4. Discussion

4.1. Public Utilities Code Requirements
for Issuance of Securities

SCE's request is subject to Public Utilities (Pub. Util.) Code §§ 816, 817, and 818. The Commission has broad discretion under § 816 et seq. to determine if a utility should be authorized to issue debt. Where necessary and appropriate, the Commission may attach conditions to the issuance of debt and stock to protect and promote the public interest.

Pursuant to Pub. Util. Code § 817, a public utility may only issue and use financing for selected purposes.¹ Those purposes not listed in Pub. Util. Code § 817 may only be paid with funds from normal utility operations. In its forecast of sources and uses for 2010-2012 in its Response, SCE included payment of preferred dividends and net funding of nuclear decommissioning trusts in its revised determination of how much new financing is necessary.² Neither of these items are proper uses for the issuance or use of financing. Payment for both preferred dividends and net funding of nuclear decommissioning trusts are properly paid for with funds from normal operation of the utility, what SCE identifies as Cash from Operations in its forecast of sources and uses for 2010-2012. In order for SCE's request to be in compliance with Pub. Util. Code § 817, we will remove payment for preferred dividends (total $267 million) and net funding of nuclear decommissioning trusts (total $583 million) from SCE's forecast of sources and uses for 2010-2012 provided in its response to follow-up questions. We also remove the total $850 million associated with these two items from SCE's forecast of Cash from Operations in its sources and uses statement for 2010-2012, to account for the amount from normal operations that would properly be used to pay for preferred dividends and net funding of nuclear decommissioning costs, and will not be available to defray the amount of funding necessary from new financing.

Pub. Util. Code § 818 states that no public utility may issue notes or other evidences of indebtedness payable at periods of more than 12 months unless, in addition to the other requirements of law, it shall first have secured from the Commission an order authorizing the issue, stating the amount thereof and the purposes to which the issue or the proceeds thereof are to be applied. Pub. Util. Code § 818 also requires the Commission, in issuing such an order, to find that the money, property, or labor to be procured or paid for with the proceeds of the debt authorized is reasonably required for the purposes specified in the order and, unless expressly permitted in an order authorizing debt, that those purposes are not, in whole or in part, reasonably chargeable to expenses or to income. SCE has substantiated that the balance of its need for issuance of new Debt Securities and Preferred Equity, as listed in Tables 1 and 2 of this decision, are necessary, including acquisition of property, construction, completion, extension, or improvement of SCE facilities, retirement/refinancing of previously issued securities, and/or reimbursement of SCE for money expended from income or its treasury funds. These purposes are authorized by § 817 and, as required by § 818, are not reasonably chargeable to operating expenses or income.

Therefore, we will grant SCE authority under § 816 et seq. to issue new Debt Securities and Preferred Equity for the aforementioned purposes, and for the amounts determined in Section 4.2 of this decision.

4.2. Forecast of Sources and Uses

Utility applications seeking authority to issue debt or other securities are based, in part, on forecasted sources and uses of funds that illustrate the requested need for funding. SCE used a long-term forecast covering the three year period of 2010-2012 to determine its future financings needs. SCE's forecast include uses of funds such as capital expenditures and contingencies, payment of preferred dividends, funding of nuclear decommissioning trusts, payment of maturing debt obligations, and retirement/refinancing of previously issued securities. SCE's forecast also includes sources of funds, such as cash flow from operations, short-term debt, equity from the parent, and existing financing authority. In its Response, SCE provided a revised request as detailed in Section 3 of this decision. SCE's request is supported by Exhibit A to the Application, which provides a summary of SCE's current financing authorizations, Exhibit B to the application, which provides a summary of its forecasted capital expenditures for 2010-2012, and SCE's updated Exhibit C provided in its Response. We will rely on these documents, adjusted for uses and sources that are not in compliance with Pub. Util. Code § 817 as discussed in Section 4.1 of this decision, to determine the forecast of Sources and Uses set forth below in Table 1, as well as the Net Need for New Financing calculation set forth in Table 2.

Table 1

Sources and Uses Statement for 2010-2012

We now deduct SCE's current financing authority to determine how much of the $5.811 billion need for funding shown in Table 1 must come from new financing through this application, as well as the form it will take. SCE has existing authorization to issue approximately $2.58 billion of Debt Securities and $950 million of Preferred Equity, totaling approximately $3.53 billion of existing authority.⁴ However, SCE is only authorized to use approximately $2.11 billion of that authority for the acquisition of property or for construction, completion, extension, or improvement of facilities (construction/capital expenditures).⁵ The remaining authority of approximately $1.42 billion may only be used for retirement/refinancing of existing debt and equity securities.⁶

Of the total existing authority available to offset SCE's current need for new financing, SCE is able to use $1.310 billion of existing Debt Securities authority for construction/capital expenditures, $802 million of existing Preferred Equity authority for construction/capital expenditures, $250 million of existing Debt Securities authority for retirement/refinancing, and $148 million of existing Preferred Equity authority for retirement/refinancing. SCE is therefore able to use a total of $2.510 billion of existing financing authority to offset its current need for new financing.

Table 2

Net Need for New Financing

(Millions of Dollars)

Based on the results from Table 2, we will authorize $3.301 billion of new financing, consisting of $2.49 billion of new Debt Securities for construction and capital expenditures, $439 million of Preferred Equity for construction and capital expenditures, and $371 million of Preferred Equity for retirement/refinancing. This new financing will allow SCE to fund its capital expenditure plans for the period 2010 through 2012, retire/refinance existing securities, and to reimburse SCE for money expended from income or treasury funds, to the extent authorized by Pub. Util. Code § 817(h). We find SCE's request to be reasonable and supported by the record.

Granting of financing authority to a utility does not obligate the Commission to approve any capital projects. This financing authority provides SCE with sufficiently liquid resources to timely finance its upcoming public utility projects, to refund maturing debt, and to reimburse its treasury. Review of the reasonableness of capital projects occurs as needed through the regulatory process applicable to each capital project. Therefore, any approval of this financing request would not prejudge any of SCE's forecasted projects for the period 2010 through 2012.

4.3. Types of Securities to be Issued

The types of Debt Securities that SCE may issue consist of secured debt securities, accounts receivable financing, unsecured senior debt, unsecured subordinated debt, hybrid securities, overseas indebtedness, foreign currency denomination securities, medium-term notes, direct loans, commercial paper and extendible commercial notes, first and refunding mortgage, fixed rate bonds and debentures, trust preferred securities transactions, notes sold through a placement agent, and other floating rate debt, which are similar to those authorized in D.07-08-012.

The types of Preferred Equity that SCE may issue consist of cumulative preferred stock--$25 par value, cumulative preferred stock--$100 par value, and preference stock. SCE proposes that the method of sale, price, dividend rate, voting rights, liquidation preferences and other rights, preferences, privileges, and restrictions of Preferred Equity issuances will be determined prior to each offering, as was done pursuant to D.07-08-012. SCE also anticipates that Preferred Equity may include provisions such as, but not limited to, restrictive redemption provisions, dividend rates that may be fixed, floating, adjustable, or set by a market auction procedure, mandatory sinking funds, and other provisions deemed appropriate. In past decisions, SCE has not received the open-ended authority it requests here regarding the terms of its Preferred Equity issues. We authorize the terms specifically listed above, but we will not authorize something that has not been identified. Therefore, we deny SCE's request to use other provisions deemed appropriate, that are not specifically requested in its application.

Consistent with § 824, SCE shall maintain records to identify the specific securities issued pursuant to this decision, and demonstrate that proceeds from such securities have been used only for public utility purposes.

4.4. Encumbrance of Utility Property

SCE seeks authority to sell, lease, assign, mortgage, or otherwise dispose of or encumber its utility property and accounts receivables as part of issuing secured Debt Securities and Preferred Equity.

This request to encumber utility property is subject to § 851 which states, in relevant part, that no utility shall encumber any part of its plant, system, or other property necessary or useful in the performance of its duties to the public, or any franchise or permit or right there under without first having secured from the Commission an order authorizing it to do so.

Consistent with D.07-08-012,⁷ we will authorize SCE to sell, lease, assign, mortgage, or otherwise dispose of or encumber its utility property, including its accounts receivables, to improve the terms and conditions of the Debt Securities and Preferred Equity, and to lower SCE's overall cost of money for the benefit of ratepayers.⁸

SCE's request to guarantee the securities or other obligations of regulated direct or indirect subsidiaries or regulated affiliates of SCE is subject to Pub. Util. Code § 701.5 and Affiliate Transaction Rule IX C (D.06-12-029). Rule IX C is designed to ensure that the utility has sufficient ring-fencing around it to prevent the utility from being pulled into the bankruptcy of its holding company. Rule IX C does not mandate what type of ring-fencing measures the utility must adopt. But bankruptcy judges take into account the degree of separation between the utility and its regulated affiliates by considering, among other things, whether the utility has been guaranteeing the securities or other obligations of its regulated affiliates. Rule IX C requires the "utility to provide a non-consolidation opinion that demonstrates that the "ring-fencing" around the utility is sufficient to prevent it from being pulled into the bankruptcy of its holding company."⁹

Also consistent with D.07-08-012,¹⁰ we will grant SCE authority to guarantee, or to pledge its assets on behalf of a regulated affiliate or subsidiary of SCE, who qualifies to transact financing arrangements pursuant to § 701.5. SCE's subsidiary should be created solely for the purpose of issuing securities to the public or privately to support SCE's operations or service and SCE should have 100% ownership and control of the subsidiary. And related to Rule IX C, D.06-12-029 requires SCE to submit, on an ongoing basis, non-consolidation opinions to the Commission that the ring-fencing measures it has in place are adequate to keep it from being pulled into bankruptcy of its holding company.

Debt Securities may also be issued through a governmental body, political subdivision or other conduit issuer to obtain tax-exempt status for the securities. This will be used whenever SCE's facilities qualify for tax-exempt financing under federal or state law. In this structured financing, SCE would unconditionally guarantee or otherwise secure the issuer's obligations to its debt holders. As a means of securing the issuers obligations, SCE may issue and pledge or deliver bonds in an equal principal amount to the issuer or a trustee.

4.5. Debt Enhancements

SCE seeks authority to include certain debt enhancements to improve the terms and conditions of its Debt Securities and to lower the overall cost of money for the benefit of the ratepayers. These debt enhancements, detailed in its application, consist of credit enhancements, redemption provision/call options, put options, sinking funds, tax-exemptions, and warrants.

The Commission has previously allowed SCE authority to use similar debt enhancements, most recently by D.07-08-012 and D.05-08-008. We again authorize SCE to use these previously approved forms of credit enhancements to lower the overall cost of money for the benefit of the ratepayers.

4.6. Interest Rate Caps, Collars,
Swaps, and Hedges

SCE seeks authority to use swaps and hedges, which can assist in the management of interest rate risk, including interest rate cap agreements, interest rate floor agreements, interest rate collar agreements, interest rate swap agreements, forward starting swaps, Treasury locks, caps, and collars. SCE also seeks authority to use other hedging and interest rate swap arrangements not specifically described in the application. SCE also requests that the use of this authority not be considered as separate debt for purposes of calculating its financing authorization. SCE will enter into these swap and hedging contracts only in connection with actual, pending or planned issues of authorized Debt Securities. Consistent with the authorization SCE received in D.07-08-012, SCE proposes to comply with the following restrictions regarding swap and hedging transactions entered into pursuant to this application:

1. Separately report all interest income and expense arising from all swaps and hedging transactions in its regular report to the Commission.

2. Swap and hedging transactions will not exceed at any time 20 % of SCE's total long-term debt outstanding.

3. All costs associated with hedging transactions shall be subject to review in SCE's cost of capital proceedings.

4. Hedging transactions carrying potential counterparty risk must have counterparties with investment grade credit ratings.

5. If SCE elects to terminate a swap or hedging transaction before the original maturity or the swap or hedging partner terminates the agreement, all costs associated with the termination will be subject to review in SCE's next cost of capital proceeding.

6. SCE will provide the following to Commission staff within 30 days of a request: (i) all terms, conditions, and other details of swap and hedge transactions; (ii) rationale for the swap and hedge transactions; (iii) estimated costs for the "alternative" or un-hedged transactions; and (iv) copy of the swap and hedge agreements and associated documentation.

Consistent with previous Commission decisions,¹¹ we authorize SCE to use the specific caps, collars, swaps and hedges described herein, subject to the agreed upon conditions listed above, and to exclude these instruments from consideration as separate debt for purposes of calculating its financing authorization.

In past decisions, SCE has not received the open-ended authority it requests here to use other hedging and interest rate swap arrangements not specifically requested. We will not authorize something that has not been identified, therefore, we deny SCE's request to use hedging and interest rate swap arrangements not specifically requested in its application.

4.7. Competitive Bidding Rule Exemption

Resolution No. F-616, issued on October 1, 1986, requires utilities to issue debt using competitive bids. The purpose of this requirement, known as the CBR, is to reduce the cost of debt issued by utilities. The Resolution also provides for utilities to seek an exemption from the CBR for debt issues in excess of $200 million. An exemption request will only be granted upon a compelling showing by a utility that because of the size of the issues, an exemption is warranted. Among the factors relevant here are:

1. Competitive bidding of larger issues may result in higher costs due to the fragmenting of the investment banking community into competitive bidding syndicates and the increased risk thereby assumed by each of them.

2. There has been considerable consolidation in the financial services sector resulting in the existence of fewer investment and commercial banks remaining both domestically and globally.

3. It has become common for underwriters to forego the competitive bidding syndicates and instead bid individually. That practice may result in higher costs of funds to SCE and its ratepayers due to the lack of any other syndicate members to share the risk of the transaction.

4. In a competitive bid, the underwriter will add a risk premium over the secondary market level to determine the price. The size of that risk premium depends on factors such as general market conditions, size of issue, other expected financing needs of the issuer, and other factors which affect the underwriter's confidence in its ability to sell the securities quickly.

5. In a negotiated transaction, underwriters communicate with potential investors to develop an order book for the securities. Based on this pre-market information, the underwriters adjust the price in order to sell the entire offering.

6. Since 2004, SCE's negotiated mortgage bond issues have priced from five basis points lower to three basis point higher than the secondary trading level of SCE's other comparable maturity mortgage bonds.

7. Negotiated transactions provide greater flexibility to adjust the timing and terms of a proposed debt offering to meet changing market conditions.

8. Competitive bidding may leave SCE limited and undesirable options for obtaining needed financing.

SCE also explains that certain of the Debt Securities requested in its Application do not lend themselves to competitive bidding, regardless of the size of the issue. For example, competitive bidding is not presently available in European or Japanese markets. Also, tax exempt pollution control bonds generally require considerable work in advance of the actual financing to determine the financing structure and terms, and on new issues, to identify what facilities qualify under the tax laws for tax-exempt, financing requiring such financing to be done through negotiated transactions. Similarly, trust preferred and hybrid securities are structured financings, which require the advice and expertise of the underwriters to complete. In addition, notes sold through placement agents are analogous to commercial paper, therefore, should be exempt from the CBR.

It is because of those Debt Securities that do not lend themselves to competitive bidding that SCE seeks an exemption from the Competitive Bidding Rule to provide it with added flexibility to take advantage of market opportunities. Specifically, SCE seeks authority to enter into negotiated transactions with respect to obtaining loans and issuing variable or floating rate Debt Securities, subordinated Debt Securities such as hybrid securities, Debt Securities including hybrid securities, trust preferred securities transactions, debts secured by a pledge of accounts receivables, overseas indebtedness, foreign currency securities, notes sold through a placement agent, and tax-exempt securities.

Consistent with the CBR, SCE proposes to offer through competitive bidding fixed rate Debt Securities in the form of first and refunding mortgage, intermediate and long-term notes and debentures (fixed rate bonds and debentures) of $200 million or less in principal amount (other than tax-exempt securities) that are sold publicly in the domestic market.

To provide added flexibility to take advantage of market opportunities, SCE requests that the Commission modify the CBR to permit SCE to use the following procedures for those situations where the Rule remains applicable:

1. To shorten the time between the issuance of an invitation for bids and the scheduled receipt of bids to a period which is the shortest time reasonably required to obtaining a sufficient number of bids from underwriters or purchasers or groups thereof (which time period may be as short as a few hours).

2. To accelerate, postpone, or cancel the scheduled date and time for receipt of bids.

3. To reject all bids submitted.

4. To request the resubmission of bids.

5. To reschedule subsequent receipt of bids.

6. To vary the amount, terms, and conditions of the Debt Securities submitted for bids.

7. To waive the requirement for newspaper publication of the above items.

Additionally, SCE represents that Diverse Business Enterprises (DBE), consisting of small underwriting firms, do not have the capital to participate with large investment banks in competitively bid financing offerings of more than $200 million. To date, SCE has employed nine different DBE's as underwriters, in syndicated offerings totaling $2.65 billion. The DBE's participation in SCE offerings broadens its investor pool, reaching out to smaller investors that are not covered by large investment banks. The SCE request for an exemption from the CBR for debt issuances in excess of $200 million would enable SCE to continue its efforts to add DBE underwriters to its syndicates.

SCE's request for the previously described exemptions from, and modifications to, the CBR are granted on the basis that the Commission has routinely granted SCE and other utilities similar exemptions and modifications¹² with no discernable adverse impacts on the utilities, their customers, or the public at large; and on SCE's representation that granting the exemptions and modifications will enable it to obtain debt in a manner advantageous to SCE and its ratepayers. We make no finding regarding the reasonableness of the rates, terms, and conditions of debt issued by SCE pursuant to the exemptions and modifications granted herein.

¹ 817. A public utility may issue stocks and stock certificates or other evidence of interest or ownership, and bonds, notes, and other evidences of indebtedness payable at periods of more than 12 months after the date thereof, for any one or more of the following purposes and no others:

(a) For the acquisition of property.

(b) For the construction, completion, extension, or improvement of its facilities.

(c) For the improvement or maintenance of its service.

(d) For the discharge or lawful refunding of its obligations.

(e) For the financing of the acquisition and installation of electrical and plumbing appliances and agricultural equipment which are sold by other than a public utility, for use within the service area of the public utility.

(f) For the reorganization or readjustment of its indebtedness or capitalization upon a merger, consolidation, or other reorganization.

(g) For the retirement of or in exchange for one or more outstanding stocks or stock certificates or other evidence of interest or ownership of such public utility, or bonds, notes, or other evidence of indebtedness of such public utility, with or without the payment of cash, and

(h) For the reimbursement of moneys actually expended from income or from any other money in the treasury of the public utility not secured by or obtained from the issue of stocks or stock certificates or other evidence of interest or ownership, or bonds, notes, or other evidences of indebtedness of the public utility, for any of the aforesaid purposes except maintenance of service and replacements, in cases where the applicant has kept its accounts and vouchers for such expenditures in such manner as to enable the commission to ascertain the amount of money so expended and the purposes for which such expenditure was made.

² SCE included payment of preferred dividends of $61 million, $95 million, and $111 million in 2010, 2011, and 2012, respectively and Net Funding of Nuclear Decommissioning Trusts of $184 million, $192 million, and $207 million in 2010, 2011, and 2012, respectively, in its forecasted Uses. These total $245 million, $287 million, and $318 million in 2010, 2011, and 2012, respectively.

³ Surplus (deficit) equals total financial requirements less total source of funds.

⁴ See A.10-01-011 at Exhibit A; This financing authority was authorized in Decision (D.) 03-12-004, D.05-08-008, and D.07-08-012. The figures above reflect the amount of financing authority remaining from these decisions.

⁵ SCE's currently authorized financing authority available for construction of new facilities includes Debt Securities of approximately $1.31 billion and Preferred Equity of approximately $802 million. (See D.05-08-008 and D.07-08-012.)

⁶ SCE's currently authorized financing authority available for refinancing includes Debt Securities of approximately $1.27 billion and Preferred Equity of approximately $148 million. (See D.03-12-004, D.05-08-008, and D.07-08-012.)

⁷ See D.07-08-012, Ordering Paragraph 2.

⁸ See, for example, D.06-05-015.

⁹ See D.06-12-029, at 7.

¹⁰ See D.07-08-012, Ordering Paragraph 2.

¹¹ D.05-08-008 at Ordering Paragraph 3 and D.07-08-012 at Ordering Paragraph 4.

¹² See, for example, D.09-09-046 at 8-10 and D.07-08-012 at 8-11 (SCE).