Will the Firewall Protecting Oncor From Its Basketcase Parent Company Keep It From Getting Burned?

Categories: Biz

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Peter Ryan
Oncor, the transmission company that runs power lines and electricity meters, is just about the only good thing Dallas-based Energy Future Holdings has going for it. Energy Future's generation arm, Luminant, the largest unregulated power generator in Texas, has seen its coal-fired power plants precipitously lose value because of low electricity prices. And its retail arm, TXU Energy, is steadily hemorrhaging customers.

Oncor, meanwhile, keeps on truckin'. Part of its success is due to the fact that it remains a regulated monopoly. Oncor is guaranteed a certain level of revenue and return on investment. Its slice of the pie is included in your monthly electric bill. The rest of Energy Future's portfolio isn't so lucky, subject to the whims of the electricity spot market.

Back when private equity firms Kohlberg Kravis Roberts and Goldman Sachs courted the electric giant then known as TXU in what would become the biggest leveraged buyout in history, that was part of the deal. But an even bigger component was the so-called "ring fence," a kind of financial firewall designed to protect Oncor from whatever market forces might buffet the tottering parent company into bankruptcy court. Think of it as a credit shield. As the portfolio of Energy Future is downgraded to the lowest rating of any utility in the country, Oncor remains investment grade. For now.

Problem is, Energy Future is looking down the barrel at billions in merger debt maturing sooner rather than later, and it's increasingly leaning on profitable Oncor not just for cash, but for its implicit value. It's collateral, and the troubled parent company is using it to issue more debt. So who benefits? Not Oncor, which is why Moody's Investors Service lowered its ratings outlook from stable to negative. The ring fence, it believes, is "beginning to show signs of pressure" from Energy Future, calling into question just how independent Oncor really is.

And when one of Oncor's best attributes is its separation from Energy Future, that ain't good. If that "pressure" dings its credit rating, Oncor's borrowing costs will increase, and its pool of investors will shrink. That's the last thing Energy Future needs as it relies more and more on Oncor to help pay its debt.

What's more, even Energy Future isn't entirely certain that Oncor's ring fence will protect it in bankruptcy court. In an April regulatory filing, Energy Future says low wholesale electricity prices and environmental regulation might prevent it from paying, or even refinancing, its debt. Its assets, the company admits, are already worth less than its debt. If a default is declared and Energy Future heads into bankruptcy court, it warns there's no guarantee this huge company with a monopoly on power lines won't get lumped in with the rest of the ailing assets.

If even one of these scenarios happen, expect your utility bill to get higher.

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stevrobin100
stevrobin100

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Zamora Carl

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Mister_Mean
Mister_Mean

As I read this article I can’t help but be reminded about the article Mitt Romney American parasite that was in the news earlier this week.   Am I missing something or is there a similarity in what is happening here with TXU and what Mitt did?

Oak Cliff Townie
Oak Cliff Townie

Well lets hope who ever holds the Paper keeps the people who know how to actually run the plants employed .

dallasmay
dallasmay

How about this crazy idea (don't shoot me, just brain storming here.):

What if the City of Dallas bought Oncor from EFH? It's already a highly regulated quasi-governmental entity anyways, why not make it completely governmental? The transition would be seamless since Oncor is already based in Downtown. If we leveraged and purchased the entity, then we could collect profits from all over Oncor's service area. We would bring in several millions of dollars in profit for Dallas's general fund. We already sell water to other cities across the area, and collect profits from it, and a similar situation could work for electricity. PLUS, the city could provide rate discounts to residents, businesses, and industries in the city of Dallas offering an incentive to move here. 

Again,  the City of Dallas has several departments, like water utilities, that run profitably for the city. This might be a good opportunity to get a bargain. Why let private institutions take a regulated monopoly and run it into the ground when the City of Dallas can do it.

primi timpano
primi timpano

In theory this makes perfect sense.  Dallas has a lower cost of capital and it would better ensure supply to its citizens.  In reality, the municipal utilities become a revenue source for the city.  They raise rates because they can't raise taxes.  Look at Brownsville and San Antonio CPS.

claytonauger
claytonauger

Actually the rates for publicly-owned electric utilities are on average lower than privately-owned ones.

Guest
Guest

August 6, 2101 article in the Morning News stated that Dallas was then looking at starting up its own electric utility company.

Montemalone
Montemalone

Actually, considering the timeliness of DMN reporting, 2101 sounds right.

Guest
Guest

2010. I really need to do better proofreading.

dallasmay
dallasmay

Ah, but there is the beauty of the plan. Oncor covers much more than the city of Dallas. We could raise everyone else's rates instead!

Paul
Paul

 But what about the "go to guy"?

John_McKee
John_McKee

They can add me to the list of people that will be departing TXU soon. I've been a TXU customer for years but I started looking into electricity prices and TXU is about 1/3 higher than pretty much everyone. I called them and said I will be leaving you if you can't get me remotely close the rates other providers are offering and the best they would offer wasn't even close.

dallasmay
dallasmay

But that's the problem the article is talking about. It doesn't matter who your retail electric provider is. You pay Oncor (EFH) regardless. If EFH goes under, then they will take Oncor with them or else have to sell it off, which might end up being the same thing.

Mervis
Mervis

Glad you could finally join the competitive energy pricing market. Better late than never I guess.

what a worthless post
what a worthless post

"If even one of these scenarios happen, expect your utility bill to get higher."

First of all, which 'scenarios' are you referring to?  I see one. 

And "Get higher?"  Are you a professional journalist?  Is that the best you could come up with?  I woulda been ok with "expect your utility bill to rise," but 'get higher"?

Second, please explain why you think that the bankruptcy of EFH might raise rates for customers.  If I am a Reliant customer (or Green Mountain, or whatevs) why would I pay more if EFH goes belly-up?  Especially since, as you say, Oncor is a regulated monopoly.

Brantley Hargrove
Brantley Hargrove

 Sure, I could have put that more artfully, and you could be less smug. But hey, we can't be at our best every day.

To your second point, my theory is that if Oncor's credit ratings take another hit, it's looking at higher borrowing costs and a smaller pool of investors, some of whom will be scared off by the sub-investment rating. That raises the cost of doing business for them and, I fear, for us.

ScottsMerkin
ScottsMerkin

"Second, please explain why you think that the bankruptcy of EFH might raise rates for customers."

Because when you have one less competitor, you gain more pricing power.  Thats one less company you have to price war with.  Its the same reason investors liked the mergers in the airline industry, and why most market analysts think the airline industry would be better off with AA merged

what a worthless post
what a worthless post

Not if they keep operating in bankruptcy (which they will.)  The company keeps operating while the bankruptcy courts work out who-owes-what. 

And have you been to powertochoose.org?  I'm not really believing that my rates will "get higher" if I have only 49 choices for a power provider instead of 50.  Which, as I said, will most likely not happen. 

Anon
Anon

Not sure where he gest this information from, but as an employee I'm think he's right =].

Syd_Nancy
Syd_Nancy

 I'm sorry but I disagree. Where are you getting this info?

Anon
Anon

The lines are not owned by the taxpayers. They are owned by companies like Oncor. There are other owners as well. They make their money from the ratepayers who pay transmission costs to the owners of the lines. That's how Oncor (and other companies who also own some of the lines) make their money. It doesn't matter who you buy your power from, it still has to get piped to you. And you have to pay the owner of the pipe. Sometimes the electricity you use travels across lines owned by different entities. In that case you are paying each of them for the right to use their transmission lines. All that being said, ERCOT and the PUC have a pretty big say in who gets to do what, even with their own property. Keeping the grid stable is the name of the game.

Syd_Nancy
Syd_Nancy

Pretty sure the taxpayers own the lines. Oncor just maintains em.

Paul
Paul

 How about the real problem being that the largest generator of electric power in Texas goes out of business?

Guest
Guest

There is one group in the state that does not apply to. The municipally owned electric utilities.

primi timpano
primi timpano

 Absolutely correct.  When I started the post I hadn't read the SEC info and Oncor presentation.  By the time I finished it I negligently failed to change it to the multi-labeled subs representing the power side.  Quite frankly I was brain numb at that point.  KKR and friends are very clever, but in this case they may be too clever by half.  There will be a huge battle for all of the assets.

Guest
Guest

But if Oncor is in danger of going belly up thanks to its connection to TXU or the parent company piling debt onto it, the regulators might well allow them to raise the rates they charge the electricity companies you pay your bill to. No matter who your "provider" is, Oncor delivers the power to your home (unless you live in one of the small pockets of the area where CoServ delivers the power).

Guest
Guest

Oncor maintains the transmission and distribution system. It does not have any generation capacity. Oncor "owns" the wires that the electricity retailers use to get their product to you, the consumer. The reason Oncor can make a profit is because they get paid transmission costs by ALL the retailers you see over on powertochoose. They aren't bogged down by any of those coal burning power plants the EPA is trying to put out of business.

primi timpano
primi timpano

 The problem is that most of those 90 companies are re-sellers of energy produced elsewhere.  Oncor actually produces power so a reduction in its power production will likely lead to higher rates.  Yes, in chapter 11 the company can continue to operate as it reorganizes.  The question will be at what stage will its coal fired plants be mothballed, or if not mothballed, converted to use both coal and natural gas.  This will get complicated because it will all take place in a room of debtholders, the PUC and ERCOT.

Don't know much about the ring fence but the smart money I know will not touch anything at the holding company and is placing its bets on the secured debt of the operating companies.

Just tried to scan the Energy Future, Texas Competitive, and TCEH Finance #4 Post Effective Registration Statement.  First, major kudos to Brantley for distilling an ocean of print sludge.  More importantly, this is going to be a restructuring on a scale of that of Lehman.  My major takeaways:  things will get worse fast, as as time goes on less of production is subject to cost savings NG hedges; I question the viability of future hedges, as well perhaps current ones, as there is no mark to market (meaning putting up cash when the hedge goes against you) because the counterparties have first liens supporting the hedges.  The problem being that the value of the liens are less than the notional of the hedge and I wonder if traders want to go through reorganization to get paid.  All hedges roll off in 2014 and debt begins maturing at that time, although violation of cash flow/debt covenants and other default provisions could accelerate maturities.

The stake in the heart is the coal and nuke generators, and it is being pounded by new EPA emission limitations.

Thank you, Brantley, Excellent work.  Iam sure more than a few hedge fund managers wouldn't mind talking their book.  It would be interesting to hear the stories of the secured, senior and subordinate holders.  Forget the equity, it is dead.

ScottsMerkin
ScottsMerkin

you assume they would keep operating, but even then yes your rates are going to rise and as more of these retailers lose their competitive advantages there rates will rise as well.  name me one thing that is cheaper to buy today at retail than it was 5 years ago

Branden Helms
Branden Helms

So the biggest retailer of electricity goes out of business and you see no repercussions on your price. Is your name referring to your posts?

Paul
Paul

I hate to start sounding repetitious; but, ...

And this comes to you as a surprise, because ... ?

This tactic is not unknown.  At one time the Southern Pacific corporation (now part of UP I believe) was 100% owner of the St. Louis and Southwestern Railway Company (aka Cotton Belt).  SP never folded the Cotton Belt into its structure because the Cotton Belt had a prime rating for both its bonds and commercial paper.  SP used the Cotton Belt to raise capital for improvements on its system.  One thing that the SP would do is have the Cotton Belt buy the locomotives and of course they would be labeled for the Cotton Belt, but you would be more likely to see them in California than in Texas or Arkansas.

What EFH is doing with Oncor is no different.  EFH is nothing more than a financial black hole and the only thing that will allows EFH to pay off all of the debt is $12/MCF natural gas, which ain't gonna happen in the foreseeable future.

The next implosion will be Chesapeake.  The announcement that Aubrey McClendon has been able to cherry pick well participation plus use them as collateral is probably just the tip of the iceberg.

Linkin-park640
Linkin-park640

Thanks to the Shale Gas Boom,the market is oversupplied with nat gas,when the PE goons cut out the deal the price of gas was $8 Per British Thermal Unit,last time I Checked it stood at 1.95/BTU,so the pain is being felt at EFH.

Anyway KKR now play at both sides when they bought out Samson Investment(along 3 other partners)one of the biggest private oil&gas exploration company of the country

Paul
Paul

 If you go out to the EIA website and dig around long enough, you will eventually uncover the average price paid for nat gas used in generating electricity.  In Dec 2011 this price was significantly above the HH price, meaning that gas burning electric generators were upside down on their gas costs.

What is even worse is that the reason KKR and TPG bought out TXU was that the majority of TXU's generating capacity is coal and nuclear.  IIRC correctly, TXU's average cost of generation was about $.03/kWHr.  With a spread to $0.15+/kWHr, no wonder they looked at it as a bonanza.

Trust me KKR and TPG will feel no pain when EFH collapses into the black hole of debt.  The pain will be felt by the bondholders (currently trading at around 25% of par, IIRC) and the consumers.

A few years ago everyone thought that Tom Hicks walked on water and was the greatest business genius since the Big Bang occurred.  Now he is reduced to haggling with Mark Cuban over the cost to park a car at the "It's A Bad Deal" AArena

Brantley Hargrove
Brantley Hargrove

 Agreed. Chesapeake is fascinating right now....

Paul
Paul

The main problem right now is according to the 2011 CHK balance sheet, they are worth more broken up than as an ongoing entity (Market Cap << Net Worth on Balance Sheet).

The question is how does these insider dealings with AM affect the balance sheet.

After all this was the big problem with Enron in that so much liability did not appear on the balance sheet that a true and accurate representation of the company's books could not be presented.

The loans to AM from a major CHK creditor is very worrisome.

primi timpano
primi timpano

 I agree.  I always wished the SEC required copies of actual reserve reports.  It wouldn't be the be-all-end-all but it would be much better than GAAP and SEC 10 numbers.  And in the case of CHK, with all of their shale gas, I would think a lot of leases would have to be written down, so maybe the balance sheet number is not far from reality.  With all the well run O&G companies out there I don't understand the investment community's fascination with CHK.  They spend too much, borrow too much, have low priced gas wells, and have an idiot for a CEO.

Paul
Paul

 There are six ways to skin a cat and about a dozen to value an O&G company.  The SEC requires a valuation of reserves according to AAPG guidelines for reserves estimates.

The other scary thing about CHK's balance sheet is that the net worth increased in 2011 despite a deep drop in commodity prices and asset sales that cannot be reasonably explained by reserves additions and deliverability, in my opinion.

Unless they are taking their undrilled Eagle Ford Shale position and moving it to the PDP category or at a minimum to the PUD category.

Still, any company has got to be in bad shape if the market does not recognize the stated net worth.

primi timpano
primi timpano

 Net Worth is not a very accurate measure.  Compare the asset value of the CHK leases to the discounted present value of the proved and probable reserves.  Even this may be a little low (it uses 12/31 pricing and not futures curves), but it is a better measure.  AM and CHK are a joke in the industry.

Downtown Resident
Downtown Resident

Won't Luminant be in better shape once the PUC ups the the price ceiling for generators from $3000 a megawatt hour to $4500 a mwh this summer (and then eventually $9000 a mwh over time)? Seems like Energy Future just needs to hold on for a few more months.

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