Warning from S&P on Heavy Reliance on Natural Gas.

If you are an electric utility that relies heavily on natural gas, one of the greatest threats to your credit quality is the potential for volatility in the price of that fuel, an executive with Standard & Poor’s told the APPA Business & Financial Conference. Other threats to utilities’ credit ratings are new regulations on fossil-fuel-burning power plants and the depressed economy, which has sapped utilities’ willingness to raise rates, he said.

The price of natural gas has fluctuated dramatically over the last few years, from a high of $13/mmBtu in 2008 to below $2 lately, said Jeffrey Panger, a director with Standard & Poor’s. He spoke on a panel of experts from S&P, Moody’s Investors Service and Fitch Ratings.

“Where will it go next?” he asked. Gas prices are projected to remain below $5 at least through 2015, Panger said, but “we believe the current low cost of natural gas is not sustainable over the longer term.”

Utilities generally are finding it cheaper these days to buy power from others than to build generation, he said. A growing share of the electricity available for sale in the open market is produced by burning natural gas, and when utilities do decide to build, their choice is usually a combined-cycle natural gas-fired plant, he said. All this adds up to a heavy reliance on gas.

When meeting with a credit analyst, any utility that relies on natural gas should be ready to discuss its fuel procurement strategies and hedging options, exposure to fuel cost volatility, and its risk management policies, Panger said.

“It used to be that keeping prices low and keeping the power on was what running a public power utility was all about,” he said. Today, long-range planning is complicated by environmental regulations, the risk of rising natural gas prices and the weak economy.

Utilities face the potential for a “triple whammy,” Panger said:  higher gas prices, high purchased power costs and higher regulatory costs.

Coal “on the run”
Coal-fired generation “is on the run” from more than 12 initiatives issued by the Environmental Protection Agency, he said. Among the rules that Standard & Poor’s considers especially important for utilities are the Mercury and Air Toxics Standards, the New Source Performance Standards and the Clean Air Interstate Rule.

The NSPS rule “pretty much kills coal-fired generation,” while the MATS rule is expected to result in an increase in electricity rates, he said.

The weak U.S. economy has reduced demand, so when utilities meet with credit analysts, they should be ready to discuss the outlook for demand and power supply and the implications for financial metrics and rates, Panger said.

A utility that has a large carbon footprint should be ready to discuss any assets that are subject to regulation, he said. It should also be prepared to talk in detail about compliance options and costs, the implications for power supply, financial metrics and debt ratios, he said.

So far, the new regulations and other recent developments have had a minimal credit impact, Panger said: 95% of public power utilities’ ratings have stable outlooks. Utilities have several years to comply with new environmental regulations, and “lower gas prices have cushioned the immediate impact of increasing environmental costs,” he said.

But additional regulations “will come down the pike, no matter who wins the [presidential] election,” Panger said. And regulations can be expected to extend beyond coal, he said, noting that the Sierra Club considers natural gas to be a dirty fuel.

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