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Rating Action:

MOODY'S LOWERS SECURITY RATINGS OF NEW ENGLAND ELECTRIC SYSTEM SUBSIDIARIES (SENIOR TO A2)

02 Aug 1996
MOODY'S LOWERS SECURITY RATINGS OF NEW ENGLAND ELECTRIC SYSTEM SUBSIDIARIES (SENIOR TO A2) New York, 08-02-96 -- Moody's Investors Service lowered the credit ratings of the New England Electric System companies, New England Power Company, Narragansett Electric Company, and Massachusetts Electric Company, ending a review initiated February 8, 1996. These downgrades, which bring the companies' ratings for senior secured debt to A2 from A1, are triggered by the passage of retail wheeling legislation in Rhode Island. The latter is the first state in the nation to legislate full access for all retail electric customers to energy suppliers other than the local utility, while specifically addressing the issue of stranded costs, which are those investments that may be no longer recoverable through rates as determined by an open market. The next step is for Governor Almond to sign this bill, for which he has indicated his support.
The downgrade of New England Power (NEP), the generating arm of the New England Electric System, reflects higher business risk and greater revenue volatility as the company encounters an increasing level of competition. NEP's first mortgage bonds, general and refunding mortgage bonds, and secured pollution control bonds were lowered to A2 from A1; its counterparty rating to A3 from A2; and its preferred stock to "a3" from "a2". The company's Prime-1 rating for commercial paper is confirmed.
Retail competition in Rhode Island will begin in July 1997 for 10% of electricity kilowatt-hour (kwh) sales, and will be expanded to all of the state's consumers by the sooner of July 1998 or within three months of 40% of all kwh sales in New England being opened to retail competition. The latter condition would be met should the state of Massachusetts introduce retail wheeling. While NEP does have an advantage as the incumbent utility, the company will likely need to lower its rates considerably to compete with new entrants that will discount heavily to gain market share.
In addition, the law phases out the existence of "all-requirements" contracts between NEP and its Rhode Island retail affiliate, Narragansett Electric Company. Similar contracts exist between NEP and Massachusetts Electric Company (MECO), its other major retail affiliate, and, although not directly affected by this piece of legislation, these contracts are also likely to be phased out. The all-requirements contracts stipulate that Narragansett and MECO fulfill virtually all of their energy needs with purchases from NEP, and as a result the two utilities were NEP's largest wholesale customers, contributing 20.8% and 69.2%, respectively, of the generator's annual sales. The ultimate termination of contracts with these customers will eliminate a source of long-term security for NEP's revenue stream.
In exchange for NEP's agreement to terminate its contract with Narragansett, the Rhode Island law allows for full recovery of the company's sunk costs, which include net plant balances, nuclear decommissioning costs, regulatory assets, and the above-market priced component of purchased power contracts. Such recovery will be assured via a non-bypassable access charge which provides a measure of stability for NEP's ratings. The latter remain sensitive to the regulatory and legislative schemes ultimately adopted by Massachusetts, therefore, NEP's rating outlook is negative.
Business risk is likely to diminish for Narragansett as demand and supply obligations fall away and the company's primary responsibility becomes providing reliable local transportation of power to its existing customers. Furthermore, under the Rhode Island legislation, Narragansett is entitled to base rate increases of $10 million a year for two years, beginning 1997, which will shore up financials. Still, the utility will be subject to performance-based ratemaking and will lose, through the termination of its all-requirements contract with NEP, some of the benefits of a close association with the financially stronger generating subsidiary. In addition, the unprecedented nature of this new regulatory scheme introduces a measure of uncertainty for the company's ratings going forward. Narragansett's first mortgage bond/secured medium-term notes have been lowered to A2 from A1; its counterparty rating to A3 from A2; its preferred stock to "a3" from "a2"; and its shelf registration of preferred stock to (P)"a3" from (P)''a2". The company's Prime-1 rating for commercial paper has been confirmed.
Likewise, Moody's believes that MECO will also face the eventual phase-out of its all-requirements contracts and the loss of the benefits of association with NEP. MECO's rating for commercial paper will stay at Prime-1, but its first mortgage bonds and secured medium-term notes have been lowered to A2 from A1; its counterparty rating to A3 from A2; and its preferred stock to "a3" from "a2". Furthermore, MECO's ratings outlook remains negative based on the uncertainty associated with the transition to retail wheeling in Massachusetts.
New England Electric System is headquartered in Westborough, Massachusetts.

No Related Data.
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