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State Is Set for Record Bond Issue

Financing: At $11.1 billion, sale is largest in U.S. history. Cash could start coming in within weeks to fill budget hole left by power purchases.


SACRAMENTO — To fill the financial hole gouged by the electricity crisis of 2000 and 2001, California is at long last putting the final touches on an $11.1-billion bond sale--the biggest one-time borrowing by a government agency in U.S. history.

If the bonds are sold as planned, the first infusion of cash could reach California this fall.

Within weeks, Wall Street rating agencies expect to grade the riskiness of buying the bonds. Then, in the sort of road show the state hasn't performed since 1997, the treasurer will visit cities across the country to drum up investor interest.

The money is intended to replace $6.5 billion that the state spent buying electricity in the winter and spring of 2001 and to retire a $4.3-billion loan also used to purchase power. Lawmakers wrestling with the current $23.6-billion shortfall in the overdue 2002-03 budget have been counting on the bond sale. Without it, the state would have to take out short-term loans to keep cash flowing.

"This is a very unique situation," said Dan Aschenbach, senior vice president for Moody's Investors Service, one of three major Wall Street rating agencies. "I don't think there's any other type of bond issue that's had to be put in place to resolve an issue as significant as a $6-billion deficit to the state."

The cost of retiring the new bonds is built into utility rates, so the debt will be paid off dollar by dollar, month by month as customers of Southern California Edison, Pacific Gas & Electric and San Diego Gas & Electric get their bills over the next 20 years. State officials say they do not expect to have to raise rates to cover the cost of the bonds. But bond payments make those rates, now among the highest in the country, less likely to be reduced anytime soon.

The bond sale is designed to spread the financial pain of an extraordinary year of threatened blackouts and astronomical power prices. State Treasurer Phil Angelides had sought to sell the bonds 14 months ago, but a deal was delayed by concerns over possible lawsuits and a dispute between the California Public Utilities Commission and Gov. Gray Davis' administration. The slowdown could bring unintentional savings because interest rates have dropped.

Wall Street rating agency analysts say they have grown more confident in recent months that California officials have taken steps to protect investors, such as reaching an agreement with utilities on how to divvy the money they collect from ratepayers.

"A lot of the things that have been a concern have been addressed in various ways," said Claire Cohen, a vice chairman at Fitch, a Wall Street rating agency.

But the power bond sale is unusual not just for its size. It is also exceptionally complex.

The agency backing it--the California Department of Water Resources--was thrust into the business of serving 27 million electricity consumers practically overnight. To keep electricity flowing to the customers of nearly bankrupt utilities, DWR spent billions of general tax dollars in 2001, when the state enjoyed a substantial budget surplus.

DWR is expected to bow out of that business by the end of this year and turn operations back to the utilities, long before the bonds are repaid.

Besides being a temporary utility, DWR is a hybrid utility. It is governed by rules rushed through the Legislature in January 2001 as the state veered toward collapse of its electrical system.

DWR depends upon the California Public Utilities Commission to adjust rates to cover its expenses. The two agencies are naturally at odds. DWR, to guarantee bond buyers that they'll get their money back, wants the PUC to adjust rates quickly, with no fuss, as DWR sees necessary. But the PUC, charged with protecting ratepayers, would prefer to first make certain DWR's costs are legitimate and reasonable.

Power Market Murky

An uncertain electricity landscape lies in the backdrop. Prices of wholesale power in California plummeted a year ago. But supplies got dangerously low in a heat wave earlier this month. Many companies have shelved their plans to build power plants, and federal regulators have lifted price caps to a level that California officials say could allow gouging. Another spike in prices could crimp DWR's ability to cover its costs and force the agency to request higher utility rates from the PUC.

Rating agency analysts note, however, that today's power market is vastly changed from a year and a half ago. At times 90% of the power DWR needs to supply utility customers comes from contracts arranged months ago.

"They're not buying everything off the spot market any longer," said Aschenbach. "There's been a fair amount of new generation built, which has helped the supply-demand balance and helped keep prices moderate."

"It takes the pressure off having to ask for additional revenue," he said. "Those types of factors argue for a more stable rating."

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