Holding Company Act Release 27588
SECURITIES AND EXCHANGE COMMISSION
(Release No. 35-27588; 70-9899 and 70-9947)
Conectiv, et al.
Order Authorizing the Issuance of Transition Bonds and Related Transactions; Releasing and Reserving Jurisdiction
October 28, 2002
Conectiv, a registered holding company, PHI Service Company ("PHI Service") (formerly Conectiv Resource Partners, Inc.), the service company for the Pepco Holdings System, Atlantic City Electric Company ("ACE"), a public utility subsidiary of Conectiv and Atlantic City Electric Transition Funding LLC ("Special Purpose Issuer"), all located in Wilmington, Delaware (collectively, "Applicants") have filed an application-declaration, as amended ("Application"), under sections 6(a), 7, 9(a), 10, 12(b), 12(d), 12(f), 12(g) and 13(b) of the Act and rules 42, 43, 45, 90, 91 and 54 under the Act. The Securities and Exchange Commission ("Commission") issued a notice of the filing of the Application in this matter on October 26, 2001 (Holding Co. Act Release No. 27458).
On February 9, 2001, Conectiv and Potomac Electric Power Company, known as PEPCO, entered into an agreement and plan of merger. The agreement and plan of merger contemplated the formation of a new holding company that would own all of the stock of Conectiv and PEPCO ("Merger"). The Commission approved the Merger in an order issued on July 24, 2002 (Holding Co. Act Release No. 27553) ("Merger Order"). The Merger was consummated on August 1, 2002, with the formation of Pepco Holdings, Inc. ("PHI") as the new registered holding company under the Act. Subsequent to the merger, Conectiv remains the parent of ACE.
The proposals set forth in the Application relate to recovery of stranded costs resulting from the restructuring of the electric utility industry by the State of New Jersey. As of December 31, 2001, ACE served approximately 509,000 customers in its service territory, covering an area of about 2,700 square miles in the southern one-third of New Jersey. ACE's customer base consists primarily of residential and commercial customers. ACE reported net income after extraordinary items of $75.5 million on revenue of $1.041 billion for the year ended December 31, 2001.
The New Jersey Electric Discount and Energy Competition Act (the "Competition Act"), was signed into law in February 1999. The Competition Act provides, among other things, for the restructuring of the electric utility industry in New Jersey. The Competition Act requires the unbundling of electric services into separate generation, transmission and distribution services with open retail competition for generation services. The Competition Act provides for utilities to recover the anticipated loss in value of their generation-related assets and the costs incurred under power purchase contracts with nonutility generators of electricity that are not recoverable under market rates. The Competition Act also provides for the recovery of these stranded costs through a non-bypassable charge included in customers' bills ("Market Transition Charge")
The Competition Act authorizes a utility to securitize its right to recover stranded costs through the issuance of asset-backed debt securities ("Transition Bonds") by the electric public utility or other financing entity approved by the New Jersey Board of Public Utilities ("BPU"). To the extent a utility's right to recover stranded costs is securitized, a portion of the Market Transition Charge is replaced by a non-bypassable irrevocable charge included in customers' electric bills ("Transition Bond Charge"), which is designed to meet the costs of paying the principal of and interest on the Transition Bonds and the costs associated with the issuance, credit enhancing, and servicing of the Transition Bonds. The Competition Act also authorizes the recovery of a related Market Transition Charge tax component (the "MTC Tax"). The right to charge, collect, and receive the Transition Bond Charge, as well as the MTC Tax, constitute "Bondable Transition Property." In order to facilitate the issuance of Transition Bonds, ACE formed the Special Purpose Issuer March 28, 2001, under a limited liability company agreement with ACE as its sole member, and acquired its securities under authority granted through prior Commission orders.
The Competition Act authorizes the BPU to issue a "bondable stranded costs rate order," such as a BPU financing order, approving, among other things, the issuance of Transition Bonds to recover bondable stranded costs and related expenses of a public electric utility. A utility, a finance subsidiary of a utility, or a third-party assignee of a utility may issue Transition Bonds.
On June 25, 2001, ACE filed a petition with the BPU, which was supplemented on August 19, 2002, requesting issuance by the BPU of a bondable stranded costs rate order under the Competition Act to allow ACE to monetize its bondable stranded costs, plus associated transaction costs and the cost of retiring its debt or equity or both. The final structure, pricing and other terms of the Transition Bonds is subject to the approval of the BPU or its designee. On September 20, 2002, the BPU issued an order authorizing the issuance of $440 million of Transition Bonds.
By order dated February 26, 1998 (Holding Co. Act Release No. 26833) and by various supplemental orders1 (the "Prior Orders"), the Commission authorized Conectiv and its subsidiaries to engage in various financial transactions. Applicants now request authority, to the extent not already authorized in the Prior Orders, through May 31, 2006 ("Authorization Period"), for: (1) ACE to sell, pledge or assign Bondable Transition Property to the Special Purpose Issuer from time to time in exchange for the net proceeds from the sale of a series of Transition Bonds; (2) the Special Purpose Issuer to issue and sell Transition Bonds from time to time, in accordance with an underwriting agreement, in an aggregate principal amount up to $1.7 billion as authorized and approved by the BPU;2 (3) the Special Purpose Issuer to enter into interest rate swaps, interest rate hedging programs, and credit enhancement arrangements to reduce interest rate and credit risks with respect to, and to facilitate the issuance of, Transition Bonds; (4) ACE to act as the servicer of the Bondable Transition Property and enter into a servicing agreement under which ACE or an affiliate will perform services for the Special Purpose Issuer and receive compensation determined on a market rate basis;3 (5) ACE, PHI Service or any successor entity, or another affiliate to act as the administrator for the Special Purpose Issuer and enter into the administration agreement and receive compensation which will be equal to a market rate fee;4 (6) the Special Purpose Issuer to use the proceeds from the Transition Bonds to pay the expenses of issuance and to purchase the Bondable Transition Property from ACE;5 (7)(a) ACE to enter into the indemnity provisions of the sale agreement through which it may indemnify the Special Purpose Issuer and related parties pursuant to the terms of the sale agreement; (b) ACE, as servicer, to enter into the indemnity provisions of the servicing agreement through which it may indemnify the Special Purpose Issuer and related parties pursuant to the terms of the servicing agreement; (c) ACE, PHI Service Company, or any successor entity or another affiliate, as administrator, to enter into the indemnity provisions of the administration agreement through which it may indemnify the Special Purpose Issuer pursuant to the terms of the administration agreement; and (d) the Special Purpose Issuer to enter into the indemnity provisions of its limited liability company agreement through which it may indemnify ACE and other parties pursuant to the limited liability company agreement; and (8) ACE to make capital contributions to the Special Purpose Issuer and receive interest and other investment earnings.
Conectiv states, for purposes of rule 54, that it is in compliance with all requirements of rule 53(a), except clause (1). By order dated August 17, 2000 (Holding Co. Act Release No. 27213) ("EWG Order"), the Commission authorized Conectiv to invest up to $350 million in Exempt Wholesale Generators ("EWGs"), as defined in section 32 of the Act. Subsequently, by order dated July 31, 2002 (Holding Co. Act Release No. 27557) (the "PHI Financing Order"), the Commission authorized PHI to invest up to 100% of its retained earnings plus $3.5 billion in EWGs and foreign utility companies ("FUCOs"). The PHI Financing Order consolidated the authority granted in the Conectiv EWG Order. At June 30, 2002, Conectiv's aggregate investment in EWGs was $318.6 million. As of June 30, 2002, Conectiv had retained earnings of $230.2 million.
Although Conectiv's aggregate investment exceeds the 50% "safe harbor" limitation contained in rule 53, Conectiv's aggregate investment is below the $350 million limit authorized in the EWG Order. Moreover, Applicants state that PHI is operating within the limits of the PHI Financing Order and that in the application authorized by the PHI Financing Order (the "PHI Financing Application"), PHI pledged to comply with the record keeping, employee and service requirements of rule 53(a)(2)-(4) and that PHI is currently in compliance. Finally, none of the circumstances described in rule 53(b) has occurred or is continuing.
Applicants maintain that Conectiv's investments in EWGs have not negatively affected Conectiv's financial health. Conectiv's consolidated retained earnings grew from $178.5 million on June 30, 2001, to $230.2 million on June 30, 2002. Conectiv and ACE both have current investment grade unsecured debt ratings from Moody's and Standard & Poors. As of the date of this Application, neither Conectiv, ACE nor any associated companies is on credit watch.
In the application authorized by the Conectiv EWG Order, Conectiv stated that its common equity ratio as of December 31, 1999, was 26.3%. As of June 30, 2002, Conectiv's consolidated capitalization consisted of approximately 29.3% common equity. ACE's common equity ratio as of June 30, 2002 was 36.7%. Applicants anticipate that the issuance of $440 million of transition bonds would reduce ACE's common equity ratio to approximately 28%. Applicants further anticipate that the retirement of debt and equity with the proceeds of the transition bonds and projected earnings will cause ACE's common equity ratio to exceed 30% by December 31, 2005. In the PHI Financing Application, the Commission reserved jurisdiction over the question of ACE's common equity ratio and directed that the appropriate common equity ratio parameters for ACE be established upon completion of the record in this proceeding.6 Further, as of the time of the Merger, Conectiv and ACE's unsecured credit ratings were rated investment grade by Moody's and Standard & Poors rating agencies. In light of these circumstances, ACE requests authorization to maintain a common equity ratio not lower than 28% through December 31, 2005.
Fees and expenses to be incurred in connection with the proposed transaction are estimated to be $9,000,000. Applicants maintain that no other state or federal commission, other than this Commission and the BPU, has jurisdiction over the proposed transactions.
Due notice of the filing of the Application has been given in the manner prescribed by rule 23 under the Act, and no hearing has been requested of or ordered by the Commission. Based on the facts in the record, the Commission finds that, except as to the matter over which jurisdiction has been reserved, the applicable standards of the Act are satisfied and that no adverse findings are necessary.
IT IS ORDERED, that jurisdiction is released over the reduction of ACE's common equity ratio to 28%; and IT IS FURTHER ORDERED, under the applicable provisions of the Act and rules under the Act, that, except as to those matters over which jurisdiction has been reserved, the Application be granted and permitted to become effective immediately, subject to the terms and conditions prescribed in rule 24 under the Act; and IT IS FURTHER ORDERED that jurisdiction is reserved over the issuance of the remaining $1.26 billion of Transition Bonds, and any corresponding effect on ACE's common equity ratio, pending action of the BPU authorizing additional Transition Bond issuances and completion of the record.
For the Commission, by the Division of Investment Management, pursuant delegated authority.
Margaret H. McFarland
1 Conectiv, Holding Co. Act Release No. 26907 (August 21, 1998); Conectiv, Holding Co. Act Release No. 26921 (Sept. 28, 1998); Conectiv, Holding Co. Act Release No. 26930 (Oct. 21, 1998); Conectiv, et al., Holding Co. Act Release No. 27111 (Dec. 14, 1999); Conectiv, et al., Holding Co. Act Release No. 27213 (Aug. 17, 2000); Conectiv, et al., Holding Co. Act Release No. 27415 (June 7, 2001); Holding Co. Act Release No. 27507 (Mar. 22, 2002); and Conectiv, Inc., et al. Holding Co. Act Release No. 27523, (Apr. 22, 2002). Such orders have been consolidated with the order of the Commission dated July 31, 2002 (Holding Co. Act Release No. 27557) authorizing the ongoing financing activities of Pepco Holdings, Inc. and its subsidiaries.
2 Applicants request that the Commission authorize the issuance of up to $440 million of Transition Bonds at this time and reserve jurisdiction over the issuance of the remaining $1.26 billion of Transition Bonds pending completion of the record.
3 Accordingly, Applicants request an exemption from "at cost" standards of section 13(b) with respect to this request. See Central and South West Corporation, Holding Co. Act Release No. 27168 (April 20, 2000); Connecticut Light and Power Company, Holding Co. Act Release No. 27319 (Dec. 26, 2000) supplemented by Holding Co. Act Release No. 27364 (March 23, 2001).
4 Again, Applicants request an exemption from "at cost" standards of section 13(b) with respect to this request. Id.
5 ACE will use these proceeds to reduce its stranded costs through the buydown or buyout of long-term power purchase contracts with non-utility generators and through the retirement of its debt or equity or both, including the retirement of debt related to specific transactions completed prior to the issuance of the Transition Bonds for the buydown or buyout of long-term power purchase contracts with nonutility generators.
6 Pepco Holdings, Inc., Holding Co. Act Release No. 27557 (July 31, 2002).