth rate of Sierra Pacific's customer base, particularly in Southern Nevada. Since Nevadans need more power facilities, Sierra Pacific is a ravenous consumer of capital and loans provided by banks, bondholders and stockholders.

Over the next five years, Sierra Pacific estimates it will spend $1.52 billion on construction, with about 58 percent of that being spent in Southern Nevada.

The company's dependence on debt, however, has been exacerbated in recent months by unusually high energy prices. The two utilities don't generate all of their own power and purchase significant amounts from other utilities. In 2000, Nevada Power bought 46 percent of its needed electricity from other companies, while Sierra Pacific purchased 56 percent of its electricity requirements.

Under its settlement with the state last August, the utilities could only hike rates a certain amount every month to keep up rising electricity costs. It wasn't enough, however, to make up the full difference. To keep the power flowing, Sierra Pacific began borrowing money -- more than $200 million from August to December, by some estimates -- to make the necessary purchases.

"You only have your faith in the regulators that provides protection for those loans," Tanner said. "Unless investors are ensured they'll get recovery of that, they'll stop loaning to you."

That faith had started to fade, Ruelle said.

"The lending market, including banks with whom we've done business, has been unable to meet our requests for additional loans," Ruelle said. "That's a very serious issue. That should be of grave concern to everybody."

However, Ruelle said no bank had actually cut the utility off from credit.

If credit is cut off, bankruptcy would be difficult to avert, Ruelle said. Though Sierra Pacific reported cash reserves of $51 million on Dec. 31, these reserves aren't nearly enough to keep the company going if credit is denied, he said.

"Any time a company is dependent on the capital markets, and that's threatened, no company can stay solvent for long," Ruelle said. "I wouldn't want to speculate when that would occur, but it's just a truism.

"(Banks) want assurance we're a good company to lend to. If they can't get that assurance, it would be a very brief period of time (before bankruptcy). It can happen very quickly."

Hay is skeptical of this story, however.

"It's pretty easy to tell someone your credit line is out," Hay said. "It's hard to prove whether that's an accurate statement or not."

It is clear the difference between the market price of electricity and the regulated electric rate the utilities could charge badly hurt Sierra Pacific earnings in 2000.

From August through April, Nevada Power stepped up rates a total of 0.747 cents per kilowatt-hour under its settlement with the state, resulting in additional revenues of $119.2 million.

However, Nevada Power claimed the real cost increases of supplying power increased 1.19 cents per kilowatt-hour over this time period, leaving Nevada Power absorbing one-third of the increases it would normally pass along to customers. These kind of deficits were a big reason Nevada Power posted a net loss of nearly $8 million in 2000.

But Hay is skeptical that Sierra Pacific's utilities are still incurring deficits this severe, because the 2000 numbers do not include the benefits Sierra Pacific has been receiving from the $311 million rate increase it introduced in March.

Those numbers won't be seen by the public until Sierra Pacific files its results for the quarter ending March 31. Those numbers won't be reported until next month.

"All the financial data to prove or disprove (claims of big deficits) haven't been seen by anyone outside the company yet," Hay said.

The cost of bankruptcy

No one denies that a Sierra Pacific bankruptcy would be disastrous. It could seriously jeopardize the utilities' ability to meet the state's power needs, particularly during the blazing months of summer.

Ruelle said Sierra Pacific has obtained commitments to purchase power this summer at rates well below the expected market price for electricity. Barring an extraordinarily hot summer, the breakdown of a generation plant or the loss of a key transmission line, Sierra Pacific says there will be enough electricity to keep the lights on in Las Vegas and Reno this summer.

If Sierra Pacific were bankrupt, however, this might not be the case. Only a bankruptcy judge could force suppliers to sell power to a bankrupt company. If a judge didn't do this, the only power available to Nevada would be at extremely high market prices, Ruelle said -- and that would translate into much higher rates.

"Would you sell (electricity) to someone that was bankrupt?" Ruelle said.

There would be long-term problems for fast-growing Nevada as well, Tanner said.

"If you don't have a healthy utility, with the ability to issue stock to investors and earn an attractive return and pay its bills and interest on its debt, you can't grow," Tanner said.

"And Nevada is growing. The customers don't pay for the investment (in infrastructure); the investors do. If it doesn't look like an attractive investment, they'll go to Texas or Wisconsin or Minnesota. Then the lights go out."

It would also mean Sierra Pacific shareholders wouldn't be getting dividends any time soon. In 2000, Sierra Pacific paid out $83 million to its stockholders in the form of dividends, but suspended payment of its quarterly dividend last week.

"I would sure hope" Sierra Pacific can resume dividend payments soon, Ruelle said.

"If we're going to fix this problem, we have to invest in infrastructure to fix it permanently," Ruelle said. "We need to offer investors a decent return on investment, and that includes dividends. It's absolutely the cost of capital ... were we unable to pay dividends for a long period of time, it would jeopardize our ability to fix that problem."

The new solution

Sierra Pacific had originally hoped to deal with this problem when it sold its power plants. The company would gross $1.7 billion from these sales, creating considerable cash reserves to buy power and build infrastructure.

Just as important, Tanner said, Sierra Pacific had reached agreements with the buyers to purchase power at older, lower rates -- which could have ended the losses Sierra Pacific is taking on power it's been purchasing on the open market.

The legislation passed Wednesday will block Sierra Pacific from selling its plants as planned. But in exchange, Sierra Pacific will receive the right to re-introduce a practice called "deferred accounting."

It's essentially a promise made to the utilities that they will eventually be repaid for losses they take because of the difference between market electricity costs and regulated electricity rates. Sierra Pacific's practice of bumping up rates a little each month ends, and rates are frozen at their April 1, 2001 level -- meaning Sierra Pacific's controversial March rate hike would stand.

If the company continues to take losses on power sold to its customers after this date, the charges would accumulate on the company's balance sheet as an account receivable.

"As long as they (creditors) see that as a good receivable, they're willing to loan against it," Ruelle said. "Our cash needs are just as severe, but lenders have assurance we'll repay that."

Depending on how many years the charges are spread over -- and how much Sierra overpays for electricity -- bills could be increased by anywhere from 15 percent to 30 percent with this charge, Ruelle said, and would stay there until the company and its creditors were paid back.

Even Hay believes it's probably something that has to happen.

"It's disappointing we're moving backward rather than forward (toward deregulation)," Hay said. "It's certainly not a perfect mechanism, but it's better than a bankruptcy (filing) or having this uncertainty further affect our state's economy."

But the Public Utilities Commission of Nevada must still approve the rate increase Sierra Pacific would use to recover its deferred energy balance, and can lower this increase if it believes Sierra Pacific acted imprudently in its market purchases of electricity.

Hay is indicating he's willing to take up that fight.

"What we have to be vigorous about is that the rate case is very thoroughly done," Hay said. "Nevada Power has not had a rate case since the early '90s. We believe they've been overearning in general rates."

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