Navigating the Shifting Landscape of Coal-Fired Power Generation

The coal-fired power industry is facing a complex web of market and regulatory forces, posing challenges and opportunities for bond investors. As the Biden administration introduces new environmental rules, a Missouri utility's refinancing of its stake in an Arkansas coal plant offers a unique case study on the evolving dynamics of this sector.

Weathering the Storm: Resilience Amid Regulatory Shifts

Adapting to the Changing Regulatory Landscape

The Missouri Electric Commission (MEC) is taking proactive steps to navigate the shifting regulatory environment by refinancing its share of the Plum Point Energy Station, a coal-fired power plant in Arkansas. This move comes in the wake of the Biden administration's newly finalized Environmental Protection Agency (EPA) rules aimed at reducing pollution from fossil fuel-fired power plants. These new regulations supersede the more lenient Affordable Clean Energy rules introduced under the Trump administration, which had relaxed the stricter emission standards set by the Obama administration's Clean Power Plan.

Navigating the Contractual Complexities

The Plum Point financing structure is described as "a very unusual contractual structure" by Fitch's Dennis Pidherny, the U.S. public finance ratings managing director for public power. The key feature is that the obligations related to the pool of cities that own a stake in the plant are separate and distinct from the power pool itself. This means that if any one of the participating cities fails to make its payments, the responsibility can be spread among the other cities in the group. This structure, dominated by the city of North Little Rock, provides a level of insulation for bond investors.

Assessing the Credit Quality and Risks

Both Fitch Ratings and Moody's Ratings have assigned investment-grade ratings to the MEC's Plum Point refinancing bonds, reflecting the strong credit quality of the top participants in the project. Fitch's A rating and Moody's A3 rating with stable outlooks take into account the "take or pay" unit power purchase agreements and pool power purchase agreements that require unconditional payments from the member utilities, regardless of whether the Plum Point plant is operational.However, the ratings also consider the material environmental and carbon transition risks associated with Plum Point as a single-asset, coal-fired generator. The plant's exposure to potential changes in future environmental regulations and potential adverse social and investor receptivity are factored into the analysis.

Empowering Customers through Rate-Setting Authority

A key strength of the Plum Point financing structure is the MEC's and its member utilities' complete discretion over rate-setting. This allows them to pass on any necessary costs to customers, ensuring the cash flow required to service the debt. Fitch's Pidherny notes that within the MoPEP power pool, all members have "complete discretion over rate-setting," providing them with the flexibility to adapt to changing market conditions.

Emissions and Environmental Concerns

The Plum Point Energy Station is a significant emitter of carbon dioxide, with annual emissions exceeding 4.5 million tons, according to the EPA's Power Plants and Neighboring Communities mapping tool. The EPA also notes that fossil fuel projects like coal-fired power plants can lead to respiratory and cardiovascular problems for residents in surrounding communities.These environmental and public health concerns are important considerations for investors with Environmental, Social, and Governance (ESG) considerations. However, Fitch's Pidherny notes that the Plum Point financing's ESG score of 3 indicates that these issues are "credit-neutral or have only a minimal credit impact on the entity." The rating agency's analysis focuses more on the credit quality and operational factors rather than the environmental impact.

Lessons from the Prairie State Energy Campus

The Plum Point refinancing stands in contrast to the challenges faced by another MEC-financed coal plant, the Prairie State Energy Campus in Illinois. Prairie State has experienced significant cost overruns, leading to a restructuring of $646 million in debt in 2014 to ease rate pressures for its customers. The plant's future is further complicated by a 2021 Illinois law that requires municipally-owned coal plants to cut carbon emissions by 45% by 2038 or face closure.The Prairie State plant's annual CO2 emissions of over 13.591 million tons, as reported by the EPA, highlight the significant environmental impact of such facilities. The Sierra Club's criticism of coal-burning facilities and their toxic byproducts underscores the growing pressure on these assets from environmental advocates and regulators.

Navigating the Evolving Energy Landscape

While the Plum Point refinancing appears to offer a degree of insulation for bond investors, the broader coal-fired power industry faces an uncertain future. Market forces, such as the increasing affordability of natural gas, and regulatory pressures, including the new EPA rules and state-level clean energy laws, are driving a shift away from coal-fired generation.The Illinois Municipal Electric Agency, one of the owners of the Prairie State plant, has acknowledged this trend by committing to a net-zero carbon emissions goal by 2050 and actively diversifying its portfolio with wind and solar resources. This strategic shift highlights the need for coal-fired power providers to adapt and explore options for repowering or transitioning their assets to remain competitive in the evolving energy landscape.As the coal-fired power industry navigates this complex and rapidly changing environment, the Plum Point refinancing and the lessons from the Prairie State Energy Campus provide valuable insights for bond investors and industry stakeholders. The ability to effectively manage regulatory risks, maintain financial flexibility, and adapt to market dynamics will be crucial for the long-term viability of these assets.