- What is currently being done to improve/strengthen the stressed power and utilities infrastructure?
- Impact of droughts and access to water in Texas: How are affected parts of the state addressing this concern?
Rich Saskal (
Good morning everybody. Welcome to our Resiliency planning panel. My name's Rich Saskal. I'm Managing Editor at Bond Buyer. And let me introduce briefly the panelist starting to my left. George Peyton is a board member of the Texas Water Development Board. Kathy Masterson is a Senior Director at Fitch Ratings and Public Power Sector Head in the Public Finance department there. Salvador Lopez is Chief Environmental Officer of the North American Development Bank, and Paul Dyson is a Director and Lead Analyst in S&P Global Ratings Public Finance group covering public power and electric co-ops begin with a state of play. Actually, I flew in on a clear day and I got to look at some of the reservoirs to the northwest of Texas, which reminded that I'm asking for kind of a 30,000 foot view of the water supply situation in Texas as you deal with drought and very fast population growth.
George Peyton (
Yeah, no thanks. Good morning everyone. Again, my name's George Peyton. I'm a Director at the Texas Water Development Board. For those of you who don't know, the Texas Water Development Board is the state agency tasked with the science planning and financing for water supplies and water infrastructure throughout the state of Texas. So yeah, as Rich mentioned, there's a lot of reservoirs in Texas and hopefully the rain that we've gotten has filled some of those up. But from a high level overview, I'll give you guys kind of a brief overview of Texas and the water supply situation there. When I think of the main issues facing Texas from a water perspective, I think about supplies for the future. I think about an aging infrastructure, pipes and equipment that is approaching 60 plus years old needs to be replaced over time. And then I also think about flood and flood resiliency and mitigation. As the saying goes, all droughts end in floods, so it's problematic. But from a growth perspective, you're right, rich, the population of Texas is growing a lot. Population's projected to go from about 30 million people where we are today to over 50 million people by the year 2070. And while that sounds like a long time, that is, that's roughly 1,200 people per day added to our state's population. About half of that is native born Texans. And about the other half is folks moving to Texas from out of state. And while those people bring their talents and they bring their abilities and their capital, they don't bring water. So how are we as a state going to address water? I'm mainly going to focus on water supplies here. Municipal water demand from now to 2070 will grow by over 60% easily to about demands being roughly 19 million acre-feet per year of water. If we do nothing, our water supplies will decline during that same time by about 18% to about 14 million acre feet of water per year. So you can see the problem we're going to have if we don't address this properly over the next 50 years, we'll have demands at 19 million acre feet a year, we'll have supplies at 14 million acre feet a year. So there's a gap there. You don't have to be an expert in bond finance to understand that there's a gap there. And it gets even worse in a drought if we were to have a severe drought like one we had in the 1950s. Because what happens then, not only do you have less rain and less riverine flow filling up your reservoirs, but you also have a bigger pull on those resources, right? Because people still need that water for industrial purposes, for residential and municipal purposes. So that 5 million acre-foot gap actually grows to about 7 million acre feet a year if we were to have a severe drought. And we all like numbers here. So what, let's quantify that from a dollar perspective, comptroller's office and our group internally has estimated those economic damages to be somewhere around 150, 160 billion per year if we were to have spear drought in the year 2070. So massive economic damages if we do nothing and that's per year for reference, the entire state budget of Texas for this year is about 140 billion. So we're talking about economic damages from a water shortage if we do nothing in excess of the entire state budget. So from now we have solutions. That's all sounds very dire. We have solutions, we have programs in place. I'm very confident that we as Texans will get to where we need to be and I'm happy to address those later. All right. We may have been a little bit more long-winded.
Rich Saskal (
All right, I'll turn to Salvador next. Can you talk a little bit about the North American Development Bank and kind of water challenges that are particular to the Rio Grande Valley and border regions?
Salvador Lopez (
Yes, Thank you. So just as wave introduction, the NAD bank is a by National Development Bank. It was created by the governments of the US and Mexico back in 1994. This was a time where the NAFTA, the free trade agreement was being negotiated. There was a little concern that population and economic pressures on the border region would create a demand for infrastructure. And thus we were created with a very specific mandate, which is to finance environmental infrastructure along the US Mexico border. We were capitalized by both countries. We, from time to time, go to the markets to issue debt, to help us finance our operations. We have good creative ratings from our friends. And it's interesting that the last few times we've gone to the markets, we've actually done it as a green bond labeled for green investments. Historically, we focused a lot on water, the whole cycle of water. In the last 12, 15 years, we spent quite a bit of our resources on renewable energies on both sides of the border, mostly wind and solar, and lately transitioning to things such as battery storage and so forth. But in general, we're also moving from a mode in which we were trying to address legacy problems towards assisting the community's transition to a green air economy in general. So we look at urban issues, buildings, and so forth. In the case of water, going to the question specifically, I think George already covered, he stole my thunder in a lot of these things. But I mean, we are grateful. I think, and again, I'm going to speak mostly from the perspective of the border region, which has its own characteristics. Aging infrastructure is definitely a big issue. We see a lot of demand for our services for replacing aging, sewers, water distribution, treatment plants, and the like. We also see pockets of unserved or underserved communities on the border region areas name as colonials that you'd be surprised to know sometimes the conditions they are in terms of water supply, relying on sometimes hauling in water, in trucks, septic tanks that may be not up to standard. So we spent a little bit of our time on that as well. And then of course, what George was alluded to is probably perhaps the biggest problem, it's how we're going to meet the demands in the future. He already mentioned some of those numbers. I will now repeat. It was interesting to me to see that a lot of the increase in the demand would actually be at the municipal level, about 60% if I recall correctly, whereas resources are decreasing. So we also have some solutions that we can talk about in a little bit more what we do to help our customers. We do not do a whole lot of agriculture or conservation in agriculture. We've done a couple of projects in Texas and also in the city of Chihuahua, which has one of the major tributaries to the Rio Grande in terms of water conservation for agriculture. I think that is something that we all as a society need to continue working on us about 80% of the waters being used in agriculture. So let me, I'll just step there for an hour check.
Rich Saskal (
Okay, Those of us who are here yesterday for the comptroller's speech, remember that one of the multiple once in a lifetime events he referred to was Winter storm uri, which basically turned the lights out for much of the state. Start with Paul. What were the credit impacts for ERCOT utilities in Texas as a result of that storm? And what have these utilities done since the storm to shore up their credit quality? And can we talk in general about before and after of the credit quality of Texas utilities after that storm?
Paul Dyson (
Sure. Thanks Rich. So S&P global currently rates 27 public power and electric cooperative utilities in the state of Texas within ERCOT. And during, as a result of the storm two years ago, there were 13 downgrades related to the storm. And that was basically because of unbudgeted power and gas costs. The downgrades were mostly one notch, but there were a few that were multi notch downgrades. So that was almost half of the universe that in Texas that we rate that was impacted by the storm. And that does not even include 11 additional ratings that were affirmed, but we placed them on a negative outlook as we did further evaluations. So prior to the storm, our median rating within ERCOT was a plus. And then now as a result of the downgrades, our median rating has dropped one notch to A, which reflects the infirmities of the ERCOT market that were born out by winter storm URI. But with that said, since the storm, many of these utilities, not to mention ERCOT itself, the Public Utilities Commission, the railroad commission, which oversees the gas infrastructure. They've made meaningful financial and operational adjustments to prepare Texas for the next winter storm URI or any peak load event for that matter. This has resulted in most of our negative outlooks returning to stable, but the downgrades that occurred still persist now at why have the credit stabilized? Well, I'd like to sort of divide that into two buckets. There's been internal things that utilities have done to shore up credit quality and be more resilient. But there's also been things externally that have been done by ERCOT, the PUC and also the railroad commission to better protect utilities and customers. But utilities, internally, what they've done include things like weather, weatherization projects to better protect critical equipment from freeze ups. For example, putting in wind breaks to protect instruments and controls, improve fuel and power, hedging also being more long on power, adding additional contracted firm power agreements to reduce reliance on potential ERCOT real-time market purchases or reliance on intermittent generation. And then also we've seen more conservative forecasting, increased liquidity and then rate increases. And then second, we have the external factors. So what has the PUC done? What has ERCOT done? They've done a lot. And what these first measures referred to are the phase one improvements that have already occurred prior to today. These measures include improved resource adequacy, which means fewer hours subject to scarcity pricing. So that includes demand response efforts earlier price signals to bring additional generation online quicker and faster so consumers can adjust their demand. And that's the situation where spot prices will begin to rise sooner and faster as power supply diminishes. There's also much more proactiveness in terms of the crisis alert system in place in Texas. And then more significantly probably is the December, 2021 announcement by the PC where they changed the price cap to $5,000 per megawatt hour from $9,000 prior that was in place during winter storm URI. And that alone significantly reduces the exposure that utilities have to buying power on the market. And by the way, this past summer during the heat wave prices actually did hit the $5,000 cap for a few hours on a couple occasions during some hot days where demand was very high. ERCOT also has done many power plant inspections and in 2021 and only a few plants failed those inspections, they're also better managing planned outages, timing those with the shoulder months where demand is less. And then they've also identified critical assets and infrastructure within the system so that they can identify which areas should avoid the rolling blackouts first. And that way the most critical gas supply infrastructure and power plants are protected. And then you have market reform phase two, which is basically the changes that will go in place this year and in following years. And for one, the PUC is asking the legislature to adopt the performance credit mechanism or PCM, and that basically will give power generators credit for producing more power when supply is low, and that will basically incentivize more dispatchable firm generation when Texans need it. It would also basically just pay power plants that are available to produce dirt in a certain high number of high stress hours. Now, some critics say it doesn't fully address the situation in terms of the fuel, so there's more to come on. That adds a little bit of uncertainty in terms of how this will play out. But I think the PCM is the closest thing we've seen to a capacity market which ERCOT has typically or historically not had. Also, last Wednesday, the Texas Senate approved two bills and basically those two bills will be working towards adding additional natural gas generation in the state. SB six is one that's pretty large actually. It's proposing to add 10 gigawatts of natural gas capacity as a reserve that can only be used during emergencies, and obviously that would cost billions of dollars. So it's quite expensive. But their argument is that it's necessary for grid reliability. And then the other bill, SB seven, would create a financial incentive to encourage the private development of energy generation that can come on within two hours notice and stay on for four hours. And that could either include natural gas, peaking generation or batteries. Both of these are controversial. There's plenty of supporters, plenty of critics. The critics are arguing that these are very expensive. It's an overreaction to what happened two years ago and that we should focus more on conservation. So we don't have the high demand in the first place. But as you know, George talked about population growth in Texas is still pretty heavy. We almost grew 2% last year, and so to ask for 2% conservation every year might be challenging.
Rich Saskal (
Thanks, Paul. Kathy, can you kind of talk about Fitch's portfolio and how you view the posture world of public power in Texas at Fitch?
Kathy Masterson (
Sure. Thank you, Rich. Well, we had a portfolio of about 20 credits going into the storm in the months afterwards. We downgraded about a third of those, and really that initial week of the storm, the concern was liquidity. So we placed all of our ratings on rating watch negative until we could speak to them and understand their liquidity position. I think what one of the unique circumstances was in that situation, the settlement at ERCOT is very short. So these municipal utilities cooperatives were ringing up very large bills that were coming due within days, not months. So just as an example in our portfolio, over half of them incurred storm costs that week of the storm that were in excess of 45% of their prior year operating budget in its entirety. So those were the kind of bills that were coming due. I don't know if there's anyone here from the city of Denton, but shout out to them. They put out the earliest continuing disclosure that really gave a good look at the steps that a municipal utility was going through in terms of looking for cash in every corner. And so just adding to Paul's conversation about the impact, I mean, it was certainly a material impact. We would not expect to see that many of our credits downgraded in such a short time. But one of the things I think that was unique about the sector that prevented more credit deterioration from happening in that circumstance was that they did have a lot of liquidity tools in our portfolio. The average days cash going into the storm was about 200 days cash on hand and utilities, I mean, these are utilities that typically keep robust reserves for trading in the summer months, but certainly had those in place to deal with this event in the winter. They had tools at their disposal like commercial paper, underlying support facilities, revolving credit agreements, lines of credit. And lastly, and maybe importantly, they had the banking relationships that there were a number of emergency meetings that week to increase lines of credit revolvers for the utilities to use to settle their ERCOT bills. So I think that's really one of the untold stories about how there weren't more downgrades given the intensity of the liquidity event that happened in relation to the storm in the months after the storm was the credit decisions we made were a matter of looking at the storm costs and how the utilities were going to finance those long term. We saw decisions everywhere from taking the storm costs and financing those out three years to 30 years. So really individual decisions based on the magnitude of the storm costs, what was going on at the individual utility, kind of the appetite for rate increases or rate surcharges in the short term to get that paid off versus some of them that opted to finance that out longer term over 30 years. And from a credit perspective, we knew 2021 financial ratios were completely disrupted from the storm. Our decisions were made based on in the next couple of years, looking out where was the long-term financial profile going to settle out. And one of the things we focus on is leverage. So looking at debt and fixed obligations in relation to cash flow. So as the decisions were made by utilities over that next few month period about how they would finance those out, whether they would put rate increases in place or finance that on their regular in the rates that were already in place, it was the rating downgrades that happened, which were also in the magnitude of one to two notches were at utilities that fundamentally their leverage profile and their financial structure was just going to be weaker than it had been prior to the storm. I think one thing I'd add, and Paul talked about a lot of the phase one and phase two restructuring that's been happened, that's our view as well. There's a lot that's been done going forward to prevent when the financial magnitude to the utilities, if this were to happen again, I think the price decrease alone doesn't speak to it not occurring again, but should it occur, the utilities won't have the same magnitude bill coming due that week after the storm. But a lot of those other improvements really do, I mean as Texans here, we hope it doesn't happen again. I spent five days without power and it was really cold in the house. So we want to know that it's not going to happen again into the growth prospects and the strength of our economy and attracting new growth to this state. I think fundamentally that behooves us all. So it's some of those other short term and then phase two market improvements that we think really reduce the impact or reduce the likelihood of this type of event happening again. And then the last thing I'd add, which I think is a unique thing about municipal utilities, is in the state, one of the things they've done to really protect themselves against market volatility and price volatility in ERCOT is they continue to own generation. So when the market deregulated about 20 years ago, the investi utilities disaggregated their generation ownership from the lines and wires, business municipal utilities kept both of those. So from a hedging standpoint, owning a power plant that's going to price into a market at $9,000, that same market you have to purchase your load from at $9,000 is a very nice hedge against that type of price volatility. Where it fell down in the storm circumstance was one, they had some operational issues at the plants, but it was really getting gas delivered to the plants. That became a problem, even though they had contracted for that and hedged the price in terms of gas. So I think we'll continue to see municipal employ utilities employ that strategy of maintaining sufficient generation, that it provides a price hedge in the market.
Rich Saskal (
Thanks. Moving back to the water side, George as you plan for a 50 million person Texas, how is the board and the Texas government in general, what financial tools are you deploying to prepare for that future?
George Peyton (
Yeah, that's a good question. So at the Texas Water Development Board, we have a variety of tools to help us address these challenges moving forward from a water supply perspective. As you can men, as I mentioned earlier, looking forward in 2070, we'll have roughly 19 million acre feet of water demands per year. We'll have supply of somewhere around 14 million acre feet of water per year if we don't do anything to address that shortfall. So that's in time of drought that expands from 5 million to maybe 7 million acre feet of water per year needs. So filling that gap is not cheap as you can imagine. So our state water plan estimates somewhere around that capital cost being around 80 billion as of those are kind of 2020 numbers. So you can imagine that's probably easily over a hundred billion in total capital costs for the state to meet those water demands going forward. We think roughly half of those, give or take, we don't know. We'll need some sort of state financial assistance in order to make it so that the burden placed on the rate payers is not just completely unsupportable by their communities. So the state steps in to do that. One of the tools we have is a program called the State Water Implementation Fund for Texas, which hopefully some of you're all familiar with, was put into place in 2013 and funded by a 2 billion transfer from the economic stabilization fund or the rainy day fund. That is a tremendous program, and it's been extremely successful. It has added about 1.6 million acre-feet of water to Texas's supply since it was put into place at a cost we've committed, we've committed to that program has committed two projects of about 10 billion to add that water supply and the cost to the Texas taxpayer has been only about a billion dollars over that timeframe. So the leverage effect, and that's done through securitization of loans and then issuing municipal bonds against that, those packages of loans. And that has worked out very well. The SWIFT Fund itself continues to be invested every year, and so that initial 2 billion has actually only dropped to about 1.7 billion now. So it's roughly been a net 300 million expenditure to the Texas taxpayer. So it's a tremendously effective program and it's a tremendously productive use of taxpayer capital, and it is certainly accomplishing what we need it to accomplish by adding water supplies to the state. Our hope is that in a legislative session where we have a budget surplus, we do like comp trailer comptroller talked about yesterday that there will be additional allocations to programs like Swift to make sure we meet those needs going forward. Again, SWIFT is just one of the programs we have. That's the main water supply fund that we have, that we utilize and are able to advance in. The way that works is we're advancing low cost loans to municipalities and communities, and we also subsidize the interest rate a bit at varying levels for those communities. So they're able to obtain very cheap financing through us to build those water supply projects. And those projects, again, can take the many different forms. They can be surface reservoirs, which they can also be conservation projects. There's about 6,000 strategies in the state water plan that communities have developed to meet their water needs. Again, surface reservoirs, conservation, reuse, all of these things we're going to need desalination, both brackish water desalination from brackish aquifers and seawater desalination. Lots of different ideas all have different costs and benefits that must be weighed individually by the respective communities and municipalities before pursuing those strategies. But our job is to help them get the lowest cost of financing they can to move those forward.
Rich Saskal (
Thanks, Salvador. Can you talk about what your kind of programs and offerings it brings to solve some of the water and environmental challenges of the border region? And also, do they integrate with traditional financing tools like state and federal grants and municipal bonds, right?
Salvador Lopez (
Yeah, correct. Yeah, so happy to talk about it. So as I said before, a lot of our focus has been on water aging infrastructure, but some of the points George mentioned about diversifying water sources, right? Bracket, water reuse, conservation and so forth. We have some financial and non-financial tools at the disposal of the communities. One, of course, being a bank is the loans. Our loans are at competitive rates, so they're not necessarily subsidized in many cases, but I'll talk about blending in a minute. So our loans tend to go to smaller, medium communities that do not have access to cheaper capital on their own. So the bigger cities that I won't mention don't necessarily need us, but some of the smaller ones do. What we offer in terms of loans in addition to the rate, is really the flexibility we provide. So sometimes our loans can go up to 30 years. We can have grace periods that up to five years that may be attracted to some customers, and then some flexibility with periods for bonds and things of that nature. Then the other big tool we have is the grants, and here we administer, we have two grant programs. One is we as mini administer a grant program from EPA called the Border Water Infrastructure Program, and this program is funded annually by Congress. Then the money goes through EPA and it follows down to us, and this is all grant to support, again, water, but mostly wastewater and sanitation. And this is the grant that we can use in combination with precisely, for example, Texas Water Land Board. We have projects in which about a third of the project may come from us, another third from Texas Water Board, either loans or grants or combination of grounds and lands. We also combined resources with USDARD that also have loans and grants. So we try to maximize the amount of money available for the communities. We also have our own grant program, which is funded by our own retain earnings. That tends to be small on the smaller side, but it's for very basic infrastructure with some of these communities replacing lines, expanding service to uncertain areas, providing first time. A lot of it is providing first-time access. When we team up with Texas one them on board or USDA, we usually divide off the needs. So for example, the board may be able to pay for the collectors and the main lines, but not for the hookups to the houses themselves. So that way we can come in and found that portion and to the point about impact to the right structures that really keeps it down, right, because sometimes people don't have whatever that costs five, $10,000 to make that connection so that's when we come in. So again, it's a lot about flexibility and seeing who can do, do what in addition to the grants and loans are, a lot of the work we do has to do with technical assistance for these communities. And once again, we have monies from EPA and we have our own resources, and this is to help communities develop the project really. Sometimes they know they have a need, but then they don't have a planning document, they don't have the environmental documents, the science geotechnical work, et cetera, et cetera. So we provide a lot of grants to do that. Again, sometimes in coordination with Texas Water, Alabama Board, and we find that this is key for some of these communities. And as part of the technical assistance, we also support the institutional development. So little of these communities don't have updated rate studies, for example. The rates may not be appropriate. They're always hard to raise as you know, but at least we try to make some substance behind what is needed. We help them with their planning, we help them with things such as having their financial audits ready so that they can go to other lenders and so forth. And we believe that's a real key because sometimes the money may be there, but not the pipeline of projects. And then lastly, not so relevant necessarily to the conversation here, but it's a lot of the work we do by national coordination. A lot of the projects that happen to Mexico that may have us funding, we need to coordinate with Mexican counterparts. But also a lot of projects are really by national in nature, where pieces of the infrastructure are in each country. So we also do a lot of support coordinating that, matching resources, making sure things happen at the same time.
Rich Saskal (
It's one watershed, right? Kathy, for the electricity sector, how does ERCOT compare to other regions or states in terms of climate resiliency and the need to weatherize infrastructure? I know that was a sore point in URI.
Kathy Masterson (
Yeah, well, the maybe reassuring news is we're not alone. I, from kind of where we are in the capital cycle standpoint, I mentioned that deregulation in Texas about 20 years ago, and something similar happened in a lot of regions. So I would say over the last 20 years, there's been a tightening of capacity and a movement towards a very natural gas dominated fleet of generation assets. And specifically on those couple of points, which I think is important about how we move forward, the tightening of capacity, there was a cushion of capacity in a lot of markets, meaning if we're a state with three 100 megawatt power plants in our Lotus 200 megawatts on a peak day, we've got that cushion. We can grow into it with a lot of the growth that's happened here and even in other regions that aren't seeing the type of population growth, but you've got the electrification of transportation and some other movements toward the use of electricity, you're seeing growth in the load. So there have been power plants built over that time period, but in a lot of markets we've been riding down that capacity cushion. The other thing that's happened really in the last decade and Salvador, you mentioned funding renewable projects, is there's been a tremendous amount of renewable, particularly wind, but starting to be solar built in a lot of these markets, I mean ERCOT in particular California, but even places you wouldn't, wouldn't necessarily think of around the country have a lot of wind penetration into the market. So that capacity cushion that I talked about that's been decreasing has been helped by the entrance of renewables. Renewables are intermittent resources referred to you that way? Because you know, can't just flip 'em on and off when the load gets high. There's very good kind of wind patterns and knowledge about when that's going to, could be there for generation, but it's a little bit harder from a power supply management standpoint to plan around in terms of your load. So we in ERCOT and others are kind of at the tail end or are at the point where additional capacity needs to be built. The final aspect of that is there's been a number of larger coal plants in particular that are at the end of their age of life or for economic reasons or are closing down or sustainability reasons or closing down a little bit ahead of their age of life. So it's really time to build more generation. And then if you think about adding on climate resiliency considerations on top of that, it is an opportune time to make investments in generation transmission, even distribution assets that contemplate these new challenges or what we're starting to feel like are more frequent events across the country. So while they differ around the country, we think about ice storms here in particular over the last couple of years, but certainly hurricanes are becoming more frequent. The intensity of wildfires on the west coast, which really can have some meaningful impacts on transmission kind of broader than the area that wildfire where just the wildfire is really necessitate different solutions, but it's all going to cost money in terms of hardening the infrastructure for climate change.
Rich Saskal (
Thanks, Paul. Can you weigh in also on these questions of how Texas compares on climate resiliency and infrastructure weatherization?
Paul Dyson (
Yeah, as Kathy mentioned, Texas is not a loan. Earth cut has its challenges, but other states do too. And other independent system operators or ISOs have their challenges. We saw just recently over Christmas Eve, NC Valley Authority and Duke Energy had issues in terms of rotating outages for a short period of time, although they were quickly addressed because they were able to import power from other ISOs or other regions. And just to point out like ERCOT, they're not able to do that cause ERCOT is not connected to neighboring grids. So that's just an inherent limitation that ERCOT is dealing with and has started to find solutions for. And also, PJM experienced some reliability issues and called for energy conservation. I know the Tennessee Valley authority issue was interesting because there was a Tennessee Titans game going on that night, and the mayor must have called Roger Goodell, who's the commissioner of the NFL and said, Hey, we need to push the game back two hours because we just don't have enough power. And to move an NFL game is not easy if you follow the NFL. But yes, California has its own share of grid reliability issues. There was a heat wave back in August, 2020, and typically when there's a shortage of power, California can import power from other neighboring states, but it was a regional heat wave. So other states had the same issues. And with the growing amount of renewable energy projects coming online and gas plant retirements, the California is becoming a little bit reliant on intermittent resources and battery technology has not kept pace. So that there was an issue of, in terms of meeting the demand, Kathy talked about wildfires. That's something we've been really following a lot over the last several years. The wildfires seem to be growing and in size and intensity, and there's been three situations where we lowered the ratings for utilities because of wildfire liability risk. It's not just because of the environmental issues that are plagued the state of California, they have these obviously recurring droughts, even though we had a really wet winter in California recently. That's probably only a temporary relief because wildfires just are very persistent and they're unpredictable. So when we look at utilities, we ask management how they're being resilient and how they're upgrading their infrastructure to prepare for wildfires. So vegetation management is key and use of technology and the ability to deenergize lines in advance of threatening conditions is also something we really look at. There were three utilities that where we lowered their rating because of wildfire liability risks, and we were asked to rate two new utilities over the last couple years and their ratings came out lower than they would've come out otherwise if they didn't have these wildfire risks. And then hurricanes is another risk we're watching, especially along the Gulf Coast in Florida when it comes to hurricanes, many of our rated utilities are in these high risk zones, so we make sure that we ask management about are they doing robust system renewal and replacement? Do they maintain substantial liquidity? Because even though they may be eligible for FEMA reimbursement, if there's damage or business interruption, it could lag considerably in several years. And so they need to be able to either use liquidity to get by in the meantime or access the debt markets. So that's something we've definitely been watching over the last few years.
Rich Saskal (
And one fell for Kathy, what are the obstacles that exist to resiliency planning and investment for utilities?
Kathy Masterson (
Cost. I think the Houston controller yesterday talked about some of the problems he said he could solve, and it was with one word money. I think one thing that positions utilities well in terms of doing that is they came through a golden age of being in the utility business from the end of the great recession up until about 18 months ago. A lot of the cost inputs in our sector in terms of natural gas we're declining. Interest rates were low. They used that time, a lot of the utilities in the sector to shore up their balance sheets, pay off debt early, make early pension investment. So really put them in a position. Now, fortunately 18 months ago when those cost drivers started to increase in the sector, and we've moved into this inflationary cost environment and I talked about the capital spending that needs to happen in the sector, that's not going to be at 3% or maybe not shortly, they should be in a position to do some of that spending that will support reliability. I think the other thing I'd say in the context of this conference, I mean is competition with other issues. So some of the other panels we've talked about, education, transportation, there's just a lot of competition for dollars right now, and if you're a municipal utility, it's weighing the investment in terms of reliability against those other needs. Just the one thing I'd mentioned too is we see a movement in a lot of communities for more sustainable power generation that's going to come from cleaner resources, whether that's a statewide mandate or we're seeing really the adoption of a lot of local mandates, and there tends to be, it's kind of a three-legged stool in terms of planning for that. So it's moving towards sustainability targets. But then the other two components of that are the protection of reliability and ultimately cost. So the play of those three factors together and cost be being at times the limiting factor on how fast those other two can go. I think that conversation within communities is going to be become more prominent just given the competition for dollars and the price of conversion to a more sustainable power supply is maybe not what it was thought to be five years ago.
Rich Saskal (
Thanks, George. Can you talk a little bit about how the board balances, for example, the need for new capacity in projects versus the need for maintenance and upkeep as it makes capital plans?
George Peyton (
And that's a big balance. Obviously the cheapest gallon of water is one that you're not losing through your pipes. And as we mentioned earlier, the infrastructure throughout Texas, a lot of its water infrastructure is approaching 60 plus years old, and we see communities losing tremendous amounts of water through their aging infrastructure. And so we have programs at the Water Development Board to help with water loss evaluation and give funds a lot of time. That's grant funding specifically for communities to go out and do water loss evaluations on their pipes. The two stall wart programs we have are, we have the Drinking Water State revolving fund, which is kind of the Star War program for addressing aging infrastructure throughout the state. SWIFT that I mentioned earlier, is specifically for future water supplies, whereas the state revolving guns, the FRF, SFS, both clean water and drinking water can be used more toward repairing and maintaining aging infrastructure. The problem is, as you mentioned, there's a lot of demand for those types of projects right now, and we are limited by the funds we had. So I think last year, I think each of those funds, each of the SRFs had somewhere around 400 million available from the Texas Water Development Board. And we had, each program had over two and a half billion worth of demands. So easily five, six times over subscribed in those programs. And that continues to be the case. And in the meantime, I think the latest drinking water needs survey that came out roughly 2015, something like that, showed something around 45 billion of across the state to repair and replace aging infrastructure. So it's a massive demand and it's an issue that we are proactively working with communities to help them solve that program. And whether it's the SRFs or whether it's one of the other programs, we have a development fund at the Texas Water Development Board. We do have reset resources to help communities meet their needs. And what I tend to say and would say here as well is that many of these communities need to think several years in advance. And the large urban centers tend to do a pretty good job of that looking forward for their needs and how they're going to address their aging infrastructure needs. Some of the smaller communities may need help looking forward a little bit more. What we don't want to see is water mains breaking treatment, plants breaking, and then them having to come in and ask for emergency repair money for those projects because it drives them, it drives the cost up significantly for those communities. Whereas if you can budget and say, Hey, we're going to have a few percentage, two, 3% increase on our rates each year and put that money to the side to budget for repairs on aging infrastructure, then you're way ahead when it comes time to actually do that as opposed to having to come and pay significantly more.
Rich Saskal (
All right. Actually want to see if anybody has an audience question before we move forward.
Audience Member 1 (
Yeah, I have questions for, I'm just trying to get your names, but I forgot. I apologize. But yeah. So how does the cost recovery process for immediate part of utilities compare to corporates? Corporates to corporate utilities have to go through the tradi, the traditional ray cases, or they can go through some, they have some cost recovery rider mechanisms that they can use that can tap into quickly recover costs. So if you can just elaborate on that. Because community utilities from my understanding is that they have been somewhat slow to raising the capital expenditures to strengthen the grid resiliency and things like that. But with the event like that, we saw two years ago, just winter storm URI last year, things like that, I mean, this certainly necessitates capital expenditures.
Kathy Masterson (
Yeah, I can start. So municipal utilities are regulated by their city councils or local governing boards. So they don't have the external regulation at the state level that you're mentioning. I would say there's a real variety. There tend to be some that go through a very quick process, and those tend to be the utilities that are before their city council frequently in terms of conversations of budgeting and maybe they raise rates or discuss rates on an annual level or on an annual basis when they budget every year. And then what we saw in the storm, there's some utilities. Austin Energy just went through a rate case. It hadn't raised rates in about a decade, and that's a longer conversation because you have new council members who might not have been through a rate case. So the timing tends to, I think, vary by utility to utility across the country in terms of their willingness. I think it's also, if you think about the regulators where they're sitting, it's still a competition for dollars. I think one thing our maybe water and power share, it's a little bit hidden infrastructure and maybe water more so than power. It's hard to, or maybe harder to make the case for replacing that a hundred year old water main that's underneath your downtown citizens don't really appreciate the value of it in the same way a new splash pad kind of you see every day. So I think it can be more challenging to make the case not just to your regulators or your city council, but for them to go out to the community and make the case for the capital investments that are needed. And I think one of the things we're seeing is in the last couple of years is really a turnaround from, I would say the maybe approach to, well, we come in once a year and talk to council about our capital needs and we kind of try to stay under the radar to a move to really get out to community groups and tell the story. There are a lot of cost inputs, as we've talked about, that are moving now in addition to the capital needs, the sector's facing, and you've got to get out and make the case.
Paul Dyson (
And just to add to that, many utilities also adopt what's called a power cost adjustment mechanism or PCA, which typically is automatic in nature it seems. Some can be discretionary, but an automatic PCA really provides the best cost recovery. Sometimes they are monthly or quarterly or even in semi-annually, but they basically work by automatically power passing through, increase in purchase power costs to the consumer on an ongoing basis. And when those are in place, it doesn't require the need to go back to city council over and over again to get approval. So in addition to getting approval for base rate increases, whether annually or every two years, the PCA mechanism is something we really look at because it really provides for a lot of credit stability.
Rich Saskal (
Right. Barring other questions from the audience, I actually didn't get through all of mine, but it looks like the clock has kind of run out on us. So I'd really like to thank four panelists for coming today and everyone in the audience for coming to watch and listen. Appreciate it.
Kathy Masterson (
Thanks, rich.