NEW YORK--()--Fitch Ratings has assigned an initial senior secured long-term rating of 'BBB' to the implied senior secured obligations of Southern Illinois Power Cooperative (SIPC). The rating takes into account $722 million of parity debt at Dec. 31, 2011 but is assigned to implied obligations, because none of the outstanding secured debt is publicly held.
The Rating Outlook is Stable.
The senior secured obligations are secured by a mortgage interest in substantially all of SIPC's tangible and certain of its intangible assets.
KEY RATING DRIVERS
MID-SIZED GENERATION AND TRANSMISSION COOPERATIVE: SIPC supplies wholesale power to seven member distribution cooperatives who serve predominantly rural territories throughout southern Illinois. Power is supplied pursuant to long-term, all-requirements take-or-pay wholesale power contracts (WPC) that extend through 2043.
SUFFICIENT POWER SUPPLY RESOURCES: SIPC's power supply is generally sufficient to meet anticipated native load growth through 2017, with the recent addition of the Prairie State Energy Campus (PSEC). This obviates the immediate need for significant future construction activity or additional debt. The environmental compliance risks related to its coal-dominated portfolio are lessened by PSEC being among the cleanest coal burning plants in the U.S.
LIMITED RATE MAKING FLEXIBILITY: The addition of PSEC, while expected to yield long-term cost benefits, has substantially added to costs and eroded SIPC's rate making flexibility in the near term. Wholesale member power charges were 5.8 cents/kWh in 2007, and have recently risen to 7.8 cents/kWh after a 22% rate increase was implemented in 2012 to capture costs associated with the project.
GROWING INDUSTRIAL LOAD: About half of member retail load is from residential customer requirements. The addition of Norris Electric Cooperative (Norris) as a customer in 2013 is viewed constructively, but its industrial load concentration from oil well and coal mine development, offsets some this benefit.
PSEC COMMERCIAL OPERATION: The rating reflects the commercial operation of both PSEC units as of November 2012. SIPC's participation in PSEC will reduce its reliance on purchased power and provide long-term cost stability to its members albeit at a higher initial price.
MARGINAL FINANCIAL METRICS: SIPC's historical financial metrics are weak compared to other Fitch-rated generation and transmission (G&T) cooperatives, with debt service coverage (DSC)and equity to capitalization ratios having averaged 1.18x and 9.6%, respectively. Beginning in 2013, SIPC's financial metrics are expected to be pressured, as the substantial debt associated with PSEC begins to amortize. As a result, board policies regarding financial measures and the willingness to adjust rates as needed, will take on greater significance.
WHAT COULD TRIGGER A RATING ACTION
MEMBER CREDIT QUALITY: Sustaining reasonable operating and financial metrics of the member cooperatives, which are the ultimate off-takers of SIPC's power supply, will be a key factor in future rating decisions.
LOSS OF NORRIS: The loss of Norris as a customer, after its five-year contract ends would be a concern, leaving SIPC with excess power to remarket or contract over the long-term.
DESIGN OF SOUND BUSINESS PLAN: SIPC's ability to construct and execute a well-designed business plan to meet member and investor requirements could result in a positive rating action.
RELIABLE POWER SUPPLY PORTFOLIO
SIPC'S power supply is predominantly fueled by coal (69.7%) and consists of 549 MW of owned generation assets including the Marion and PSEC units, and 38 MW in power purchase agreements with Southeastern Power Administration (28 MW) and Pioneer Trail Wind Farm (10 MW).
SIPC's 7.9% undivided ownership interest in the PSEC project (126 MW) will reduce its reliance on purchased power and provide long-term cost stability, and a reliable and affordable base load-power supply, given the plant's ultra-efficient design and sufficient coal resources from an adjacent mine.
PSEC is a mine-mouth, pulverized coal-fired generating station, located in Washington County in Southwest Illinois. The generating station consists of two supercritical units with a net rated electric capacity of 800 MW each. Construction began in the fall of 2007 with Unit 1 being commissioned in June 2012 and Unit 2 on Nov. 2, 2012. When SIPC elected to acquire ownership interest in PSEC, the project was slated to provide power at a cost of $55/MWh). However, because of cost overruns, the generated cost of electricity for the project is expected at $55/MWh-$65/MWh over the next 10 years. SIPC's total share of project costs amounted to $480 million.
SUPPORTIVE WHOLESALE POWER CONTRACTS
Fitch views the take-or-pay contractual commitment as one of the most important factors supporting the credit rating of SIPC. The strength of a take-or-pay agreement lies in the participant's requirement to make payment regardless of the unit operation and as long as the bonds remain outstanding.
SIPC has entered into identical all-requirements, take-or-pay WPCs with each of its distribution cooperative members, which mean that each member is unconditionally obligated to purchase all of their power needs from the SIPC and pay for all associated costs. In 2008, the WPCs were amended to extend through Dec. 31, 2043. All costs are passed through to the member systems either through rates or the power adjustment clause on a monthly basis.
Norris accepted SIPC's offer of an all-requirements contract beginning Jan. 1, 2013. Norris will be an SIPC customer for a minimum of five years with the option of becoming a member or extending the contract through 2032. Norris has until Dec. 31, 2015 to decide whether or not to become a member.
SIPC's overall historical metrics have tracked at the lower end of most Fitch-rated G&T cooperatives. Recently, SIPC took on more debt to meet member requirements which necessitated funding for various generation and transmission projects, the largest being PSEC. SIPC's financial performance is expected to remain subpar following the 2012 commercial operation of PSEC, with financial metrics projected to come in weaker than historically shown. DSC is projected to remain close to a minimal 1.05x over the next few years. Total long-term debt has doubled since 2006, reaching $722 million in 2012, and associated debt service sharply increased in 2012 to $62 million annually from an average of $25 million over the 2007-2011 period.
Liquidity at the G&T level over the last five-year period was weak, averaging 25 days cash on hand. The $375 million syndicated revolver that was available to SIPC to fund their portion of the PSEC project expired and was paid off in May 2012, through senior secured debt, including $360 million and $55 million of privately placed notes in 2010 and 2011, respectively. SIPC replaced the revolver with a new $65 million facility having a four year term. The new facility is expected to provide between 115 and 213 of days liquidity on hand over the next few years for working capital purposes. Fitch views the addition of this facility as an offset to SIPC's weak cash liquidity, but overall metrics remain weaker than the universe of Fitch rated cooperatives.
Additional information is available at www.fitchratings.com. The ratings above were solicited by, or on behalf of, the issuer, and therefore, Fitch has been compensated for the provision of the ratings.
Applicable Criteria and Related Research:
--'U.S. Public Power Rating Criteria', dated Dec. 18, 2012;
--'Revenue-Supported Rating Criteria', dated June 12, 2012.
For information on Build America Bonds, visit www.fitchratings.com/BABs.
Applicable Criteria and Related Research:
U.S. Public Power Rating Criteria
Revenue-Supported Rating Criteria