Long Island Power Deal Offers First-of-Kind AAA’s: Muni CreditMartin Z. Braun
A New York agency set up to retire debt of the Long Island Power Authority is poised to sell about $2.1 billion of bonds in the first deal of its kind for a U.S. municipal power, water or gas issuer.
The Utility Debt Securitization Authority, created by the state legislature in June to handle the borrowing, is selling tax-exempt and taxable bonds backed by charges assessed on LIPA’s 1.1 million customers in the New York suburbs of Nassau and Suffolk counties. The bonds are scheduled to price today.
The bonds, with AAA ratings, will refinance a portion of LIPA’s $7 billion in debt, which is graded at least six steps lower. LIPA has a goal of $25 million in savings in the first two years, said Chief Financial Officer Mike Taunton. He said the deal marks the first time for a U.S. municipal utility to issue tax-exempt bonds through a special-purpose entity and backed by customer charges that can’t be revoked or altered.
“What it enables us to do is to refund some of our debt at a much lower rate,” said Taunton, who’s based in Uniondale, New York. “We’ll take those savings and essentially reinvest it in the business so that we can improve customer service.”
The deal comes about 13 months after Hurricane Sandy blacked out 90 percent of LIPA’s customers as falling trees downed transmission lines and flooding knocked out substations. A week after the storm struck, 200,000 customers remained without power, prompting Governor Andrew Cuomo and the legislature to reorganize the utility’s management and finances.
LIPA’s finances have been strained by the cost of servicing $6.7 billion of debt issued in 1998 to acquire Long Island Lighting Co., an investor-owned utility. Lilco spent $6 billion to build the Shoreham nuclear power plant in Suffolk County from 1973 to 1984. The site never opened because of community opposition.
As part of the plan approved in June and signed into law by Cuomo, a unit of Newark, New Jersey-based Public Service Enterprise Group will take over operations on Jan. 1, with LIPA’s role limited to areas such as management of financial and legal obligations. Cuomo, a 56-year-old Democrat, has called on LIPA to freeze rates for three years. The agency has frozen rates for two years, said Matt Wing, a Cuomo spokesman.
The plan gave LIPA an irrevocable right to impose and collect a special charge on its customers. Electricity delivery charges won’t change and a footnote on bills will describe the portion of those charges dedicated to the new obligations, Taunton said. The initial assessment will be about 6.8 percent of residential bills, according to Fitch Ratings.
LIPA can adjust the charge if necessary to ensure there’s enough revenue to pay principal and interest, a key feature of the deal, said Paul Brennan, who oversees $17 billion of munis at Nuveen Investments in Chicago.
For example, if summer temperatures are lower than LIPA forecasts and customers use less electricity, the utility can increase charges to compensate. The state has also pledged not to reduce or alter the value of the restructuring charges.
Since most debt in the state is issued by New York or New York City and their agencies, the deal will attract portfolio managers looking to diversify, Brennan said. The top credit ratings will also appeal to investors, he said.
“You don’t see a lot of non-state AAA rated borrowers,” said Brennan. “There’s always someone who’s going to want super-high quality.”
As investors speculate that a growing economy will lead the Federal Reserve to curb its bond-buying program, top-grade munis are beating the rest of the $3.7 trillion market this year. The segment has lost 1.6 percent, compared with a drop of about 3 percent for the entire market, Bank of America Merrill Lynch data show.
Investors will probably demand yields above benchmark interest rates because of the size of the transaction and the “wrinkles” in the structure, Brennan said.
The securitization authority plans to price tax-exempt bonds with a 5 percent coupon and maturing in 20 years to yield 4.21 percent, according to three people familiar with the sale who asked not to be identified because the pricing isn’t final.
Benchmark munis due in 2033 yield about 3.85 percent, data compiled by Bloomberg show.
Goldman Sachs Group Inc. and Morgan Stanley are managing the sale. Tiffany Galvin, a spokeswoman for New York-based Goldman Sachs, declined to comment on the sale, as did Lauren Bellmare, a Morgan Stanley spokeswoman in New York.
LIPA offered to buy back as much as $2.5 billion of debt from investors as part of the plan. Holders tendered about $1.6 billion, and LIPA accepted $450 million to $500 million, said Mark Gross, a spokesman.
The deal’s legal framework and structure are similar to those used in securitizations by investor-owned utilities, said Du Trieu, an asset-backed analyst at Fitch. Since those utilities are private enterprises, they issued taxable bonds. The LIPA deal consists of about $480 million of taxable and $1.6 billion of tax-exempt debt.
In assigning ratings, Fitch looked at data such as LIPA’s consumption forecasts from 2005 through 2012, according to a presale report.
As part of its stress test, Fitch took the variance of consumption and customer charge-offs and applied a five-times multiple, consistent with AAA ratings, said Trieu. The peak tariff represented about 12.5 percent of residential customers’ utility bills, below the 20 percent threshold for AAA.
It is unlikely that the ratepayer base on Long Island will decline enough to affect the ratings, Moody’s Investors Service said.
Nassau ranks eighth and Suffolk 16th in median household income among U.S. counties, according to Census Bureau data.
In the municipal market this week, the busiest stretch of issuance in three years helped drive benchmark yields close to a three-month high. The $13 billion wave of nationwide sales is the most since 2010, Bloomberg data show.
Benchmark 10-year munis yield 3.02 percent, the highest since Sept. 13, compared with 2.8 percent on similar-maturity Treasuries.
The ratio of the interest rates, a measure of relative value, is about 108 percent, compared with a five-year average of 102 percent. The higher the figure, the cheaper munis are compared with federal securities.