Order 15614 - Block Island Power Co.: Appl. to Extend $1,200,000 Note

 

STATE OF RHODE ISLAND AND PROVIDENCE PLANTATIONS

DIVISION OF PUBLIC UTILITIES AND CARRIERS

100 ORANGE STREET

PROVIDENCE, RHODE ISLAND 02903

REPORT AND ORDER

On April 23, 1998, the Block Island Power Company ("BIPCO") filed an application with the Rhode Island Division of Public Utilities and Carriers ("Division") seeking authority to extend a $1,200,000 note, which had matured on April 14, 1998. The application seeks authority from the Division pursuant to Rhode Island General Laws, Section 39-3-15, et seq.

The note in issue was previously approved by the Division on November 25, 1992 (See Order No. 14078, issued in Docket D-92-7). At that time, BIPCO sought approval of a $1,200,000 secured long-term note for the general purpose of refinancing its then existing debt. Due to the poor financial condition of BIPCO at that time, BIPCO was only able to find one lender, the Washington Trust Company, who was willing to lend the necessary funds. The original major terms and covenants of the loan were as follows:

i. Interest Rate

-- prime plus 1.5 percent, adjusted annually:

ii. Term

-- 5 years with 15 year amortization;

iii. Late Charge

-- 5 percent if overdue more than 15 days;

iv. Default Rate

-- 4 percent above the then interest rate;

v. Collateral

-- First real estate mortgage on all real estate assets.

-- First conditional assignments of all rents, issues, and profits derived from real estate.

-- First assignment in all contracts, licenses and permits.

-- Pledge of all BIPCO stock held by the guarantors;

vi. Audited annual financial statements and unaudited quarterly statements are required;

vii. The owners shall subordinate all present and future debt owed to them by BIPCO; and

viii. Future financial covenants include an annual increase in "tangible net worth" through 1997, improvement in the current ratio annually, and an annual minimum earnings covenant which decreases with time.

(See Order No. 14078, pp.2-3)

The Division expressed reservations in 1992 when it approved the aforementioned terms. The variable rate and balloon payment nature of the loan was very troubling to the Division. However, at that time BIPCO was facing imminent insolvency and had no other viable options. The Division similarly had no other options. The loan was approved as a "short-term solution" in order to avert BIPCO's financial collapse (see Order No. 14078, p.4).

In its April 23, 1998 application, BIPCO represents that the original 5 year loan term matured on April 14, 1998. BIPCO further represents that the Washington Trust Company has offered to extend the loan for an additional 5 years "with no change in the interest rate, late charges, default rate, collateral, etc." BIPCO accordingly maintains that the requested extension would have:

... no impact at all on rate payers, but will simply keep this matter status quo for an additional 5 years (Application, p.1). [1 BIPCO additionally sought Division approval by May 14, 1998 in order to avoid a "technical default," which could result in possible late charges, or the institution of a default rate (Application, pp.1-2)]

BIPCO proffered the prefiled direct testimony of one witness in support of its application filing. The witness was identified as Mr. Walter E. Edge, Jr., a consultant with the firm of Bacon & Edge, One Worthington Road, Cranston, Rhode Island.

Mr. Edge related that the terms and conditions of the instant loan extension mirror those in the original loan approved by the Division in 1992. He did note, however, that due to the better financial condition of BIPCO today, the Washington Trust Company has agreed to modify the loan's financial covenants in order to make them "less restrictive" (BIPCO exh. 1, p. 2). Mr. Edge fully described and explained the new covenants, which related to parameters germane to BIPCO's tangible net worth, cash flow coverage, earnings, and current ratio (BIPCO Exh. 1).

Mr. Edge also explained that albeit the loan extension ostensibly refers to a $1,200,000 loan, the current principal balance on the loan is $979,161.31. He testified that the interest expense associated with this loan extension will be based on this lower number. Mr. Edge emphasized that "BIPCO will receive no proceeds from this borrowing" (Id., p. 2).

Mr. Edge next discussed the current financial condition of BIPCO. He testified that "there has been considerable improvement in the financial health of BIPCO in the past 5 years" (Id.). The record reflects that at the time of the 1992 loan application, BIPCO's debt to equity ratio was about 15 to 1. Its current debt to equity ratio is about 5 to 1 (BIPCO exh. 4).

Despite this improvement however, Mr. Edge opined that BIPCO's ability to borrow funds is still limited. Indeed, Mr. Edge related that BIPCO could not negotiate a better loan than the loan currently proposed. He explained that although the reasons today are different than the reasons existing in 1992, BIPCO is still unable to negotiate either a fixed rate loan, or a variable rate loan with a more favorable interest rate. The following factor was described as the major reason for BIPCO's inability to realize a better loan agreement:

BIPCO is currently in violation of the Clean Air Act and has entered into a consent decree with the Environmental Protection Agency and the Department of Justice requiring it to either install an undersea electric cable to the island (at a cost of what is currently estimated to be in the range of $10 million) or installing similarly expensive ammonia based selective catalytic reduction (SCR) equipment on its engines.

When the Public Utilities Commission approved the undersea cable as the cheaper of the two alternatives, BIPCO proceeded to apply for low interest (5%) financing for the underwater cable project with the Rural Utilities Service (RUS), a department of the U.S. Government.

This has been a very time consuming and expensive process, and it is near completion. One of the main stumbling blocks to the process was that RUS insisted by its regulations on being in first position. This means that any lender which would refinance the $1.2 million loan would be required to agree in writing in advance to subordinate the entire $1.2 million loan to the anticipated RUS loan in the approximate amount of $10 million.

After much discussion, and because of its great commitment to Block Island in general, we have obtained such a subordination agreement from Washington Trust Company and sent it to the RUS, which has approved it. This was crucial and allowed the RUS application to go forward.

However, if we solicit competitive bids from other lenders, we will have to let them know that they will have to agree in writing to subordinate their first mortgage position and take a second mortgage position behind approximately $10 million of debt to the RUS.

Given the substantial amount of additional risk presented by such a subordination arrangement, BIPCO believes that it is unlikely that any other lending institution would be interested in making a loan to BIPCO on more reasonable terms than the prime plus 1 1/2% currently in effect with Washington Trust Company.

(BIPCO exh. 4)

As evidence of the Washington Trust Company's commitment to the proposed loan extension, which includes subordination to the Rural Utilities Service financing, BIPCO proffered a copy of a correspondence from the Washington Trust Company agreeing to the loan (BIPCO exh. 2).

The Division's Advocacy Section criticized BIPCO for not seeking competitive bids far enough in advance of the balloon payment due date to allow for an evaluation of options. The Advocacy Section further contended that the financial consequences of this failure should be borne by BIPCO's investors rather than BIPCO's ratepayers. The Advocacy Section also recommended that the proposed loan be approved subject to the condition subsequent that BIPCO request bids from the market to refinance this loan and return to the Division with its results within ninety days. The Division also proffered an exhibit which reflects the current interest rates associated with fixed rate loans (Advocacy Section exh. 1).

FINDINGS

When BIPCO appeared before the Division in 1992 seeking permission to issue a variable rate balloon $1,200,000 note, neither BIPCO nor the Division could expect more attractive loan terms. At that time BIPCO was facing insolvency and the ratepayers were facing possible service interruptions. The Division reluctantly approved the unattractive loan terms in order to shore up BIPCO's financial position and to hopefully prevent a calamity.

In its 1992 report and order, the Division stated that it was approving "the proposed borrowing [as] a proper short-term solution" (Order No. 14078, p.4). The Division believed that the infusion of funds would result in BIPCO's financial improvement and ultimately, to a better posture for future borrowings.

Today, BIPCO's financial health is markedly improved. In 1992 the stockholders' equity in the company was $123,380 compared to a debt level of $1,871,346. As of May 31, 1997, the stockholders' equity has increased to $313,776 while debt has been reduced to $1,695,691 (BIPCO exh. 4). The Division now believes that this financial amelioration ought to make BIPCO more attractive to lenders. Furthermore, while the RUS loan may be perceived by some lenders as an impediment to favorable future debt financing, other lenders may see the RUS loan as a positive factor. BIPCO is no longer on the brink of financial ruination. It is remedying its prior environmental difficulties, and it is becoming an electric utility with ties to a competitive marketplace. The RUS loan arguably insures an affordable financing vehicle for effectuating BIPCO's continued growth and prosperity.

The Division will approve BIPCO's proposed loan extension. However, the Division will continue to consider this loan a short-term solution to BIPCO's financing needs. The Division agrees with the Advocacy Section's recommendation that BIPCO be compelled to seek alternative financing bids from as many lenders as practicable over the next ninety days and to report its findings to the Division. BIPCO shall also provide the Advocacy Section with a draft of the request for bid document to be used, for input and/or possible modification prior to issuance. The Division will further reserve the right to again compel BIPCO to seek refinancing bids in the future, in the event its current financial condition continues to be an impediment for lenders; and its financial condition further improves in the months or years to come. Further, in the absence of refinancing over the next five years, the Division directs BIPCO to fully explore all financing alternatives prior to seeking additional extension authority from the Division relative to this loan. The Division will expect clearly documented evidence of BIPCO's requests for bids and all other related activities.

Accordingly, it is

(15614) ORDERED:

1. That the Block Island Power Company's April 23, 1998 application filing, seeking authority to extend a previous $1,200,000 secured long-term note, is hereby approved.

2. That the Division hereby limits approval of the instant application to the terms and details contained therein.

3. That the Block Island Power Company shall abide by all directives contained herein.

Dated and Effective at Providence, Rhode Island on May 14, 1998.

Division of Public Utilities and Carriers