Project Finance Blog

California utilities issue bonds to extinguish wildfire woes

Posted by Sameer Mulji

December 11, 2018

Posted in Power Blog article


The increasing frequency of wildfires in California has forced the State’s legislature and the California Public Utilities Commission (“CPUC”) to come up with new, inventive ways to help utilities shoulder the costs associated with catastrophic wildfire damage. The doctrine of inverse condemnation makes California utilities responsible for wildfire losses that are caused by their infrastructure and equipment. 2017 revealed the potential for wildfires in California to cause extensive damage, with estimated costs of casualties and destruction of property in excess of $18 billion. As a result, the financial conditions of these utilities are threatened and the State’s ability to ensure adequate and safe electrical services to residences is endangered. 

In response to these liability concerns, on September 21, 2018, the State passed Senate Bill 901 to permit electrical companies to recover costs and expenses from ratepayers arising from such catastrophic wildfires. The law tasks the CPUC to determine whether costs are just and reasonable and therefore eligible for recovery. In making its determination, the CPUC must consider, among other factors, the utility’s conduct, whether fire warnings were ignored, whether there was failure on the utility’s behalf to maintain and operate its equipment responsibly, and the extent to which the fire was caused by circumstances beyond the utility’s control.

For those wildfire costs allocated by the CPUC to ratepayers, the law enables the utility to apply for a financing order to authorize the costs and expenses to be recovered through fixed recovery surcharges, specifically by issuing recovery bonds. Rather than forcing steep and immediate increases in electricity prices upon ratepayers, utilities can borrow against the future revenue streams of these fixed surcharges by issuing recovery bonds to stretch the costs over a longer period of time. In other words, the recovery bonds enable the securitization of wildfire costs in much the same way that electrical companies historically have been able to securitize so-called “stranded costs” due to regulatory changes that render equipment or other assets impractical or otherwise uneconomic.

Separately, the large liabilities from 2017’s wildfires have encouraged some utilities to issue a different kind of catastrophe bond. There are estimated to be about 30 bonds with some exposure to wildfires in the U.S., but some California utilities have issued special, wildfire-only catastrophe bonds. At least two CA utilities issued wildfire catastrophe bonds this year for hundreds of millions of dollars of insurance coverage. If the equipment of these utilities is responsible for igniting a wildfire, these bonds would pay out to cover damages.

The occurrence of wildfires in California has far surpassed its historical average, making it difficult for the market to assess risk and appropriately price these wildfire catastrophe bonds. According to an Aon report published in November, seven of the last thirteen most destructive fires in state history have occurred in the last thirteen months. As such, it is uncertain whether CA utilities will be able to continue issuing these bonds until a proper risk calculation method can be determined.

Though the Senate Bill 901 may adequately address wildfire costs for 2017, it is decidedly unclear regarding how costs from the devastating wildfires in 2018 will be handled. Certainly ratepayers will be wary to take on higher surcharges year after year. California will need to be even more inventive in its approach to dealing with wildfire damage if it hopes to meet its aggressive clean energy goals going forward.

 

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