Service Area
An analysis of a utility’s service area entails a
review of its customer base and demographic
characteristics.
Standard & Poor’s examines each utility’s cus-
tomer base in terms of total number of customers
and the number of customers by class. Revenues,
kWh sales, margins and load factors are examined
for each customer class and for the largest cus-
tomers. The terms and time frames of any long-
term contracts negotiated with industrial and
commercial customers are also examined. Load fac-
tors and unit costs charged to key industrial cus-
tomers are particularly important because they
demonstrate the attractiveness of these customers to
other suppliers or the opportunity for self-genera-
tion, and the potential for lost revenues. Large cus-
tomers’ supply options and cogeneration
capabilities are important to ascertain potential sys-
tem exposure. Also factored into the analysis of the
customer base is an evaluation income levels to
determine the relative affordability of rates.
The service areas of rural areas are sparsely pop-
ulated with few customers per line mile, which
reduces the risk that a competing utility will cherry
pick its most attractive customers. Yet, these service
areas also limit the opportunities for revenue
growth, and tend to increase capital investment and
service costs per unit of sales.
Historically, Standard & Poor’s examined an
electric utility’s service area economy as a proxy for
the stability of the revenue stream pledged to repay
the utility’s debt. While economic analysis remains
a major focus, it can be tempered by the influence
of competitive factors.
Favorable market characteristics include:
■Load factors for the system and leading cus-
tomers that do not make the system particularly
vulnerable to competitive factors;
■Stable or increasing population trends, in accor-
dance with other forecasts for the utility; and
■High wealth indicators relative to cost-of-living
indices and the level of electric rates.Regulation
Standard & Poor’s assessment of regulation
encompasses several regulatory factors. These
include the impact of federal, state, or local regula-
tors with regard to ratemaking, competition, trans-
mission, and the environment. The impact of the
regulatory framework will come into play among
several rating factors, particularly operational and
financial factors.
In terms of restructuring of electric markets,
Standard & Poor’s believes that the movement
toward a more openly competitive environment ispossible over the long term, and would most likely
occur on a state-by-state basis, as opposed to via
federal pre-emption. Standard & Poor’s recognizes
that many utilities will find that open markets will
create opportunities, and also risks. Generally, how-
ever, public power utilities in regulatory environ-
ments that do not require them to face direct
competitive threats from other power suppliers are
subject to less credit risk.Finances
A traditional analysis of a utility’s financial per-
formance incorporates a review of debt service cov-
erage margins and liquidity, but also examines
specific utility results and decisions. For example,
some utilities are emphasizing competitiveness over
the financial strength associated with excess cover-
age margins and debt service reserves, in an attempt
to ensure long-term system viability. Standard &
Poor’s incorporates the effects of such policy
changes and the potential diminution of financial
cushions into its credit ratings. Standard & Poor’s
will assess the costs of achieving competitiveness
and the impact of competitiveness upon financial
integrity and system reliability. Reduced coverage
and reserves may be appropriate for some utilities
but not for others, depending upon the degree to
which competitiveness can be enhanced and also
the operational and competitive challenges that
each utility faces.
Key financial ratios include debt service coverage,
and fixed charge coverage; unrestricted cash as a
percentage of total expenditures; and debt to equity,
among others. While debt service coverage is a tra-
ditional financial metric for municipal utilities, it is
common for municipal electric systems to structure
their operations using off-balance sheet debt for
generation projects, and purchased power agree-
ments that have debt-like characteristics. As such,
fixed charge coverage, which imputes fixed pay-
ments associated with power and transmission pur-
chases, whether through debt service or capacity
payments tied to purchase contracts, is the more
critical coverage ratio in the financial analysis of
public power utilities. Transfers to other govern-
ments, while often expressly subordinate, are fac-
tored into the analysis as operating and
maintenance expenses that reduce available net rev-
enues, since such transfers typically resemble prop-
erty taxes, franchise fees, direct cost
reimbursements, dividend, or return-on-equity type
payments commonly paid by other enterprises such
as investor-owned utilities, and are assumed to
recur annually.
The balance sheet has become a key tool for con-
trolling costs and achieving competitiveness. Asset-
to-liability management is particularly importantGeneral Government Utilities124 Standard & Poor’s Public Finance Criteria 2007