Assured Guaranty

Assured Guaranty Letter to Oversight Board and Governor of Puerto Rico Concerning Need to Increase PREPA Electricity Rates

July 21, 2017

Dominic Frederico, President and Chief Executive Officer of Assured Guaranty Ltd., sent the following letter to José B. Carrión III, Chairman of the PROMESA Oversight Board, and Hon. Ricardo Rosselló Nevares, Governor of Puerto Rico, concerning electricity rates of the Puerto Rico Electric Power Authority (PREPA).

Chairman José B. Carrión III
On behalf of the PROMESA Oversight Board
Jacob Javits Federal Bldg., 26 Federal Plaza
Room 2-128
New York, NY 10278

Hon. Ricardo Rosselló Nevares
La Fortaleza
P.O. Box 9020082
San Juan, PR 00902-0082

Re: Puerto Rico Electric Power Authority (“PREPA”) Rate Increase

Dear Chairman Carrión and Governor Rosselló:

A PREPA rate increase is long overdue. The longer a rate increase is delayed, the greater the funding shortfall faced by PREPA. Given the decline in oil costs and the low rates currently charged, we urge that PREPA, the Commonwealth, and the Oversight Board act in a fiscally responsible manner and raise rates immediately. On July 18, 2017, Assured Guaranty and other creditors holding and/or insuring over 65% of the outstanding principal of PREPA bonds moved to lift the automatic stay to appoint a receiver for PREPA. Notwithstanding the filing of that motion, Assured remains willing to engage in an open dialogue with the Oversight Board regarding the adjustment of PREPA’s rates and the economic basis for doing so.

The cost of electricity in Puerto Rico has been a focal point of recent discussions concerning PREPA’s fiscal plan, as well as the latest rounds of RSA re-negotiations. This has been the case despite the fact that electricity rates have long been undercharged by PREPA, and have in fact declined precipitously over the past 5 years for the benefit of consumers and commercial users. Notwithstanding the foregoing, additional rate savings were agreed to by PREPA’s creditors through several recent rounds of RSA renegotiations.

Were it not inexplicably and unlawfully rejected by the Oversight Board, the RSA would have enabled PREPA to maintain the current environment of subsidized electricity rates for the near future, before allowing for a gradual return to normalized levels that reflect the actual costs of running an island electric utility. With debt service representing less than 20% of the overall cost structure of PREPA, the focus should be on improving the operations and reliability of the utility as a strategic imperative, versus current efforts to extract yet more concessions from current capital providers.

With respect to the historical and projected electricity rates in Puerto Rico, we take note of the following pertinent facts made available to the Oversight Board in PREPA’s April 24th, 2017 Fiscal Plan (the “Fiscal Plan”):

The electricity rate charged by PREPA declined from approximately 24 ¢/kWh in fiscal year 2011, to approximately 19 ¢/kWh in fiscal year 2016. This represents a 21% total decrease over the five-year period. The upshot is that the electricity rate is lower than it has been in years.
Much of this rate decline is attributable to falling commodity prices that resulted in lower fuel costs. These savings were passed through to customers in the form of lower electricity rates, with no attempt to capture any portion of the decline to pay debt obligations, improve liquidity, or invest in modernization of power generation and distribution. This despite PREPA’s acknowledgement in its Oversight Board approved Final Fiscal Plan that its rates are materially below other island comparables.
In FY’14, the year of the latest available audited financial statements, fuel costs were $808 million, compared to $1.7 billion in FY’07. Assuming a steady ~10% compound annual decline rate in fuel expenses implied by this change, consumers saved over $4 billion over the period compared to FY’14 fuel expenses, or an average of $500 million per year.
Additionally, beginning in FY’15, a portion of the rate decline was attributable to relending arrangements agreed to by certain forbearing PREPA creditors, which enabled PREPA to defer principal and interest payments and thereby effectively further subsidize electric rates.
From 2008 to 2014, the average electricity rates charged by various other electric utilities on other U.S. and Caribbean islands was approximately 33 ¢/kWh.[1] Over the same period, the rate charged by PREPA was approximately 24.7 ¢/kWh, or 25% less than the comp set average.
In recent weeks both Bank of America and Goldman Sachs have published research indicating that oil prices are now expected to fall even farther (possibly into the $30-$39 per barrel range according to both).

PREPA is legally required under PROMESA and the Trust Agreement to maintain electricity rates at levels sufficient to cover both current expenses and 120% of the principal and interest requirements on the revenue bonds in a given fiscal year. It is also required by Puerto Rico Acts 57-2014 and 4-2016 to maintain rates at a level sufficient to cover all of PREPA’s expenses. The current rate assumed that the RSA would be implemented and that therefore PREPA’s rate would not cover most of the debt service on PREPA’s bonds. Instead, such debt service would have been covered by the transition charge, which will no longer be effective because the Oversight Board, contrary to the intent of PROMESA, did not to certify the RSA. Thus, rates are artificially depressed and are not compliant with applicable law or the Trust Agreement. Failure to immediately increase rates to reflect the actual cost of providing electricity will perpetuate PREPA’s past failures—i.e., the failure to collect sufficient funds to responsibly manage and invest in the utility for the ultimate benefit of the ratepayers. Moreover, failure to honor debt obligations will jeopardize PREPA’s ability to regain capital markets access, which could have disastrous consequences for the utility and its customers in the form of aging, inefficient, and costly energy infrastructure that will lead, inevitably, to higher rates.

PREPA’s creditors stand willing to support the utility’s ongoing transformation and investment that will enable it to lower the cost of power generation and transmission. However, no debt settlements can occur, and PREPA cannot honor its obligations to its stakeholders—including customers, who deserve efficient and reliable electricity services at a fair market rate—unless and until PREPA and the Oversight Board decide to respect the rule of law and to act in a fiscally responsible manner. As a necessary first step towards reestablishing credibility, we request that PREPA increase rates to the levels necessary to comply with the Trust Agreement covenants, Puerto Rico law, Energy Commission rulings, and the RSA.

Sincerely,

Dominic J. Frederico
President and Chief Executive Officer

[1] See approved Final Fiscal Plan page 17. Island comp set includes the U.S. Virgin Islands, Bermuda, Jamaica, and Hawaii.