Edison International (NYSE: EIX) raised the possibility in its July 31 quarterly Form 10-Q filing that its Edison Mission Energy (EME) independent power subsidiary may have to seek bankruptcy, mainly due to problems related to costs of coal-fired capacity in Illinois and Pennsylvania.
As of June 30, EME and its subsidiaries without contractual dividend restrictions had corporate cash and cash equivalents of $879m, which includes Midwest Generation‘s total of $177m. EME and Midwest Generation’s previous revolving credit agreements have been terminated or expired and no longer are sources of liquidity. At June 30, EME had $3.7bn of unsecured notes outstanding, $500m of which mature in June 2013.
“EME is currently experiencing operating losses due to lower realized energy and capacity prices, higher fuel costs and lower generation at the Midwest Generation plants,” said the Form 10-Q.
“Forward market prices indicate that these trends are expected to continue for a number of years. As a result, EME expects that it will incur further reductions in cash flow and losses in the current year and in subsequent years. A continuation of these adverse trends coupled with pending debt maturities and the need to retrofit its Midwest Generation plants to comply with governmental regulations will exhaust EME’s liquidity. Consequently, EME will need to consider all options available to it, including potential sales of assets, restructuring, reorganization of its capital structure, or conservation of cash that would be otherwise applied to the payment of obligations. EME has entered into non-disclosure and engagement agreements with advisors representing certain of its unsecured bondholders for the purpose of engaging in discussions with such advisors and Edison International regarding EME’s financial condition. Absent a restructuring of its obligations, based on current projections, EME is not expected to have sufficient liquidity to repay the $500 million debt obligation due in June 2013. As a result, EME may need to file for protection under Chapter 11 of the U.S. Bankruptcy Code.”
Midwest Generation, the operator of several coal plants in Illinois, is largely dependent on EME to fund cash flow deficits and environmental retrofits. EME has no obligation to make capital contributions to Midwest Generation and may be unable to do so. Furthermore, Midwest Generation had $1.329bn of notes receivable from EME at June 30 with payments used to meet its rent obligations under the Powerton and Joliet plant sale-leaseback agreements.
If EME is unable to make payments on its notes, Midwest Generation may in turn be unable to make rent payments under the Powerton-Joliet leases. Failure to pay rent would be an event of default under the Powerton-Joliet leases that could result in termination of the leases, loss of control over the use of the Powerton and Joliet plants and a claim for termination value under the lease agreements. Accordingly, if Midwest Generation is unable to obtain financial support from EME or other sources, Midwest Generation may need to file for protection under Chapter 11, the parent company warned. A bankruptcy of either EME or Midwest Generation would also be an event of default under the leases.
Some Midwest Gen coal units getting retrofits, others to be shut
During the second quarter of this year, Midwest Generation continued to develop and implement a compliance program that includes the operation of activated carbon injection (ACI) systems for mercury removal, upgrades to particulate removal systems and the use of dry sorbent injection, combined with the use of low sulfur Powder River Basin coal, to meet emissions limits for criteria pollutants, such as NOx and SO2 as well as for hazardous air pollutants, such as mercury, acid gas and non-mercury metals.
Apart from the Fisk and Crawford coal plants, which will be shut down in September of this year, decisions whether or not to proceed with retrofitting of any particular remaining units to comply with the Illinois Combined Pollutant Standard (CPS) requirements for SO2 emissions, including those that have received permits, are subject to a number of factors, such as market conditions, regulatory and legislative developments, liquidity and forecasted commodity prices and capital and operating costs applicable at the time decisions are required or made.
Midwest Generation may also elect to shut down units, instead of installing controls, to be in compliance with the CPS. Final decisions on whether to install controls, to install particular kinds of controls, and to actually expend capital or continue with the expenditure of capital will be made as required, subject to the requirements of the CPS and other applicable regulations. Units that are not retrofitted may continue to operate for as long as regulations and law allow.
Based on work to date, Midwest Generation estimates the remaining cost of retrofitting the coal-fired Powerton Units 5-6, Joliet Units 7-8 and Will County Units 3-4, using dry scrubbing with sodium-based sorbents and upgrading particulate removal systems, to be about $625m at June 30. It is less likely that retrofits will be made to Joliet Unit 6 and the Waukegan plant. The estimated cost of retrofitting Joliet 6 would be approximately $75m, while the estimated cost of retrofitting Waukegan would be about $160m.
General Electric funding Homer City retrofits
Another issue for EME is the coal-fired Homer City power plant in Pennsylvania. EME Homer City Generation LP (known as simply Homer City) is not expected to have sufficient cash flow to meet its obligations, including funding capital improvements and the rent payment due on Oct. 1. Homer City made the required April 1 senior rent payment but did not make the April 1 payment of equity rent. On March 30, Homer City was granted a waiver by the owner-lessors of any rent default event with respect to the payment of the equity rent for all purposes other than restrictions on distributions from Homer City, including repayment of its intercompany loan, and the $48m senior rent reserve letter of credit remains in place.
“Homer City’s liquidity has continued to deteriorate during the first half of 2012,” the Form 10-Q noted about a plant also in line for expensive environmental retrofits. “[General Electric Capital Corp.], the beneficial owner of a majority of the owner-lessors, has been funding the construction activities associated with the capital improvements and providing other credit support. Homer City is not expected to have sufficient cash flow to meet its operating expenses without continued support from GECC or to fund other obligations during 2012, including the rent payment due on October 1, 2012. This may require Homer City to suspend plant operations until sufficient working capital is obtained.”
On March 29, Homer City and GECC entered into an Implementation Agreement covering the Homer City plant. As addressed by the agreement, an affiliate of the GECC-controlled owner-lessors of the Homer City plant has entered into an engineering, procurement and construction agreement and has executed related agreements for the construction of environmental improvements. GECC has discretion over all decisions related to such construction agreements.
The estimated cost of installing SO2 and particulate emissions control equipment for Units 1 and 2 of the Homer City plant is expected to be $700m to $750m. On April 2, Homer City received the permit to construct such improvements from the state of Pennsylvania.
The agreement also requires Homer City, at the request of GECC, to enter into one or more implementation transactions for the divestiture of its leasehold interest in the Homer City plant (and, under certain circumstances, related assets and liabilities as specified) and to assist GECC in obtaining certain third-party consents or waivers. Homer City and GECC also agreed to enter into a transition services agreement in connection with any implementation transaction.
Certain divestitures of Homer City’s leasehold interest in the plant are subject to consent rights of the holders of the secured lease obligation bonds issued in connection with the original sale-leaseback transaction. GECC is currently engaged in discussions and has reached an agreement in principle on a non-binding restructuring term sheet with certain of the holders of the secured lease obligation bonds regarding amendments to the terms of the 8.137% Senior Secured Bonds due 2019 and the 8.734% Senior Secured Bonds due 2026, each issued by Homer City Funding LLC.
Even though an agreement in principle has been reached with certain holders of the secured lease obligation bonds, that agreement may not be approved by the secured lease obligation bondholders as required under the operative documents to effectuate the necessary modifications to the terms of the bonds, said the Form 10-Q. If an agreement to modify the terms of the bonds is not approved and consummated, then it is possible that EME Homer City Generation could also become the subject of bankruptcy proceedings.