Reflecting Wall Street's nervousness over whether public utilities can compete in a free market, Standard & Poor's on Wednesday downgraded $10 billion of debt issued by six Southern California municipal utilities and agencies, including the Los Angeles Department of Water and Power.
S&P said municipal utilities, especially the Los Angeles DWP, will feel special pressure in the coming deregulated electricity market because they have to go head-to-head with investor-owned utilities and power marketers for customers, while answering to political leaders.
The downgrading of the bonds could add to customers' bills over time because it will increase the utilities' cost of borrowing money. A lower rating produces a higher yield for investors to compensate for greater perceived risks. But to produce that higher yield, the bond principal goes down in market value.
S&P also issued "negative" outlooks for the six bond issues, which means further downgrades are likely in the next one to three years. Southern California ratings are drifting lower and have fallen from above average to average over the last few years, said S&P utility analyst Bill Cox.
"Our concerns are ones of timeliness, that the competitive environment requires that utilities act quickly and that the existing decision-making process for DWP seems not to be conducive to quick decisions," Cox said, also citing the DWP's high debt and operating costs.
S&P downgraded nearly $2.7 billion in Los Angeles DWP electric revenue bonds to A+ from AA-, citing the "erosion of its historically strong financial position," concerns over City Council willingness to approve cost-cutting measures and the increased risks associated with the more competitive California power market.
The downgrade decision was made before the announcement Monday that DWP General Manager William McCarley was resigning over a salary dispute. He was perceived by the investment community as a "positive force" in the DWP's efforts to become more competitive, Cox said.
McCarley had overseen a 20% reduction in DWP payroll and initiated discussions with three large power concerns--Duke/Louis Dreyfus, Pacificorp and Enron--to create a possible strategic alliance.
"Obviously we are not pleased, but it's not unexpected. [The downgrading] reflects a lot of the things that S&P has been saying, their concerns about our level of debt and whether the regulatory, governing bodies will be able to make timely decisions" McCarley said.
Also downgraded were bonds issued by Southern California Public Power Authority for the Palo Verde (Ariz.) nuclear project ($679.4 million) and for the Southern Transmission Project ($1.1 billion). Ratings of Intermountain Power Agency bonds ($4.98 billion), Pasadena electric revenue bonds ($70.97 million) and Burbank Public Service Department bonds ($39 million) were also cut.
Earlier this year, another prominent bond-rating firm, Moody's Investors Service, lowered utility bond ratings of the municipal utilities in Pasadena, Burbank, Anaheim and Riverside. Moody's will review DWP debt in the next month, Vice President Bill Streeter said Wednesday.