Over the last year community members have voiced concerns at city commission meetings and on social media about increased customer rates from Owensboro Municipal Utilities. But after extensive studies and financial analysis, OMU announced a plan in late November that projects decreased rates in the near future.
Background on the potential rate decrease
In 2012, OMU began an integrated resource plan (IRP) to look at their power supply and the costs associated with it, according to OMU Interim General Manager Kevin Frizzell.
While studying the IRP, and several iterations of the study since 2012, Frizzell said there have been significant changes in the power, coal and natural gas markets. But one consistent trend was that wholesale power market prices have been declining, namely natural gas prices.
“Producing our own coal-fueled power was not the lowest available resource for us,” said Sonya Dixon, communications and public relations manager for OMU.
OMU has been a coal-based power-producing utility since the early 1900s, which until recently was the cheapest method to produce power. Now, Frizzell says, natural gas is the most cost-effective.
“Our power plant produces about twice as much power as we need on our very highest summer peak day,” Frizzell said. “And even more than that on a normal, average day.”
The City of Owensboro uses about 100 megawatts of power, but OMU can produce nearly 400 megawatts at Elmer Smith.
“So that means we need to sell that power into the market to cover our costs,” Frizzell said. “We have been able to recover some of our costs, but not all of our costs.”
And Dixon says those costs are not just what it takes to produce power, but a substantial amount of debt is associated with the plant.
In the last 20 years, OMU has incurred nearly $200 million in debt from compliance to mandatory Environmental Protection Agency (EPA) regulation changes, all financed through bonding.
“The rest of that payment has to come from our retail customers, because they effectively own the power plant and the debt,” Frizzell said of the municipal, or public, utility.
Dixon said OMU did not want to continue increasing customer rates and was determined to look for alternatives.
“You take the market, the fact that it’s an aging plant — the first unit went into use in 1964 and the next one in 1974 — you take pressing environmental regulations. All of that led us to make these decisions,” Dixon said.
Understanding the OMU customer rate
The OMU customer rate is based on three factors:
A base rate that must be approved by the Owensboro City Commission, which covers fixed costs and debts.
An energy cost adjustment (ECA) covers the cost to produce power at Elmer Smith, including fuel, maintenance and operations. After Elmer Smith is shut down, this will cover the future cost to purchase power from BREC. This is the portion of the rate that Owensboro City Commission approved to raise twice in the last year. Each half a cent per kilowatt hour raise for the average household, which uses 800-kilowatt hours, equates to about $8 more per month by the end of 2018.
According to Frizzell, the ECA acts like a buffer, with a balance that can move up and down so OMU isn’t forced to adjust rates every month. Currently, the ECA is sitting at the maximum balance of $20 million.
The last factor of the rate is the environmental cost control adjustment (ECCA), which covers costs to comply with EPA regulations. Frizzell says the ECA adjusts to cover ECCA and therefore does not require a vote from the city commission.
What is driving OMU’s decision
Frizzell says OMU has financial metrics to meet, one of those being the debt service coverage ratio. Simply stated, this means that the utility must take in enough net income to cover debt payments each year. The legally required ratio is one.
“When we borrow money, the bond-holder, to ensure they get paid, says you can’t go below one,” Frizzell said. “If nothing is done, our debt service ratio would go below 1 in 2020.”
OMU analyzed 21 different options to address this problem. Frizzell said discontinuing OMU’s obligation with the City where payments in lieu of taxes are provided is not an agreement they would break. The municipal utility, who Dixon says has a fiscal responsibility to the community, couldn’t cut expenses any further. And raising rates for customers was “the last thing we wanted to do,” Frizzell said.
OMU’s solution
Announced in mid-September, OMU is set to close the two-unit production facility at Elmer Smith Station. Unit one of Elmer Smith will close its doors in May 2019 and unit two in May 2020. OMU will then start buying electric power from Big Rivers Electric Corporation (BREC) along with adding a 5 percent solar component to their supply portfolio, which will come online in 2022.
“Those purchase power agreements are in place and ready to go,” Frizzell said.
Although closing Elmer Smith will mean the loss of 60 jobs, Frizzell said it’s a solution that offers the most rewards to its customers. Closing Elmer Smith removes the greatest expense from OMU’s books, allowing the utility to actually pay off a portion of the debt incurred in keeping Elmer Smith current on EPA regulations.
OMU’s debt payments from 2019 to 2024 range from $20 to 25 million per year. Closing Elmer Smith will allow OMU to use $18.4 million of their reserve — funds set aside to cover a potential catastrophe at Elmer Smith — toward debt reduction. Frizzell said this will result in the customer saving over $22.2 million over nine years because of the avoided interest on the debt and it solves OMU’s projected debt service ratio problem.
What customers can expect
While this can be confusing, Frizzell admits, closing Elmer Smith and entering a more cost-efficient agreement with BREC will actually cause base rates to increase. But this will be offset by ECA and ECCA decreases, ultimately leading to a lower rate for the customer.
Frizzell said customers can expect a projected half-cent decrease in their rate — a $4 difference — on their monthly bill by June 1, 2020, and another half-cent on June 1, 2021.
“We understand that there are a lot of people asking for $4 extra per month,” Dixon said. “For some people, $4 might as well be $1,000. We know that every little bit that comes out of a customer’s pocket makes it harder.”
The plan going forward
Frizzell said the next step will be presenting a new base rate to the city commission for approval in spring 2019. And while this rate will be an increase, the overall cost to the customer will decrease, Frizzell said.
OMU will also begin work to decommission the Elmer Smith property. Frizzell said OMU has no plans to sell the property, hoping to make it safe, while maintaining the switchyard.
“If a future OMU commission thinks that they want to build a new power plant — natural gas more than likely — that will give them a site that’s ready to build a plant on and is transmission ready,” Frizzell said.
