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SECURITIES AND EXCHANGE COMMISSION(Release No. 35-27780; 70-10100)Allegheny Energy, Inc., et al.Supplemental Order Granting Continuation of Modified Financing Conditions and Authority to Pay Dividends Out of Capital or Unearned Surplus; Reservation of JurisdictionDecember 22, 2003Allegheny Energy, Inc. ("Allegheny"), a registered holding company under the Public Utility Holding Company Act of 1935, as amended ("Act"), and Allegheny Energy Supply Company LLC ("AE Supply"), a registered holding company and public utility company subsidiary of Allegheny (collectively, "Applicants"), Hagerstown, Maryland, have filed with the Securities and Exchange Commission ("Commission") a post-effective amendment ("Amendment") to a previous application-declaration under sections 6(a), 7, 9, 10 and 12(c) of the Act and rules 46, 52 and 54 under the Act. The Commission issued a notice of the Amendment on November 14, 2003 (Holding Co. Act Release No. 27762). Applicants seek a continuation through April 30, 2004, of the relief granted by previous orders from the Commission's requirement that they maintain a common equity ratio of at least 30 percent. Applicants also seek a continuation through April 30, 2004, of certain other revised financing conditions authorized in earlier financing orders described below. In addition, Applicants seek continuation of authority for AE Supply to pay dividends out of capital and unearned surplus through April 30, 2004. By order dated December 31, 2001 (Holding Co. Act Release No. 27486) ("Original Financing Order"), Applicants received authorization to engage in a broad range of financing transactions through December 31, 2005. This order was supplemented by the following orders: Holding Co. Act Release No. 27521 (April 17, 2002) ("April Order"), Holding Co. Act Release No. 27579 (October 17, 2002) ("Supplemental Order", and together with the Original Financing Order and the April Order, "Financing Order"), Holding Co. Act Release No. 27652 (Feb. 21, 2003) ("Capitalization Order"), and Holding Co. Act Release No. 27701 (July 23, 2003) ("Trust Preferred Securities Order"). The Financing Order grants, among other things, the following authorizations to Allegheny and its subsidiaries: 1. Allegheny to issue up to $1 billion in equity securities at any time outstanding; 2. Allegheny and/or AE Supply,1 in the aggregate, to issue and sell to non-associated third parties up to $4 billion in short-term debt at any time outstanding and up to $4 billion in unsecured long-term debt at any time outstanding, provided that total debt and equity authority under (1) and (2) shall not exceed $4 billion at any time outstanding;2 3. Allegheny and/or its subsidiaries to enter into guarantees, obtain letters of credit, extend credit, enter into guarantee-type expense agreements or otherwise provide credit support with respect to the obligations of an associate company (collectively, "Guarantees"), in the aggregate amount not to exceed $3 billion any time outstanding; 4. Allegheny to exceed the rule 53 aggregate investment limitation and to utilize a portion of the proceeds of the equity issuances, short-term debt, long-term debt and Guarantees in any combination to increase its "aggregate investment" (as defined in rule 53(a)) up to $2 billion in exempt wholesale generators ("EWGs") and foreign utility companies ("FUCOs") under the Act; 5. Allegheny and certain other subsidiaries3 ("Other Subsidiaries") to form one or more direct or indirect special purpose financing subsidiaries that will, among other things, issue debt and/or equity securities and loan the proceeds to Allegheny, AE Supply, and the Other Subsidiaries; and 6. Allegheny, AE Supply and the Other Subsidiaries, whether now existing or created later or acquired, to engage in intra-system financings up to $4 billion.4 The Financing Order established a number of financing parameters that are conditions to the financing transactions authorized in that order. These include a requirement that Allegheny maintain, on a consolidated basis, common equity of 30 percent of total capitalization and that AE Supply individually maintain common equity of 30 percent of total capitalization. In the Capitalization Order, the Commission modified the financing parameters as follows ("Revised Financing Conditions"): 1. The common equity of Allegheny, on a consolidated basis, will not fall below 28 percent of its total capitalization; and the common equity of AE Supply, on a consolidated basis, will not fall below 20 percent of its total capitalization; 2. The effective cost of capital on any security issued by Allegheny or AE Supply will not exceed competitive market rates available at the time of issuance for securities having the same or reasonably similar terms and conditions issued by similar companies of reasonably comparable credit quality; provided that in no event will (a) the interest rate on any debt securities issued under a bank credit facility exceed the greater of (i) 900 basis points over the comparable term London Interbank Offered Rate ("LIBOR")5 or (ii) the sum of 9 percent plus the prime rate as announced by a nationally recognized money center bank, and (b) the interest rate on any debt securities issued to any other financial investor exceed the sum of 12 percent plus the prime rate as announced by a nationally recognized money center bank; 3. The underwriting fees, commissions and other similar remuneration paid in connection with the non-competitive issuance of any security issued by Allegheny or AE Supply will not exceed the greater of (a) five percent of the principal or total amount of the securities being issued or (b) issuance expenses that are paid at the time in respect of the issuance of securities having the same or reasonably similar terms and conditions issued by similar companies of reasonably comparable credit quality; 4. The respective financing transactions will not be subject to the requirement to maintain either unsecured long-term debt or any commercial paper that may be issued at investment grade level; 5. The Applicants may issue short-term and/or long-term debt under circumstances when the debt, upon issuance is either unrated or is rated below investment grade. Applicants committed in their application seeking the Capitalization Order that at any time Allegheny's ratio of common equity to total capitalization is not at least 30 percent, neither Allegheny nor any of its subsidiaries will invest or commit to invest any funds in any new projects which qualify as EWGs or FUCOs under the Act; provided, however, that Allegheny may increase its investment in EWGs as a result of the qualification of existing projects as EWGs, and Allegheny may make additional investments in an existing EWG to the extent necessary to complete any project or desirable to preserve or enhance the value of Allegheny's investment in the EWG.6 Allegheny requested the Commission to reserve jurisdiction over any additional investment by Allegheny and its subsidiaries in EWGs and FUCOs during the period that Allegheny's common equity ratio is below 30 percent. Applicants also committed that at any time Allegheny's ratio of common equity to total capitalization is not at least 30 percent, neither Allegheny nor any of its subsidiaries will invest or commit to invest any funds in any new energy-related company within the meaning of rule 58 under the Act ("Rule 58 Company"); provided, however, that Allegheny may increase its investment in an existing Rule 58 Company to the extent necessary to complete any project or desirable to preserve or enhance the value of Allegheny's investment in the company. The commitment also stipulated that Allegheny and/or AE Supply may invest in one or more new Rule 58 Companies which may be created in connection with the restructuring and/or reorganization of the existing energy trading business of AE Supply and its subsidiaries. Allegheny requested that the Commission reserve jurisdiction over any additional investment by Allegheny and its subsidiaries in Rule 58 Companies during the period that Allegheny's common equity ratio is below 30 percent. The Capitalization Order also reserved jurisdiction over (i) the financing authorizations at a time that the common equity ratio levels of Allegheny and AE Supply were below 28 percent and 20 percent, respectively, and (ii) the issuance of debt securities at an interest rate in excess of the modified interest rates. In the Trust Preferred Securities Order, the Commission granted the Applicants' request to release jurisdiction over the issuance by Allegheny of up to $325 million of convertible trust preferred securities. In addition, the Capitalization Order authorized AE Supply to pay dividends out of capital and unearned surplus up to $500 million through December 31, 2003, in order to provide Allegheny with necessary liquidity. The Capitalization Order required the Applicants to file an application with the Commission if they wish to seek relief from the 30 percent common equity requirement after December 31, 2003 and to extend the Revised Financing Conditions. The Applicants seek that relief and extension through April 30, 2004, of the Revised Financing Conditions, including the 28 and 20 percent common equity requirements applicable to Allegheny and AE Supply, respectively. The Applicants also request that the Commission reserve jurisdiction over the extension of the Revised Financing Conditions through December 31, 2004, pending completion of the record. The Capitalization Order authorized AE Supply to pay dividends of up to $500 million out of capital and unearned surplus through the period ending December 31, 2003.7 The Applicants now seek a continuation of the authority through April 30, 2004, in an amount up to $275 million under the conditions specified below.8 The dividend authority requested would permit Allegheny and AE Supply to comply with the requirements of lenders to share with their lenders the proceeds of debt and equity issuances, pro rata based upon the loan principal amounts outstanding at the two companies. This authority will permit AE Supply to make the dividend payments necessary to result in a full repayment of the principal amount, expected to be approximately $275 million at the end of 2003, of bank borrowings expected to exist at the Allegheny level in the event of refinancing of AE Supply's debt, and partial payments as necessary upon other issuances of indebtedness by AE Supply. The authority will also permit AE Supply to dividend to Allegheny the proceeds of asset sales, which Allegheny would use to pay down existing debt. Any dividend payment made by AE Supply to Allegheny will be used solely to pay down debt of Allegheny. Allegheny commits that none of these dividends will be used by Allegheny to pay dividends to its stockholders. As of June 30, 2003, AE Supply had retained earnings of approximately negative $1.1 billion. To the extent that AE Supply is required under generally accepted accounting principles to record any writedowns, impairment charges or other adjustments, AE Supply's retained earnings would be further reduced. Applicants propose that the declaration and payment of the proposed dividends would be charged in whole or in part to capital and/or unearned surplus. Allegheny and AE Supply represent that AE Supply will not declare or pay any dividend out of capital or unearned surplus in contravention of any law restricting the payment of dividends. In addition, AE Supply will comply with the terms of any credit agreements and indentures that restrict the amount and timing of distributions by AE Supply to its members. According to the Applicants, AE Supply, formed in November 1999, has not had a lot of time to accumulate retained earnings. Allegheny has made a number of capital contributions (in cash and/or assets) over the years that AE Supply has been in existence. The paid-in capital component of Allegheny's membership interest in AE Supply as of June 30, 2003 was approximately $1.6 billion. Allegheny contributed approximately $270 million of cash capital to AE Supply in 2001. AE Supply paid no dividends in 2001. In 2002, Allegheny contributed an additional $1.9 million of cash capital and contributed approximately $193 million through the forgiveness of an intercompany loan. AE Supply declared a dividend of $100 million as of August 31, 2002. According to the Applicants, AE Supply's estimate of the fair value of the assets of AE Supply significantly exceeds their book value. Applicants state that the payment of these dividends is an integral part of an overall bank financing plan under which significant additional credit has been made available to AE Supply with the understanding that a portion of the proceeds from any new debt issuances by AE Supply will be utilized to repay amounts owing at Allegheny. According to the Applicants, the requested authority will benefit Allegheny and the Operating Companies by permitting the reduction of debt at Allegheny which would otherwise have to be serviced with dividends from the Operating Companies and whatever excess cash flow, if any, as would be permitted by the AE Supply banks to be dividended to Allegheny. The proposed return of capital is appropriate and necessary under the circumstances, according to the Applicants. Applicants state that they continue to make significant progress toward the resolution of their financial difficulties. Although AE Supply has experienced tightened liquidity and weak financial performance, Applicants have taken a number of steps to reduce expenses, raise cash and refocus the business of AE Supply. The underlying businesses of AE Supply are fundamentally sound. Applicants project that AE Supply will return to a positive cash flow from operations in 2004. Applicants believe that the strength of the underlying assets of AE Supply will provide improved financial performance in the future. On July 25, 2003, Allegheny completed its private placement of $300 million of convertible trust preferred securities, as authorized by the Trust Preferred Securities Order. On July 28, 2003, AE Supply announced that its subsidiary, Allegheny Trading Finance Company ("ATF") had entered into an agreement to sell its energy supply contract with the California Department of Water Resources ("CDWR Contract") and associated hedge transactions (collectively, "West Book") to J. Aron & Company ("Aron"), a division of The Goldman Sachs Group, for $405 million, subject to adjustments for market price changes and hedge transactions not transferred. On September 15, 2003, AE Supply and ATF announced that they completed the sale of the West Book to Aron for $354 million. Much of the adjustment from the estimated sale price, previously announced on July 28, 2003, is attributable to contracts with one counterparty, valued at $38.6 million, which were removed from the sale by mutual agreement of the parties. Changes in the mark-to-market value of the remaining contracts at closing and reduction in the number of remaining trades assumed by Aron, account for the rest of the adjustment. The proceeds from the sale were applied, in large part, to finance the termination of tolling agreements with Williams Companies, Inc. and Las Vegas Cogeneration II and certain related hedging arrangements. In addition, Allegheny will have deposited, after certain escrow funds are released and according to an authorization by certain of its creditors, the remainder of the proceeds (estimated to be approximately $75 million) in a cash collateral account for the benefit of certain of its lenders.9 Sale of the West Book was described in the Trust Preferred Securities Application as, along with the sale of the securities authorized by the Trust Preferred Securities Order, one of the major components of Allegheny's plan to return to financial health. In addition, AE Supply and its subsidiaries Allegheny Energy Supply Conemaugh, LLC, Allegheny Energy Supply Hunlock Creek, LLC, and Allegheny Energy Supply Development Services, LLC have entered into asset sales agreements, which also are an important part of this plan. Applicants agree to file a report with the Commission within two business days after the occurrence of any of the following: A. Any further downgrade by a nationally recognized statistical rating organization of the debt securities of any of Allegheny, AE Supply or any of the Operating Subsidiaries; and B. Any event that would have a material adverse effect on the ability of Allegheny or AE Supply to comply with any conditions or requirements of an order of the Commission in this proceeding or that Allegheny otherwise determines would be of material interest to the Commission. The report shall describe all material circumstances giving rise to the event. Allegheny will file a Rule 24 certificate of notification within 15 days after March 31, 2004, which will contain the following information: 1. A table showing, as of the end of each calendar month in the reporting period, the dollar and percentage components of the capital structures of Allegheny and AE Supply; and 2. Updated financial projections for Allegheny and AE Supply, including statement of assumptions underlying the financial projections. Allegheny will file Rule 24 certificates of notification within 5 days of the event, which will contain the following information: 1. The amount and timing of any and all dividends declared and/or paid by AE Supply to Allegheny and calculations showing the effect of the dividend on the paid-in capital account of AE Supply; and 2. A description of the use by Allegheny of any funds received as a dividend from AE Supply. Rule 54 promulgated under the Act states that in determining whether to approve the issue or sale of a security by a registered holding company for purposes other than the acquisition of an EWG or a FUCO, or other transactions by a registered holding company or its subsidiaries other than with respect to EWGs or FUCOs, the Commission shall not consider the effect of the capitalization or earnings of any subsidiary which is an EWG or a FUCO upon the registered holding company system if rules 53(a), (b) or (c) are satisfied. Allegheny does not satisfy the requirements of rule 53(a)(1). In the Original Financing Order, the Commission authorized Allegheny to invest up to $2 billion in EWGs and FUCOs and found that such an investment would not have either of the adverse effects set forth in rule 53(c). As of June 30, 2003, Allegheny's "aggregate investment," as defined in rule 53(a)(l), was approximately $553 million. These investments by Allegheny were made in compliance with the Original Financing Order. As discussed above, Allegheny is no longer in compliance with the Financing Conditions set forth in the Original Financing Order. In the Capitalization Order, Allegheny was authorized to make additional investments in EWGs to the extent necessary to complete any project or desirable to preserve or enhance the value of Allegheny's investment or in connection with the qualification of an existing project as an EWG, as long as the Revised Financing Conditions were met. However, as reflected in Allegheny's audited financial statements, as of June 30, 2003, Allegheny's common equity ratio was below 28 percent. As a result, Allegheny is no longer able to make any investments in EWGs and FUCOs, without further authorization from the Commission. Allegheny currently complies with, and will comply with, the record keeping requirements of rule 53(a)(2), the limitation under rule 53(a)(3) on the use of the Allegheny system's domestic public utility company personnel to render services to EWGs and FUCOs, and the requirements of rule 53(a)(4) concerning the submission of copies of certain filings under the Act to retail regulatory commissions. None of the circumstances described in rule 53(b)(1) have occurred. The circumstances described in rule 53(b)(2) and rule 53(b)(3) have occurred. Allegheny respectfully submits that the requirements of rule 53(c) are met. Allegheny requests Commission approval of certain financing transactions and believes that the requested authorization will not have a substantial adverse impact upon the financial integrity of Allegheny or the Operating Companies. The proposed transaction will provide the Allegheny system, including AE Supply, with sufficient liquidity to meet its immediate financial needs, including required debt amortization, according to the Applicants. The Operating Companies and their customers will not be adversely impacted by the requested relief. The ratio of common equity to total capitalization of each of the Operating Companies will continue to be maintained at not less than 30 percent.10 Furthermore, the common equity ratios of the Operating Companies will not be affected by the proposed transactions. No state or federal commission other than the Commission has jurisdiction with respect to any of the proposed transactions described in this Amendment. The fees, commissions and expenses incurred in connection with this filing will be approximately $25,000. Due notice of the filing of this Amendment has been given in the manner prescribed in 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 those matters over which jurisdiction has been reserved, the applicable standards of the Act and rules are satisfied and that no adverse findings are necessary. IT IS ORDERED, under the applicable provisions of the Act and the rules under the Act, that, except as to those matters over which jurisdiction has been reserved, the Amendment, as amended, be granted and permitted to become effective immediately, subject to the terms and conditions prescribed in rule 24 under the Act. IT IS FURTHER ORDERED, that jurisdiction is reserved, pending completion of the record over (1) extension of the Revised Financing Conditions through December 31, 2004, and (2) a common stock equity ratio level to be maintained as a condition to the financing authorizations for Allegheny and AE Supply below 28% and 20%, respectively. For the Commission, by the Division of Investment Management, pursuant to delegated authority. Jill M. Peterson Endnotes:
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