File No. 70-9335
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
AMENDMENT NO. 3
(Post-Effective Amendment No. 1)
to
FORM U-1
APPLICATION OR DECLARATION
under
The Public Utility Holding Company Act of 1935
THE SOUTHERN COMPANY
270 Peachtree Street, N.W.
Atlanta, Georgia 30303
(Name of company or companies filing this statement
and addresses of principal executive offices)
THE SOUTHERN COMPANY
(Name of top registered holding company parent of each
applicant or declarant)
Tommy Chisholm, Secretary
The Southern Company
270 Peachtree Street, N.W.
Atlanta, Georgia 30303
(Names and addresses of agents for service)
The Commission is requested to mail signed copies of all orders, notices
and communications to:
W. L. Westbrook John D. McLanahan, Esq.
Financial Vice President Troutman Sanders LLP
The Southern Company 600 Peachtree Street, N.E.
270 Peachtree Street, N.W. Suite 5200
Atlanta, Georgia 30303 Atlanta, Georgia 30308-2216
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The Southern Company hereby amends its Application or Declaration on
Form U-1 in File No. 70-9335, as heretofore amended, as follows:
(a) By amending and restating Item 1. Description of Proposed
Transactions as follows:
"The Southern Company ("Southern") is a registered holding company
under the Public Utility Holding Company Act of 1935, as amended (the "Act").
Southern proposes to organize and acquire all of the common stock or other
equity interests of one or more subsidiaries (collectively, the "Financing
Subsidiary")1 for the purpose of effecting various financing transactions from
time to time through September 30, 2003 involving the issuance and sale of up to
an aggregate of $1,500,000,000 (cash proceeds to Southern) in any combination of
Preferred Securities, Debt Securities, Preferred Stock, Stock Purchase Contracts
and Stock Purchase Units, as well as its common stock issuable pursuant to such
Stock Purchase Contracts and Stock Purchase Units, all as described herein.
Southern further proposes that it may effect directly (i.e., without the
Financing Subsidiary) any such transaction involving Preferred Securities, Debt
Securities, Preferred Stock, Stock Purchase Contracts or Stock Purchase Units as
described herein.
Southern's consolidated net income for the year ended December 31, 1998
was $977,000,000. Reference is made to note 14 to the consolidated financial
statements included in Southern's Annual Report on Form 10-K for the year ended
December 31, 1998 for certain business segment information. Southern's
_________________
1 It is also proposed that Southern may acquire as a Finance Subsidiary Southern
Company Capital Funding, Inc., currently a wholly-owned subsidiary of Southern
Energy, Inc.
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traditional core business served approximately 3,789,000 retail customers as of
December 31, 1998.
Financing Subsidiary
1.1 Southern will acquire all of the outstanding shares of common stock
or other equity interests of the Financing Subsidiary for amounts (inclusive of
capital contributions that may be made from time to time to the Financing
Subsidiary by Southern) aggregating up to 35% of the total capitalization of the
Financing Subsidiary (i.e., the aggregate of the equity accounts and
indebtedness of the Financing Subsidiary). Such investment by Southern will not
in any event be less than the minimum required by any applicable law. The
business of the Financing Subsidiary will be limited to effecting financing
transactions for Southern and its affiliates. In connection with such financing
transactions, Southern will enter into one or more guarantee or other credit
support agreements in favor of the Financing Subsidiary. Effecting financings
through the Financing Subsidiary would have the benefit of better distinguishing
securities issued by Southern to finance its investments in non-core businesses
from those issued to finance its investments in core business operating
companies. A separate Financing Subsidiary may be used by Southern with respect
to different types of non-core businesses.
Preferred Securities
1.2 In connection with the issuance of Preferred Securities (as
hereinafter defined), Southern or the Financing Subsidiary proposes to organize
one or more separate special purpose subsidiaries as any one or any combination
of (a) a limited liability company under the Limited Liability Company Act (the
"LLC Act") of the State of Delaware or other jurisdiction considered
advantageous by Southern, (b) a limited partnership under the Revised Uniform
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Limited Partnership Act of the State of Delaware or other jurisdiction
considered advantageous by Southern, (c) a business trust under the laws of the
State of Delaware or other jurisdiction considered advantageous by Southern or
(d) any other entity or structure, foreign or domestic, that is considered
advantageous by Southern. The special purpose subsidiaries to be so organized
are hereinafter referred to individually as a "Special Purpose Subsidiary" and
collectively as the "Special Purpose Subsidiaries." In the event that any
Special Purpose Subsidiary is organized as a limited liability company, Southern
or the Financing Subsidiary may also organize a second special purpose
wholly-owned subsidiary under the General Corporation Law of the State of
Delaware or other jurisdiction ("Investment Sub") for the purpose of acquiring
and holding Special Purpose Subsidiary membership interests so as to comply with
any requirement under the applicable LLC Act that a limited liability company
have at least two members. In the event that any Special Purpose Subsidiary is
organized as a limited partnership, Southern or the Financing Subsidiary also
may organize an Investment Sub for the purpose of acting as the general partner
of such Special Purpose Subsidiary and may acquire, either directly or
indirectly through such Investment Sub, a limited partnership interest in such
Special Purpose Subsidiary to ensure that such Special Purpose Subsidiary will
at all times have a limited partner to the extent required by applicable law.
The respective Special Purpose Subsidiaries then will issue and sell at
any time or from time to time preferred securities described hereinbelow (the
"Preferred Securities"), with a specified par or stated value or liquidation
preference per security.
1.3 Southern, the Financing Subsidiary and/or an Investment Sub will
acquire all of the common stock or all of the general partnership or other
common equity interests, as the case may be, of any Special Purpose Subsidiary
for an amount not less than the minimum required by any applicable law and not
exceeding 21% of the total equity capitalization from time to time of such
Special Purpose Subsidiary (i.e., the aggregate of the equity accounts of such
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Special Purpose Subsidiary) (the aggregate of such investment by Southern, the
Financing Subsidiary and/or an Investment Sub being herein referred to as the
"Equity Contribution"). The Financing Subsidiary may issue and sell to any
Special Purpose Subsidiary, at any time or from time to time in one or more
series, subordinated debentures, promissory notes or other debt instruments
(individually, a "Note" and collectively, the "Notes") governed by an indenture
or other document, and such Special Purpose Subsidiary will apply both the
Equity Contribution made to it and the proceeds from the sale of Preferred
Securities by it from time to time to purchase Notes. Alternatively, the
Financing Subsidiary may enter into a loan agreement or agreements with any
Special Purpose Subsidiary under which such Special Purpose Subsidiary will loan
to the Financing Subsidiary (individually, a "Loan" and collectively, the
"Loans") both the Equity Contribution to such Special Purpose Subsidiary and the
proceeds from the sale of the Preferred Securities by such Special Purpose
Subsidiary from time to time, and the Financing Subsidiary will issue to such
Special Purpose Subsidiary Notes evidencing such borrowings.
1.4 Southern or the Financing Subsidiary also proposes to guarantee
(individually, a "Guaranty" and collectively, the "Guaranties") (i) payment of
dividends or distributions on the Preferred Securities of any Special Purpose
Subsidiary if and to the extent such Special Purpose Subsidiary has funds
legally available therefor, (ii) payments to the Preferred Securities holders of
amounts due upon liquidation of such Special Purpose Subsidiary or redemption of
the Preferred Securities of such Special Purpose Subsidiary and (iii) certain
additional amounts that may be payable in respect of such Preferred Securities.
Southern's credit would support any such Guaranty by the Financing Subsidiary.
1.5 Each Note will have a term of up to 50 years. Prior to maturity,
the Financing Subsidiary will pay interest only on the Notes at a rate equal to
the dividend or distribution rate on the related series of Preferred Securities,
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which dividend or distribution rate may be either a fixed rate or an adjustable
rate to be determined on a periodic basis by auction or remarketing procedures,
in accordance with a formula or formulae based upon certain reference rates, or
by other predetermined methods. Such interest payments will constitute each
respective Special Purpose Subsidiary's only income and will be used by it to
pay dividends or distributions on the Preferred Securities issued by it and
dividends or distributions on the common stock or the general partnership or
other common equity interests of such Special Purpose Subsidiary. Dividend
payments or distributions on the Preferred Securities will be made on a monthly
or other periodic basis and must be made to the extent that the Special Purpose
Subsidiary issuing such Preferred Securities has legally available funds and
cash sufficient for such purposes. However, the Financing Subsidiary may have
the right to defer payment of interest on any issue of Notes for up to five or
more years. Each Special Purpose Subsidiary will have the parallel right to
defer dividend payments or distributions on the related series of Preferred
Securities for up to five or more years, provided that if dividends or
distributions on the Preferred Securities of any series are not paid for up to
18 or more consecutive months, then the holders of the Preferred Securities of
such series may have the right to appoint a trustee, special general partner or
other special representative to enforce the Special Purpose Subsidiary's rights
under the related Note and Guaranty. The dividend or distribution rates, payment
dates, redemption and other similar provisions of each series of Preferred
Securities will be substantially identical to the interest rates, payment dates,
redemption and other provisions of the Note issued by the Financing Subsidiary
with respect thereto. The Preferred Securities may be convertible or
exchangeable into common stock of Southern.
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1.6 The Notes and related Guaranties will be subordinate to all other
existing and future unsubordinated indebtedness for borrowed money of the
Financing Subsidiary (or Southern, as the case may be) and may have no
cross-default provisions with respect to other indebtedness of the Financing
Subsidiary (or Southern) - i.e., a default under any other outstanding
indebtedness of the Financing Subsidiary (or Southern) would not result in a
default under any Note or Guaranty. However, Southern and/or the Financing
Subsidiary may be prohibited from declaring and paying dividends on its
outstanding capital stock and making payments in respect of pari passu debt
unless all payments then due under the Notes and Guaranties (without giving
effect to the deferral rights discussed above) have been made.
1.7 It is expected that the Financing Subsidiary's interest payments on
the Notes will be deductible for federal income tax purposes and that each
Special Purpose Subsidiary will be treated as either a partnership or a passive
grantor trust for federal income tax purposes. Consequently, holders of the
Preferred Securities and Southern (and any Investment Sub) will be deemed to
have received distributions in respect of their ownership interests in the
respective Special Purpose Subsidiary and will not be entitled to any "dividends
received deduction" under the Internal Revenue Code. The Preferred Securities of
any series, however, may be redeemable at the option of the Special Purpose
Subsidiary issuing such series (with the consent or at the direction of
Southern) at a price equal to their par or stated value or liquidation
preference, plus any accrued and unpaid dividends or distributions, (i) at any
time after a specified date not later than approximately 10 years from their
date of issuance, or (ii) upon the occurrence of certain events, among them that
(x) such Special Purpose Subsidiary is required to withhold or deduct certain
amounts in connection with dividend, distribution or other payments or is
subject to federal income tax with respect to interest received on the Notes
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issued to such Special Purpose Subsidiary, or (y) it is determined that the
interest payments by the Financing Subsidiary on the related Notes are not
deductible for income tax purposes, or (z) such Special Purpose Subsidiary
becomes subject to regulation as an "investment company" under the Investment
Company Act of 1940, as amended. The Preferred Securities of any series may also
be subject to mandatory redemption upon the occurrence of certain events. The
Financing Subsidiary also may have the right in certain cases or in its
discretion to exchange the Preferred Securities of any Special Purpose
Subsidiary for the Notes or other junior subordinated debt issued to such
Special Purpose Subsidiary.
In the event that any Special Purpose Subsidiary is required to
withhold or deduct certain amounts in connection with dividend, distribution or
other payments, such Special Purpose Subsidiary may also have the obligation to
"gross up" such payments so that the holders of the Preferred Securities issued
by such Special Purpose Subsidiary will receive the same payment after such
withholding or deduction as they would have received if no such withholding or
deduction were required. In such event, the Financing Subsidiary's obligations
under its related Note and Guaranty may also cover such "gross up" obligation.
In addition, if any Special Purpose Subsidiary is required to pay taxes with
respect to income derived from interest payments on the Notes issued to it, the
Financing Subsidiary may be required to pay such additional interest on the
related Notes as shall be necessary in order that net amounts received and
retained by such Special Purpose Subsidiary, after the payment of such taxes,
shall result in the Special Purpose Subsidiary's having such funds as it would
have had in the absence of such payment of taxes.
1.8 In the event of any voluntary or involuntary liquidation,
dissolution or winding up of any Special Purpose Subsidiary, the holders of the
Preferred Securities of such Special Purpose Subsidiary will be entitled to
receive, out of the assets of such Special Purpose Subsidiary available for
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distribution to its shareholders, partners or other owners (as the case may be),
an amount equal to the par or stated value or liquidation preference of such
Preferred Securities plus any accrued and unpaid dividends or distributions.
1.9 The constituent instruments of each Special Purpose Subsidiary,
including its Limited Liability Company Agreement, Limited Partnership Agreement
or Trust Agreement, as the case may be, will provide, among other things, that
such Special Purpose Subsidiary's activities will be limited to the issuance and
sale of Preferred Securities from time to time and the lending to the Financing
Subsidiary or Investment Sub of (i) the proceeds thereof and (ii) the Equity
Contribution to such Special Purpose Subsidiary, and certain other related
activities. Accordingly, it is proposed that no Special Purpose Subsidiary's
constituent instruments include any interest or dividend coverage or
capitalization ratio restrictions on its ability to issue and sell Preferred
Securities as each such issuance will be supported by a Note and Guaranty and
such restrictions would therefore not be relevant or necessary for any Special
Purpose Subsidiary to maintain an appropriate capital structure.
Each Special Purpose Subsidiary's constituent instruments will further
state that its common stock or general partnership or other common equity
interests are not transferable (except to certain permitted successors), that
its business and affairs will be managed and controlled by Southern, the
Financing Subsidiary and/or its Investment Sub (or permitted successor), and
that Southern or the Financing Subsidiary (or permitted successor) will pay all
expenses of such Special Purpose Subsidiary.
1.10 The distribution rate to be borne by the Preferred Securities and
the interest rate on the Notes will not exceed the greater of (i) 300 basis
points over U.S. Treasury securities having comparable maturities or (ii) a
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gross spread over U.S. Treasury securities that is consistent with similar
securities having comparable maturities and credit quality issued by other
companies.
Debt Securities
1.11 Southern proposes that, in addition to, or as an alternative to,
any Preferred Securities financing as described hereinabove, the Financing
Subsidiary may issue and sell Notes directly to investors without an intervening
Special Purpose Subsidiary. It is proposed that any Notes so issued will be
unsecured, may be either senior or subordinated obligations of the Financing
Subsidiary, may be convertible or exchangeable into common stock of Southern or
Preferred Securities, may have the benefit of a sinking fund and otherwise will
have terms and provisions substantially as described hereinabove (the "Debt
Securities"). Debt Securities of the Financing Subsidiary will have the benefit
of a guarantee or other credit support by Southern. Southern will not issue the
Debt Securities unless it has evaluated all relevant financial considerations
(including, without limitation, the cost of equity capital) and has determined
that to do so is preferable to issuing common stock or short-term debt.
1.12 The interest rate on the Debt Securities will not exceed the
greater of (i) 300 basis points over U.S. Treasury securities having comparable
maturities or (ii) a gross spread over U.S. Treasury securities that is
consistent with similar securities having comparable maturities and credit
quality issued by other companies.
Preferred Stock
1.13 It is proposed that the Financing Subsidiary may issue and sell
from time to time shares of its preferred stock (the "Preferred Stock"). Any
such issue of Preferred Stock will have a specified par or stated value per
share and, in accordance with applicable state law, will have such voting powers
(if any), designations, preferences, rights and qualifications, limitations or
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restrictions as shall be stated and expressed in the resolution or resolutions
providing for such issue adopted by the board of directors of the Financing
Subsidiary pursuant to authority vested in it by the provisions of its
certificate of incorporation. The foregoing may include rights of conversion or
exchange into common stock of Southern or Preferred Securities.
The dividend rate on the Preferred Stock will not exceed the greater of
(i) 100% of the yield on U.S. Treasury securities having a maturity of 30 years
or (ii) a gross spread over U.S. Treasury securities that is consistent with
comparable securities. Preferred Stock of the Financing Subsidiary will have the
benefit of credit support by Southern.
Stock Purchase Contracts and Stock Purchase Units
1.14 It is proposed that Southern or the Financing Subsidiary may issue
and sell from time to time stock purchase contracts ("Stock Purchase
Contracts"), including contracts obligating holders to purchase from Southern,
and Southern to sell to the holders, a specified number of shares or aggregate
offering price of common stock of Southern at a future date or dates up to ten
years from the date of issuance. The consideration per share of common stock may
be fixed at the time the Stock Purchase Contracts are issued or may be
determined by reference to a specific formula set forth in the Stock Purchase
Contracts. The Stock Purchase Contracts may be issued separately or as a part of
units ("Stock Purchase Units") consisting of a Stock Purchase Contract and Debt
Securities, Preferred Securities, Preferred Stock or other debt obligations of
third parties, including U.S. Treasury securities, securing holders' obligations
to purchase the common stock of Southern under the Stock Purchase Contracts. The
funds to purchase such obligations would be provided by, and the interest income
thereon would generally be for the benefit of, the investors. The Stock Purchase
Contracts may require Southern or the Financing Subsidiary to make periodic
payments to the holders of the Stock Purchase Units or vice versa (any such
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payments by Southern or the Financing Subsidiary not to exceed 5% per annum),
and such payments may be unsecured or prefunded on some basis. The Stock
Purchase Contracts may require holders to secure their obligations thereunder in
a specified manner.
Use of Proceeds
1.15 The proceeds of any financing by the Financing Subsidiary or any
Special Purpose Subsidiary will be remitted, paid as a dividend, loaned or
otherwise transferred to Southern or its designee. The proceeds of the Preferred
Securities, Debt Securities, Preferred Stock, Stock Purchase Contracts and Stock
Purchase Units will be used to pay dividends to Southern to the extent that may
be permitted under the Act and applicable state law, to acquire the securities
of associate companies and interests in other businesses, including interests in
"exempt wholesale generators" ("EWGs") and "foreign utility companies"
("FUCOs"), all in any transactions permitted under the Act and for other general
corporate purposes, including the reduction of short-term indebtedness. Southern
does not seek in this proceeding any increase in the amount it is permitted to
invest in EWGs and FUCOs."
(b) Item 2. Fees, Commissions and Expenses is hereby amended to read in
its entirety as follows:
"The fees and expenses in connection with theproposed transactions
(other than those described in Item 1 hereof and other than underwriting
discounts and commissions) are estimated not to exceed $2,300,000. Underwriting
discounts and commissions will not exceed 5% of the amount of the securities
issued. The prospectus supplement relating to each offering will reflect the
actual expenses based upon the amount of the related offering."
(c) By adding the following to Item 3 Applicable Statutory Provisions:
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"Southern considers that sections 6(a), 7, 9(a), 10, 12(b), 12(c),
12(f), 32 and 33 of the Act and Rules 42, 45, 46 and 53 thereunder are
applicable to the proposed transactions.
(1) Rule 53 Analysis. The proposed transactions are subject to Rule 53,
which provides that, in determining whether to approve the issue or sale of a
security for purposes of financing the acquisition of an EWG or FUCO, the
Commission shall not make certain adverse findings if the conditions set forth
in Rule 53(a)(1) through (a)(4) are met, and are not otherwise made inapplicable
by reason of the existence of any of the circumstances described in Rule 53(b).
Southern currently meets all of the criteria of Rule 53(a), except for
clause (1). At December 31, 1999, Southern's "aggregate investment," as defined
in Rule 53(a)(1), in EWGs and FUCOs was approximately $2.742 billion, or
approximately 68.41% of Southern's "consolidated retained earnings," also as
defined in Rule 53(a)(1), for the four quarters ended September 30, 1999 ($4.008
billion). With respect to Rule 53(a)(1), however, the Commission has determined
that Southern's financing of investments in EWGs and FUCOs in an amount greater
than the amount that would otherwise be allowed by Rule 53(a)(1) would not have
either of the adverse effects set forth in Rule 53(c). See The Southern Company,
Holding Company Act Release Nos. 26501 and 26646, dated April 1, 1996 and
January 15, 1997, respectively.
In addition, Southern has complied and will continue to comply with the
record-keeping requirements of Rule 53(a)(2), the limitation under Rule 53(a)(3)
on the use of domestic utility subsidiary company personnel to render services
to EWGs and FUCOs, and the requirements of Rule 53(a)(4) concerning the
submission of copies of certain filings under the Act to retail rate regulatory
commissions. Further, none of the circumstances described in Rule 53(b) has
occurred.
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Moreover, even if the effect of the capitalization and earnings of EWGs
and FUCOs in which Southern has an ownership interest upon the Southern holding
company system were considered, there would be no basis for the Commission to
withhold or deny approval for the proposal made in this Application-Declaration.
The action requested in the Proposed Issuance would not, by itself, or even
considered in conjunction with the effect of the capitalization and earnings of
Southern's EWGs and FUCOs, have a material adverse effect on the financial
integrity of the Southern system, or an adverse impact on Southern's
public-utility subsidiaries, their customers, or the ability of State
commissions to protect such public-utility customers.
The Rule 53(c) Order was predicated, in part, upon an assessment of
Southern's overall financial condition which took into account, among other
factors, Southern's consolidated capitalization ratio and the recent growth
trend in Southern's retained earnings. As of December 31, 1995, the most recent
fiscal year preceding the Rule 53(c) Order, Southern's consolidated
capitalization consisted of 49.3% equity (including mandatorily redeemable
preferred securities) and 50.7% debt (including $1.68 billion of long-term,
non-recourse debt and short-term debt related to EWGs and FUCOs). Southern's
consolidated capitalization as of September 30, 1999, was 44.5% equity, 55.5%
debt including all non-recourse debt, and 57.1% equity and 42.9% debt excluding
all non-recourse debt. On a pro forma basis, taking into consideration the
transactions contemplated hereby such ratios are 45.6% and 54.4%, respectively,
for equity and debt. The common equity component of Southern's pro forma
consolidated capitalization represents 34.3% of total capitalization at
September 30, 1999. Both are within accepted industry ranges and within the
limits set by independent rating agencies (such as Standard and Poor's) for "A"
rated utilities.
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Thus, since the date of the Rule 53(c) Order, there has been no
material change in Southern's consolidated capitalization ratio, which remains
within acceptable ranges and limits of rating agencies as evidenced by the
continued "A" corporate credit rating of Southern. Specifically, in January 1997
Standard & Poor's assigned Southern its corporate credit rating of "A," which
was consistent with the implied corporate rating previously held by Southern.
This implied rating had been in effect since May 1995. Therefore, since the
April 1996 issue of the Rule 53(c) Order, the Southern consolidated credit
rating has remained at "A" thereby demonstrating Southern's continued strong
financial integrity. In addition, the underlying ratings of the affiliated
operating companies, which have a strong influence on the Southern corporate
rating, are all "A+" or better. As a point of reference, the percentage of debt
in the total capital structure of the Southern domestic operating utility
companies was 43.7% at September 30, 1999, which is lower than the average for
Standard & Poor's "A" rated vertically integrated utilities. At year end 1998,
according to Standard & Poor's, the average total debt (both long-term and
short-term) for "A" rated electric utilities was 50.4% of total capitalization.
Southern's consolidated retained earnings grew on average approximately
5.5% per year over the last five years. Excluding the $111 million one-time
windfall profits tax imposed on SWEB in 1997 and the write down of assets in
1998, the average growth would be 7.2%. In 1998, consolidated retained earnings
increased approximately $36 million, or slightly less than 1%. Southern's
interests in EWGs and FUCOs have made a positive contribution to earnings in the
three calendar years ending after the issuance of the Rule 53(c) Order.
Accordingly, since the date of the Rule 53(c) Order, the capitalization and
earnings attributable to Southern's investments in EWGs and FUCOs has not had
any adverse impact on Southern's financial integrity.
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(2) Statutory Analysis. A critical, although not exclusive, purpose of
this requested authorization is to permit the refunding of short-term debt
incurred by Southern. Southern currently has authority to issue up to $2 billion
in unsecured short-term debt or term loans for general corporate purposes,
including capital contributions to its subsidiaries and the acquisition of
interests in EWGs, energy-related companies and FUCOs. HCAR No. 26489 (March 13,
1996). Approximately $1.075 billion of such debt is outstanding as of December
31, 1999. In order to maintain a favorable credit rating, Southern periodically
must reduce (or pay off) its short-term debt. Going forward, this will allow
Southern to incur new short-term debt to meet temporary new funding
requirements.
Southern anticipates the need to incur (directly or through
subsidiaries whose debt Southern will guarantee) further short-term debt
throughout the authorization period in order to finance the acquisition of EWGs
in the United States. Southern recently closed the acquisition of EWG generating
plants sold by the Commonwealth Energy System and Eastern Utilities Associates
for $537 million, Pacific Gas & Electric for $850 million, and two New York
utilities for $476.2 million. These acquisitions occurred upon the responsible
state public service commission finding that the divestiture to an EWG of the
nature sponsored by Southern is in the public interest. Southern anticipates
closing substantial EWG generating plant acquisitions during the years for which
this authority is sought. In addition Southern anticipates constructing
substantial new generating capacity during this time frame, both within its
traditional Operating Company Service area and in the domestic markets served by
Southern Energy. To those ends Southern has commenced construction of several
new projects and enlargement and modification of several other facilities to add
generation fueled by natural gas.
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Effective participation in the exempt project markets encouraged by the
amendments to the Act in the Energy Policy Act of 1992, as amended (the "Energy
Policy Act"), require the types of financing flexibility that Southern is
seeking through this application. Both domestic restructuring resulting in the
formation of EWGs and foreign privatization projects resulting in the formation
of FUCOs typically require competitive bidding and negotiations. Prefinancing
therefore is not practical because project specific prefinancing would result in
incurring substantial sunk costs when the likelihood of proceeding with the
particular project is in doubt. Prefinancing is not therefore practical for
acquisitions of this type.
The competitive nature of power generation places a premium on access
to capital at the lowest cost, requiring the type of financing flexibility that
Southern is seeking. Southern's operating company subsidiaries are constructing
new generating capacity and have 2,700 megawatts of such capacity scheduled to
be in place by 2001. The operating company construction programs, which include
transmission, distribution and generation retrofits and expansions through 2001,
exceed $5 billion. Although the operating companies will rely primarily upon
internally generated funds, Southern will need to contribute capital to the
operating companies in order for them to maintain their construction programs at
the lowest reasonable cost. Growth in retail electric service requirements
within the franchised service territories of the electric utility subsidiaries
of Southern is partially responsible for these additions. Southern's operating
company subsidiaries also provide wholesale public utility service, but do so
subject to competitive pressures and opportunities in accordance with the
restructuring of wholesale public utility service sponsored by the Federal
Energy Regulatory Commission ("FERC"). Southern intends to compete for wholesale
service opportunities.
Southern believes that the generating plants it is constructing will
enable its operating companies to produce electricity at competitive prices,
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provided that competitively-priced financing can be achieved. Both the
convergence of gas and electric markets and the increase in energy competition
have rendered arbitrary impediments to efficient financing contrary to the
public interest. In today's competitive energy markets, any such impediment
represents an unreasonable financial burden upon Southern's ability to undertake
necessary and urgent corporate purposes. Such impediments also are not necessary
or appropriate in the public interest or for the protection of investors or
consumers. As public utility markets and service have restructured, largely
through structurally separating elements of public utility service such as
energy marketing, power generation (i.e., EWGs) and energy services from those
elements deemed necessarily natural monopoly in nature (i.e., transmission
service), the Commission has recognized that financing at the holding company
level, whether directly or through subsidiaries, is required to support such
restructured operations consistent with evolving regulatory and business
structures. Interstate Energy Corporation, HCAR No. 26956 (December 18, 1998);
Ameren, Inc., HCAR No. 26841 (March 15, 1998); American Electric Power, HCAR No.
26933 (November 2, 1998); Consolidated Natural Gas Co., HCAR No. 26634 (December
26, 1996); Conectiv, HCAR No. 26833 (February 26, 1998); Cinergy Corp., HCAR No.
26819 (January 20, 1998); Southern Company, HCAR No. 26488 (February 2, 1996).
In The Southern Company, HCAR No. 26489 (March 13, 1996), the Commission
(through the Division of Investment Management acting pursuant to delegated
authority) authorized the issuance of up to $2 billion of term loans by Southern
for purposes substantially identical to those identified herein and thereby
facilitated Southern's participation in energy markets emerging in part as a
result of the Energy Policy Act. The authority sought herein is consistent with
Southern's previous authorization.
The issuance of common stock, long-term debt, short-term debt and other
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securities by Southern is subject to Sections 6 and 7 of the Act. Section 6(a)
provides in relevant part that it is unlawful for a registered holding company
or subsidiary of a registered holding company to issue a security except in
accordance with a declaration under Section 7 and with the order under such
Section permitting such declaration to become effective or except pursuant to
applicable exemption or exception. Section 6(b) exempts a limited amount of
short-term debt, which amount may be increased with Commission approval.
Section 7(c) sets forth the requirements to be met for the issuance of
securities by registered public utility holding companies. Subparagraph (1)
establishes a presumption that a holding company will issue only common stock or
secured debt:
7(c) The Commission shall not permit a declaration regarding the
issuance or sale of a security to become effective unless it finds
that:
(1) such security is (A) a common stock having a par
value and being without preference as to dividends or
distributions over and having at least equal voting
rights with any outstanding security of the
declarant; (B) a bond (i) secured by a first lien on
physical property of the declarant; or (ii) secured
by an obligation of a subsidiary company of the
declarant secured by a first lien on physical
property of such subsidiary company; or (iii) secured
by any other assets of the type and character which
the Commission by rules and regulations or order may
prescribe as appropriate in the public interest or
for the protection of investors; (C) a guaranty of,
or assumption of liability on, a security of another
company; or (D) a receiver's or trustee's certificate
duly authorized by the appropriate court or courts.
In addition, subparagraph (2) of Section 7(c) permits other securities
to be issued if certain criteria are met:
(2) such security is to be issued or sold solely (A) for
the purpose of refunding, extending, exchanging, or
discharging an outstanding security of the declarant
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and/or a predecessor company thereof or for the
purpose of effecting a merger, consolidation or other
reorganization; (B) for the purpose of financing the
business of the declarant as a public-utility
company; (C) for the purpose of financing the
business of the declarant, when the declarant is
neither a holding company nor a public-utility
company; and/or (D) for necessary and urgent
corporate purposes of the declarant where the
provisions of (1) would impose an unreasonable
financial burden upon the declarant and are not
necessary or appropriate in the public interest or
for the protection of investors or consumers.
Even if a security meets the requirements of Section 7(c), the
Commission may (and must) decline to allow the declaration to be effective if it
makes any of the negative findings enumerated by Section 7(d) of the Act, which
are discussed below.
A. To the Extent Southern Seeks Refunding Authority, its
Declaration Should Be Rendered Effective Pursuant to Section
7(c)(2)(A).
Section 7(c)(2)(A) permits the Commission to authorize the issuance of
debt by a holding company for the purpose of refunding outstanding securities.
Neither the structure of the Act nor its legislative history presents any basis
to apply this provision other than in accordance with its plain meaning.
The requirements of Section 7(d) apply to debt issued for refunding
purposes as well as to any other security issuance authorized under Section 7.
Thus the Commission can deny the effectiveness of a declaration seeking
refunding authority if it finds any of the following:
(d)(1) the security is not reasonably adapted to the security
structure of the declarant or its system
(d)(2) the security is not reasonably adapted to declarant's earning
power
(d)(3) the financing by the issue and sale of the particular security
is not necessary or appropriate to the lawful operations of
declarant
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(d)(4) the commissions or fees are unreasonable
(d)(5) a guarantee represents an inappropriate risk
(d)(6) the terms and conditions of the issue or sale of the security
are detrimental to the public interest or the interests of
investors or consumers.
Thus a holding company cannot evade financial regulation through
issuing short-term debt exempt under Section 6(b) and refunding it with
long-term debt issued pursuant to Section 7(c)(2)(A) because Section 7(d)
empowers the Commission to prevent abuses of financing authority. That the
negative findings of Section 7(d) are rarely made by the Commission is due in
part to the efficiency of modern capital markets, including public registration
and disclosure, established accounting standards and market intelligence,
including information provided by rating agencies. The Commission acknowledged
the significance of these developments when it held the Statements of Policy
previously prescribed by the Commission to be obsolete and rescinded the same.
See, e.g. Exemption of Issuance and Sale of Securities By Public-Utility and
Nonutility Subsidiary Companies of Registered Public-Utility Holding Companies,
HCAR No. 26312 (June 20, 1995) ("as the securities markets have developed, the
Commission has found that the Statements of Policy have become anachronistic and
hinder the ability of registered companies to raise capital.") These securities
market developments also remove any potential justification for applying a
restrictive interpretation to the plain meaning of refunding authority conferred
by Section 7(c)(2)(A). To the contrary, these developments justify giving effect
to the plain meaning of Section 7(c)(2)(A). No floodgates will be opened that
will result in recreating the evils the Act was intended to prevent by giving
effect to the plain meaning of Section 7(c)(2)(A).
B. To the Extent Southern Seeks Authority Beyond Refunding, the
Emergence of Competitive Energy Markets Warrants Rendering the
Declaration Effective Pursuant to Section 7(c)(2)(D) and the
Final Clause of Section 7(c)(2)(A).
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Section 7(c)(2)(D) of the Act authorizes the Commission to
issue an order permitting the issuance of a security not complying with Section
7(c)(1); provided that the proposed security is for necessary and urgent
corporate purposes of the declarant and that the provisions of Section 7(c)(1)
would impose an unreasonable financial burden upon the declarant and are not
necessary or appropriate in the public interest or for the protection of
investors or consumers. Southern submits that the proposed financings are for a
necessary and urgent corporate purpose resulting from the competitive nature of
the energy markets within which Southern must compete. In addition, certain
non-utility subsidiaries of Southern are unable to secure financing for their
operations on their own and thus must look to Southern to obtain such funds.
Also, compliance with the provisions of Subparagraph (1) of Section 7(c) would
impose an unreasonable financial burden on the declarant by imposing a more
costly and unnecessary means of raising needed capital. Compliance with the
provisions of Subparagraph (1) of Section 7(c) is not necessary or appropriate
in the public interest or for the protection of investors or consumers. The
Southern Company, HCAR No. 26489 (March 13, 1996), represents recognition by the
Commission that debt financing at the holding company level was appropriate in
light of the conditions of modern energy markets. As shown herein, ample
additional authority supports this conclusion and its application herein.
1. The Proposed Financing Is Required for Necessary
and Urgent Corporate Purposes of the Declarant.
Section 1(c) of the Act directs the Commission to apply the provisions
of the Act with a goal towards eradicating the evils enumerated in Section 1(b)
of the Act. As the legislative findings of Section 1(b) demonstrate, the
presumption embedded in the Act against holding company debt reflected concerns
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with investor information and the adequacy of accounting systems. As the
Commission has recognized on numerous occasions, advances in investor
disclosure, regulatory information and accounting standards have eradicated
these evils. As a result, the Commission should permit the business goal of
lowering the cost of capital to exercise a greater persuasive power today than
when rigidity in permitted capital structures was deemed necessary in order to
protect investors and assure adequate public oversight. As shown herein, the
Commission has in fact administered Section 7(c)(2)(D) in accordance with a more
flexible standard than indicated by some of the verbiage included in early
releases applying the Act. The emergence of increased direct competition among
energy suppliers has now increased the need to be able to access capital markets
competitively and without artificial non-market-based restrictions.
The market within which Southern competes for business is increasingly
competitive. As stated by the Commission in the release adopting Rule 58 (HCAR
No. 26667):
As a result of Congressional action, combined with
initiatives of the Federal Energy Regulatory Commission and
state and local ratemaking authorities, the pace of change in
the gas and electric utility industry is accelerating. Today
the gas industry is largely deregulated and the electric
industry is undergoing a similar process. In addition to
increasing competition at the wholesale level, retail electric
competition is developing more rapidly than anticipated due to
state efforts. Utilities and other suppliers of energy appear
poised to compete in retail markets. As a result of these
developments, the contemporary gas and electric industries no
longer focus solely upon the traditional production and
distribution functions of a regulated utility, but are instead
evolving toward a broadly based, competitive, energy services
business.
The Commission has recognized the convergence of competitive energy
markets and a heightened need to avoid high cost structures in today's
competitive environment in its recent orders approving the retention of natural
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gas distribution systems by integrated electric utility systems. WPL Holdings,
Inc., HCAR No. 26856 (April 14, 1998), citing New Century Energies, Inc., HCAR
No. 26748 (August 1, 1997) ("The Commission reconsidered and rejected the
emphasis in many of its earlier cases upon evidence of a severe, even crippling,
effect of divestment upon the separated system. The Commission stated that this
approach is outmoded in the contemporary utility industry.") See also Conectiv,
Inc., HCAR No. 26836 (February 25, 1998); Ameren Corp., HCAR No. 26809 (December
30, 1997); Cinergy, HCAR No. 26934 (November 21, 1998).
Southern emphasizes that "traditional" or "core" public-utility
operations are becoming more competitive, even in states that have not
undertaken restructuring. The effect of universal wholesale power transmission
access sponsored by FERC Order 888 has been to render wholesale power markets
highly competitive, with the result that competitive bulk power markets now
provide electricity for much of the nation. The breadth of competition is
reflected in orders issued by the FERC granting market-based rate authority to
hundreds of wholesale power marketers in every region of the country.2 As a
result of these developments, largely arising as a result of the Energy Policy
Act, competitive energy marketing is rapidly achieving a predominant role and
____________________
2 The Federal Energy Regulatory Commission grants market-based rate
authority upon finding that workable competition exists in the affected bulk
power markets because the applicant cannot exercise either generation-based or
transmission-based market power, cannot engage in affiliate abuses and cannot
effect other barriers to entry. Heartland Energy Services, Inc., 68 FERC P.
61,223 at 62,062-63 (1994). Both Southern Company Services, Inc., acting on
behalf of the operating company public-utility subsidiaries of Southern, and
Southern Energy Trading and Marketing, Inc. have nationwide market-based rate
authority. See e.g. Southern Company Services, Inc., 75 FERC P. 61,130 (1996).
Equivalent national market-based rate wholesale marketing authority has been
conferred by FERC on over 50 major electric utilities and systems, including
Ameren, American Electric Power, Duke Power, CSW, Inc., Cinergy, Entergy and
Virginia Electric and Power Company. Among the hundreds of bulk power marketers
authorized to sell power at market-based rates are companies formed by AES
Corporation, Amoco, AGL Resources (Atlanta Gas Light), Atlantic Refining and
Marketing Company, Bechtel Power Corporation, Calenergy, Calpine Corporation,
Catex Vitol Gas, Inc., Consolidated Natural Gas Corporation, Columbia Gas
Systems, Inc., Chevron Corp., Compagnie General des Eaux, Enron Corp., Goldman,
Sachs & Co., John Hancock Mutual Life Insurance Company, Morgan Stanley Dean
Witter, National Fuel Gas Corporation, National Power PLC, Ontario Hydro,
PanCanadian Petroleum Limited, Panda Energy, Sovat, Inc., Texaco, Inc.,
Tractabel, Inc., Waste Management, Inc., Wheelabrator Technologies, Inc. and The
Williams Companies, Inc.
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influence upon service to end-users. In New Century Energies, Inc., HCAR No.
26748 (August 1, 1997), the Commission noted that the "empirical basis" for
regulatory assumptions premised on franchised monopoly service "is eroding."
Even where "franchised monopolies" still govern retail electric service, there
are no "franchised monopolies" with respect to wholesale service. Wholesale
power competition is now the rule, rather than the exception. As is shown below,
the structural changes encouraged (and required) by Congress, the Commission,
FERC and numerous states amounts to a "reorganization" within the meaning of
Section 7(c)(2)(A) of the Act. As shown herein, the competitive pressures
produced by this environment support finding that the purposes are "necessary
and urgent" within the meaning of Section 7(c)(2)(A).
An early interpretation of Section 7(c)(2)(D), Eastern Utilities
Associates, HCAR No. 13886 (December 15, 1958), stated that the intent behind
Section 7(c)(2)(D) was only to permit "pyramiding" of debt in "essentially
emergency situations." The legislative history relied upon by that decision was
predated by the final version of the Act and does not address the compromises
necessary to pass the Act that enlarged the discretion of the Commission,
including the addition of Section 7(c)(2)(D). More fundamentally, the 1958
decision did not address the most fundamental aspect of the legislative revision
process, the removal of the so-called "death sentence" of the original
Wheeler-Rayburn bill, which was structured "to whittle down and ultimately
eliminate public utility holding companies." Cong. Rec., 74th Cong., 1st Sess.
(1935), p. 1569. Thus, as enacted, the Act acknowledged the need for flexibility
in its interpretation in order to guide the ongoing regulation of robust holding
companies, instead of presiding over their demise. In addition to the general
authority vested in an administrative agency to interpret its enabling
legislation, the Commission has repeatedly noted that the Act "creates a system
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of pervasive and continuing economic regulation that must in some measure at
least be refashioned from time to time to keep pace with changing economic and
regulatory climates." Union Electric Co., 45 S.E.C. 489, 503 n. 52 (1974), aff'd
sub nom. City of Cape Girandeau v. SEC, 521 F.2d 324 (D.C. Cir. 1975), cited
with approval in Eastern Utilities Associates, HCAR No. 26232 (February 15,
1995) and Consolidated Natural Gas Company, HCAR No. 26512, fn. 29 (April 20,
1996). See also The Southern Company, HCAR No. 25639 (September 23, 1992).
The vital role of registered holding companies in emerging energy
markets was confirmed by Congress through a series of enactments, culminating in
the Energy Policy Act. The Commission traced these legislative developments in
its implementation of the Energy Policy Act. The Commission expressed its
interpretation of the enormous change wrought by Congress as follows:
The Congress in 1935 did not foresee the changes that have
taken place in recent years. Since the enactment of the Public
Utility Regulatory Policies Act of 1978, the traditional
vertically-integrated structure of the industry has begun to
give way as utilities are increasingly relying on purchased
power from so-called independent power producers. In addition,
sweeping political and economic changes worldwide have created
a large demand for American utility expertise and significant
investment opportunities for United States companies.
As the industry adapts to this new market environment,
regulators face new challenges. Prior to enactment of the
Energy Policy Act of 1992, the Commission attempted to
accommodate these changes within the framework of existing
law. In its orders, the Commission sought to protect the
interests of domestic utility consumers and investors, while
permitting acquisitions of foreign utility operations. The
staff also discussed various approaches to the Act with
developers of domestic independent power projects.
Title VII of the new legislation amends the Act to create two
new classes of exempt entities, exempt wholesale generators
("EWGs") and foreign utility companies. By exempting these
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entities from all provisions of the Act, and providing for the
acquisition of EWGs without prior Commission approval, the
legislation is intended to facilitate the participation of
domestic companies in independent power production and foreign
utility investment, activities to which the Act previously
raised significant barriers.
HCAR No. 25750 (March 8, 1993) (footnotes omitted).3
Thus the interpretation and application of the financial regulation
provisions of the Act should, as required by Section 1(c) of the Act, hew
closely to the legislative findings of Section 1(b) that link concerns with
financial structure and the quality of securities to the inadequacy of
disclosure in 1935 and otherwise permit holding companies to compete for capital
on an efficient basis.
Moreover, the authority sought herein is not inconsistent with the
Eastern Utilities Associates decision. In its 1958 order, the Commission
rejected the showing of necessary and urgent corporate purposes based on the
availability of short-term debt to meet the applicant's needs. As shown herein,
a major purpose of this application is to minimize the role of short-term debt
in Southern's capitalization. The 1958 decision also found that dilution of
equity was an insufficient hardship to issue debt, a position the Commission has
not followed. See e.g. Eastern Utilities Associates, HCAR No. 20916 (February 7,
1979), discussed in Eastern Utility Associates, HCAR No. 24641 (May 12, 1988).
As is illustrated by The Southern Company, HCAR No. 26489
(March 13, 1996), the Commission has previously authorized registered holding
companies to issue long-term debt securities for non-emergency purposes other
than refunding, including those with subsidiaries with substantial long-term
____________________
3 In reaching its conclusion, the Commission expressly
noted the legislative history of the Energy Policy Act, citing the statements of
Sen. Wallop, Cong. Rec. 517615 (October 8, 1992) ("Section 32 is intended to
streamline and minimize federal regulation") and Sen. Riegle, Cong. Rec. 517629
(October 8, 1992) ("the purpose of Section 33 is to facilitate foreign
investment, not burden it").
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debt. Cinergy, a registered holding company whose primary integrated public-
utility system is electric, is the most recent example. Cinergy Corp., HCAR No.
26819 (January 20, 1998). See also Conectiv, HCAR No. 26833 (February 26, 1998);
Conectiv, HCAR No. 26930 (October 21, 1998); Ameren, Inc., HCAR No. 26841 (March
15, 1998) ("other securities" authorized include multi- year unsecured debt).4
The Commission has also authorized the formation of financing subsidiaries that
issue debt predicated upon the credit of a registered holding company. American
Electric Power, HCAR No. 26200 (February 4, 1994); American Electric Power, HCAR
No. 26516 (May 10, 1996); New England Electric System, HCAR No. 26729 (June 10,
1997); New Century Energies, Inc., HCAR No. 26750 (August 1, 1997); New Century
Energies, Inc., HCAR No. 26872 (May 14, 1998); The Columbia Gas System, Inc.,
HCAR No. 26634 (December 26, 1996); Consolidated Natural Gas Company, HCAR No.
26500 (January 16, 1998); GPU, Inc., HCAR No. 26800 (December 22, 1997); The
Southern Company, HCAR No. 26488 (February 2, 1996). As the Commission has
recognized in its administration of the Investment Company Act of 1944, as
amended (the "Investment Company Act"), such debt is the functional equivalent
of debt issued by the parent. Exemption From All Provisions Of the Investment
Company Act of 1940 For Certain Finance Subsidiaries, Rel. No. IC-12679, 26
S.E.C. Docket 273 (1982).5
________________________
4 In addition, exempt holding companies use both holding company debt and
finance subsidiary debt to support investments in EWGs, FUCOs and competitive
enterprises. An example is Public Service Enterprise Group, Inc. which itself
issued $800 million of debt (including trust preferred securities) in 1998,
following issuances of debt by its finance subsidiary PSEG Capital Corp. in
1997. Its electric utility subsidiary Public Service Electric & Gas has
substantial debt outstanding. Texas Utilities is an exempt holding company that
has issued debt (including 10 year senior notes and 30 year trust preferred
securities) to finance investments in FUCOs while its electric utility
subsidiary issued in excess of $1 billion of debt in the same time period. These
financial structures have resulted in no action by the Commission under the
"unless and except" clause of Section 3(a) of the Act.
5 Southern Energy,Inc.currently has the authority to declare as a dividend and
transfer the common stock of Southern Energy Finance to Southern, which would
result in substantially the configuration sought herein, although Southern
Energy Finance would be restricted to financing EWGs and FUCOs. The authority
sought herein essentially seeks to allow Southern to accomplish directly what
the Commission has previously authorized other registered companies to
accomplish indirectly.
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In the current context of emerging national energy markets, the ability
to access capital markets at the lowest costs to finance energy asset
development represents a necessary and urgent corporate purpose. Although
traditional service franchises with vertical integration (to the extent
permitted by FERC) still play a role in electric utility service (and may
continue to do so), FERC has largely implemented a new regulatory paradigm at
the bulk power level (as it did with respect to natural gas service) under which
components of service deemed potentially competitive are "unbundled" from those
components deemed to posses natural monopoly characteristics. The evolution of
this antitrust-influenced paradigm that results in new forms of competition
significantly contributing to energy supply and public-utility service is traced
in Kearney & Merrill, "The Great Transformation of Regulated Industries Law," 98
Col. L. Rev. 1323 (1998).6 The evolution is also traced in FERC Order 888, FERC
Stats. & Regs. (CCH) P. 31,036, at 31,652 (1996). See also Black & Pierce, "The
Choice Between Markets and Central Planning in Regulating the U.S. Electric
Industry, 1193 Col. L. Rev. 1339 (1993). This paradigm, derived first from the
antitrust-driven restructuring of telecommunications services, was applied to
natural gas transmission service, and electric power service is currently
following in the path of natural gas service. The Energy Information
Administration of the Department of Energy has chronicled the restructuring of
United States electric power service in detail in The Changing Structure of the
Electric Power Industry: An Update (July, 1998), specifically noting the role of
__________________________
6 The structural separation of competitive enterprises and franchised natural
monopoly operations follows the precedent established by the reorganization of
AT&T and the Regional Bell Systems, which has typically resulted in a regional
holding company, such as Bell South Corporation, guaranteeing debt issued by a
capital funding subsidiary, such as Bell South Capital Funding, which issued
$500 million of 100 year debentures in 1997 and $300 million 10 year bonds in
1998 to finance highly competitive enterprises while its Bell South
Telecommunications subsidiary, which provides regulated local exchange service,
issued in excess of $1 billion in debt during the same time period. The same
pattern is exhibited by U.S. West, Bell Atlantic and SBC Communications. The
evolution towards this financial structure is natural and efficient and results
from the structural segregation of competitive and public franchise operations.
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divestiture of generation by traditional vertically-integrated public-utilities
and the role of open access to transmission and distribution systems. Id. at 4,
8. See also Pierce, Richard J., "Antitrust Policy in The New Electric Industry,"
17 Energy L. J. 29 (1996); Pierce, Richard J., "The State of Transition to
Competitive Markets in Natural Gas and Electricity," 15 Energy L.J. 323 (1994).
The Commission has recently reviewed the status of restructuring in California
and New England. Sempra Energy, HCAR No. 26890 (June 26, 1998); New England
Electric System, HCAR No. 26918 (September 25, 1998). That FERC and many states
have elected to rely more on markets than fully regulated utility service and to
follow in a general fashion the direction set by natural gas restructuring does
not lessen the importance of power generation ownership and operations to the
supply of public-utility service. As a result of domestic economic growth,
enormous net additions to generating capacity will be required. See e.g., "Price
Driven Merchant Market In The U.S.," March 20, 1998, Global Power Report at 5
(150,000 MW of new capacity for North America projected between 2007-2010). This
increased demand will largely be met through natural gas-fired combustion
turbine and combined cycle plants. Power Economics, supra; Energy Information
Agency, Challenge of Electric Power Restructuring For Fuel Suppliers (U.S.
Department of Energy, September 1998). Thus the energy utility industry is faced
with enormous challenges as significant asset investments must be met in the
context of restructuring designed to limit the role of franchised utilities to
service delivery, as opposed to energy production and sales. The "emergency
only" rhetoric of certain decisions notwithstanding, the Commission has applied
Section 7(c)(2)(D) of the Act to authorize holding company debt for authorized
holding company system operations when management has shown that debt could
provide advantageous financing. As Columbia Gas Systems, Inc., HCAR No. 12458
(April 13, 1954), noted, twelve ordinary course debt financings (thirteen
counting the debentures authorized therein) were authorized under Section
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7(c)(2)(D) of the Act. The current restructuring impetus is no less significant
than the post-war expansion of natural gas pipeline systems facilitated by the
Commission's policies concerning debt issuances by natural gas systems.
Divestiture and efficient acquisition, operation and redevelopment of power
generation are integral components of utility regulatory programs that have been
implemented in the Northeast, Midwest and West, all markets within which
Southern competes. Obtaining generation and market opportunities in these
markets based upon the merits (as opposed to based upon impediments to
financing) reflects a "necessary and urgent" corporate purpose as surely as
traditional service area construction in the case of Eastern Utilities
Associates, HCAR No. 24641 (May 12, 1988) and Northeast Utilities, HCAR No.
19519 (May 7, 1976) (long-term notes) or participation in the extension of
national natural gas pipeline networks at issue in The Columbia Gas System,
Inc., HCAR No. 12458 (April 13, 1954) (convertible subordinated debenture
approved).
2. Compliance with Section 7(c)(1) Would Impose an
Unreasonable Burden upon Southern.
Southern's direct competitors are able to lower their effective cost of
capital by accessing new forms of unsecured debt which are deeply subordinated
and have deferral provisions that cause rating agencies to credit this debt as
though it were equity within the capital structure. Enron and Texaco were among
the first energy companies to avail themselves of these new products. Gerger &
Schmitz, "The Influence of Tax Laws on Securities Innovation in the United
States 1981-1997," 52 Tax L. Rev. 119 (1997). The Commission has recently
authorized competing holding company systems, Conectiv and Cinergy, to issue
debt at the holding company level in order to enhance their competitive posture.
Cinergy Corp., HCAR No. 26819 (January 20, 1998); Conectiv, HCAR No. 26833
(February 26, 1998). The use of the proceeds of these financings is not
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restricted to the natural gas operations of these combination holding companies.
Rendering this declaration effective would merely avoid the arbitrary imposition
of financing restrictions upon selected registered holding companies when each
competes with the others in energy markets and all are subject to the scrutiny
of modern securities markets.
The financing cost differential between equity and either unsecured
debt or trust preferred securities is very substantial. Failure to approve the
application would result in a substantial financing cost burden on Southern.
Southern's current cost of equity is approximately 13.5%. The interest cost
associated with trust preferred securities with a forty year maturity is
approximately 8.75%. The interest rate associated with ten year debt issued by
Southern (or a financing subsidiary guaranteed by Southern) is approximately 8%.
In addition, Southern considers that its common stock is currently undervalued
and that it would be preferable to issue new common stock when market prices
more realistically reflect its value.
Exclusive reliance on short-term debt subjects the issuer to interest
rate fluctuations and limits the ability to realize the economic value of
long-term assets. Short-term loan agreements also typically subject the issuer
to more restrictive covenants than are prevalent in long-term financing.
Exclusive reliance on equity will increase the after-tax cost of capital and
will, in the short-term, dilute earnings per share. As noted above, certain new
debt instruments combine deep subordination and payment deferral options to
minimize the inflexibility traditionally associated with long-term debt, and
such products are typically treated as the substantial equivalent of equity by
rating agencies for capital structure risk assessment purposes. 52 Tax L. Rev.
119, supra. Although Southern intends to rely primarily on a financing
subsidiary to issue authorized securities, it seeks authority to do so directly
in such circumstances it may deem to be more appropriate in light of
circumstances, such as market conditions and transaction costs. As noted above,
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the Commission has previously recognized that financing flexibility of this
nature is needed by Southern. The Southern Company, HCAR No. 26488 (February 2,
1996); The Southern Company, HCAR 26489 (March 13, 1996).
Southern's direct competitors in energy markets, and especially
domestic bulk power markets, are able to access capital in the most efficient
fashion. In addition to exempt holding companies (i.e., Enron, Duke and Reliant
Industries) and non-public-utility participants (i.e., Atlantic Refining, Amoco
and Texaco), other registered holding company systems engaged in electric power
marketing and energy marketing in competition with Southern. See e.g. Columbia
Gas System, Inc., HCAR No. 26634 (December 26, 1996); Consolidated Natural Gas
Company, HCAR No. 265400 (January 16, 1996); Cinergy Corp., HCAR No. 26819
(January 20, 1998); Conectiv, HCAR No. 26833 (February 26, 1998); Ameren, HCAR
No. 26841 (March 15, 1978). As noted above, the relative disadvantage of
diluting equity versus obtaining economic debt have previously justified finding
compliance with Section 7(c)(1) of the Act to constitute an unreasonable burden.
Given the amplification of this burden by competitive pressures, the pending
application satisfies the applicable statutory standard.
3. Compliance with Section 7(c)(1) Is Neither Necessary nor Appropriate
to the Fulfillment of the Purposes of the Act.
As the Commission has previously determined, restrictive interpretation
of Section 7 of the Act, as effectively prohibiting multiple levels of debt
within a holding company system no longer is warranted. Section 7(b)(1) of the
Act firmly links investor protection to the inability of investors to "obtain
the information necessary to appraise the financial position or earning power of
the issuers... ." Section 1(c) of the Act requires the Commission to construe
and apply "to meet the problems and eliminate the evils as enumerated" in
Section 1(b). When the Commission adopted an "emergency only" construction of
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Section 7(c)(2)(D) of the Act, the effects of securities disclosure requirements
were not fully realized. Many public-utility company securities were not subject
to annual reporting requirements until 1964. Securities and Exchange Commission,
Division of Investment Management, The Regulation of Public-Utility Holding
Companies (June 1995) 132. In adopting amendments to Rule 52 in 1992, the
Commission acknowledged that the purpose of avoiding "pyramiding" of debt was
tied to the absence of adequate disclosure. The Commission responded to the
evolution of the securities markets and improved disclosure by removing
condition six to the Rule 52 exemption:
Condition (6) provides that a public-utility subsidiary
company may issue and sell securities to non-associates only
if its parent holding company has issued no securities other
than common stock and short-term debt. All eight commenters
that considered this condition recommended it be eliminated.
They noted that it may be appropriate for a holding company to
issue and sell long-term debt and that such a transaction is
subject to prior Commission approval. They further observed
that other controls that did not exist when the statute was
enacted, provide assurance that such financings will not lead
to abuse. These include the likely adverse reaction of rating
agencies to excessive amounts of debt at the parent holding
company level and the disclosure required of companies seeking
public capital. The Commission agrees with these
observations... .
As this Commission finding demonstrates, the securities market
conditions that warranted the "emergency only" application of Section 7(c)(2)(D)
of the Act, as exemplified by Eastern Utilities Associates, 38 SEC 728 (1958),
no longer exist. The pending application specifies the standard as applied by
the Commission in the context of modern securities markets.
4. The Emergence of Competitive Energy Markets and
Corporate Structures Responsive to the New
Environment Effectively Constitutes a
"Reorganization" under Section 7(c)(2)(A) of the Act.
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As noted above, the FERC has implemented a restructuring of the
electric power industry, including the bulk power components of public-utility
operations. This restructuring requires the functional unbundling of generation,
power sales and marketing from power delivery. The Energy Policy Act has
facilitated implementing "unbundled" wholesale power generation through
structurally separate EWGs, declaring in Section 32(h)(2)(2) of the Act that
their ownership and operation is "consistent with the operation of an integrated
public utility system." The Commission has previously recognized the
reorganization needed to respond to the new legal and market environments. See
e.g. Southern Company, HCAR No. 26489 (March 13, 1996); Interstate Energy
Corporation, HCAR No. 26956 (December 18, 1998); Ameren, Inc., HCAR No. 26841
(March 15, 1998); American Electric Power, HCAR No. 26933 (November 2, 1998);
Consolidated Natural Gas Co., HCAR No. 26634 (December 26, 1996); Conectiv, HCAR
No. 26833 (February 26, 1998); Cinergy Corp., HCAR No. 26819 (January 20, 1998);
The Southern Company, HCAR No. 26488 (February 2, 1996). The authority sought
herein is consistent with the financial requirements of the process of
reorganization previously acknowledged by the Commission.
C. The Use of a Financing Subsidiary which Remits the Proceeds of
Financings to Southern is Consistent with the Act.
Southern is further seeking authority to form a special purpose
financing subsidiary as a direct subsidiary of Southern. Although Southern
anticipates that it may also issue debt securities directly, Southern
anticipates that the majority of its debt financing and refinancing will be
carried out through the proposed wholly-owned subsidiary. The purpose of this
financing subsidiary is to facilitate otherwise authorized financings by the
Southern electric system, specifically through the use of otherwise authorized
financial guarantees issued by Southern.
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The proposed financing subsidiary will facilitate the Southern electric
system's access to new financial products that seek to minimize the financial
inflexibility traditionally associated with debt, while preserving for the
issuer the lower after tax cost of capital associated with debt. The financing
subsidiary will not extend its credit (it will have none). Instead, the
registered holding company will extend its credit through an authorized
guarantee. The financing subsidiary authority sought herein will result in no
authority to issue securities under Rule 52 of the Act independent of authority
conferred upon Southern.
The legislative history of the Act indicates a grave concern with
public-utility subsidiaries and subsidiary public-utility holding companies
("sub-holding companies") lending their credit to a holding company, but no
intent to restrict the holding company from lending its credit to otherwise
authorized business activities. The Act therefore specifically authorizes the
issuance of guarantees by registered holding companies.
The legislative history of Section 12(a) of the Act indicates that
"subsidiaries" were included within the prohibition of upstream loans to holding
companies in order to capture both public-utility operating companies and
"sub-holding companies" that were their immediate parents. Report of National
Power Policy Committee on Public Utility Holding Companies, 74th Cong. 1st
Sess., H. Rep. No. 137 (March 12, 1935) ("Holding companies should immediately
be prevented from borrowing from sub-holding companies or from operating
companies in the same holding company system.") See also 74th Cong. 1st Sess.
Cong. Record, June 27, 1935, at 10323. ("Loans by operating companies are
sometimes called upstream loans."); House. Rep. No. 1318, 74th Cong. 1st
Session, June 24, 1935 (characterizing the "flat prohibition" of Section 12(a)
as applying to public-utility company "upstream loans" and stating that
"[r]egulation of intercompany transactions is provided to prevent the milking of
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operating companies for undue advantage to the controlling holding companies...
Section 12 covers other intercompany transactions detrimental to operating
companies."); 74th Cong. Com. Interstate Commerce, Hearings on S. 1725 (April
26-29, 1935), at 59 ("flat prohibition" of "upstream loans" applies to
"public-utility companies"). Section 1(b) of the Act reflects this legislative
history through the findings in subsections (b)(2) and (b)(3) thereof of abusive
transactions harmful to "subsidiary public-utility companies." Section 1(c) of
the Act, in turn, directs the Commission to interpret the Act "to meet the
problems and eliminate the evils as enumerated in this section." The proposed
financing subsidiary is neither a public-utility nor a holding company. The
financing subsidiary proposed by Southern will derive no credit from the
public-utility subsidiaries of Southern. Nor will the proposed finance
subsidiary have any credit of its own. Its sole sources of credit will be
Southern itself.
Under the pending application, the newly formed subsidiary is simply a
financial intermediary of Southern arranging for financing on behalf of Southern
and remitting the funds received in return for Southern undertaking to assume
payment of those obligations. The fact that the agent to obtain funds remits
those funds to the principal does not amount to the agent lending its credit or
making a loan; instead it is facilitating borrowing by the principal, a
transaction that warrants no disapproval under the Act provided that the
underlying financing has been authorized to the principal, as is the case here.
The Commission has recognized that the creation of bona fide reciprocal
obligations does not give rise to the extensions of credit that the Act was
intended to prohibit. Mississippi Valley Generating Co. v. United States, 175
F.Supp. 505, 520-21 (Ct. Claims 1959), affirming Mississippi Valley Generating
Company, HCAR No. 12794 (1955). The guarantee and debt service obligations
undertaken by Southern associated with a remittance to Southern of funds by a
financing subsidiary that is not itself a holding company does not represent the
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type of extension of credit Section 12(a) of the Act was designed to prohibit.
In a slightly different context, the Commission has recognized that when a
company acts merely as a conduit for an affiliate and the transaction is in
substance one between the affiliate and non-affiliates, the interaffiliate
transaction requirements of the Act should not prevent the transaction. Entergy
Arkansas No-Action Letter (July 19, 1998). In administering the accounting
provisions of the Act, the Commission adheres to the precept that the substance
of a transaction, and not its form, should control, such as its requirements for
accounting for leases when the lessor has no independent economic substance and
is merely a conduit for a lessee subject to the accounting requirements of the
Act to finance the acquisition of an asset. Accounting Treatment of Leases, HCAR
No. 17772 (November 17, 1979). With respect to the other provisions of the Act,
including Section 12(a), the Commission has repeatedly recognized that the
substance of a transaction, and not its form, should govern the application of
the Act. Despite the apparently absolute requirement under Section 9(a)(2) of
the Act concerning approval of the acquisition of securities of
public-utilities, when the substance of the transaction has involved an
acquisition of public-utility assets otherwise authorized under the Act, the
Commission has looked to the substance instead of adhering to the form. In New
England Electric System, HCAR No. 18254 (January 11, 1974), the Commission
applied what it characterized as its "longstanding" interpretation of the Act to
deny a request for a hearing on these grounds:
AMC also takes exception to our determination that an acquisition of
the stock of a utility company with a concurrent liquidation or merger
of the company acquired should be considered, under the Act, as an
acquisition of assets rather than as an acquisition of utility
securities. It requires no argument to show that this interpretation
correctly reflects the substance of the transaction being examined. The
acquisition of the stock is simply a method of transferring title to
the assets.
HCAR No. 18254, text at fn. 11.
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The present application is no less a case of the holding company
obtaining authorized financing and simply involves the use of an intermediary by
Southern to access external sources of funds. No issues under Section 12(a) of
the Act arise because the intermediary is a mere conduit and has no assets or
business operations (let alone public-utility operations) of its own which could
possibly be affected by the proposed transactions. Thus the present application
implicates none of the evils identified by Section 1(b) of the Act. In
Mississippi Valley Generating Company, supra, the Commission recognized that,
even though the registered holding companies were the lead parties in the
proposed transactions and that, in form the public-utilities were providing
financial support, effectively in form an indemnity for the undertaking, in
reality the public-utilities were obligating themselves to external parties, and
the substance of the transaction therefore did not violate Section 12(a):
Under an agreement between Middle South, Southern and the AEC, in the
event power is not delivered by the [Mississippi Valley Generating
Company ("MVG")] to [the Atomic Energy Commission ("AEC")] at the time
fixed for initial deliveries under the Power Contract, Middle South and
Southern or their subsidiaries will be obligated to supply and the AEC
to pay for 100,000 kilowatts of firm capacity power referred to as
"interim" power.... We do not consider that any indemnity within the
meaning of Section 12(a) is involved. The obligation to supply MVG with
interim and back-up power and to absorb canceled power would be the
direct obligation of the operating companies, not of the holding
companies. While the arrangements among the system companies have not
been finally determined, the record shows that the arrangements for the
supply of back-up energy, interim power, and absorption of power will
be between MVG and the operating companies of each system, that MVG
will pay those subsidiaries for such power, and neither Middle South
nor Southern will obtain any payments from the AEC for power. It is
proper under the Act for construction projects and operations to be
planned and carried forward on a basis meeting the purposes of the
system as a whole, and for the holding company to make contracts in
furtherance of such coordinated operations with the intent that the
operating aspects of such contracts shall be carried out by the system
operating companies. The creation of the attendant reciprocal benefits
and undertakings involved in such arrangements does not in our view
automatically result in an indemnity of the holding company within the
meaning of Section 12(a).
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Mississippi Valley Generating Company, HCAR 12794 (1954) (text at footnotes
65-69, footnotes omitted).
As stated above, the transactions proposed by the pending application
simply implement an authorized financing and do not entail the lending of credit
or the making of a loan by a subsidiary because the subsidiary lacks any
economic role other than as a conduit for the principal.
In its administration of the Investment Company Act, the Commission has
recognized that wholly-owned financing subsidiaries whose debt is guaranteed by
its parents serve "merely as conduits for financing the parents'.... operations.
Their debt was fully guaranteed by their parents, and purchasers of the
subsidiaries' debt looked to the parents for their assurance of repayment."
Exemption from All Provisions of the Investment Company Act of 1940 for Certain
Finance Subsidiaries, Rel. No. IC-12679, 26 S.E.C. Docket 273 (1982). The
Commission recognized in granting the exemption that such would facilitate tax
efficient financing through wholly-owned subsidiaries. Id.
The Commission routinely granted exemptions to finance subsidiaries
under the Investment Company Act, reasoning that the debt securities of the
finance subsidiary were, in effect, debts of the parent company:
The rationale for the exemptions was that as a consequence of
the parent company's guarantee and the limited activities of
the finance subsidiary, the debt securities of the finance
subsidiary were in effect debt of its parent company, and
there would have been no issue under the Act had the parent
issued its own debt directly.
. . . .
[Describing the earlier rule exempting foreign finance
subsidiaries, the S.E.C. explained:] Since the debt would be
sold on the basis of the parent's credit, purchasers of the
debt would look to the parent for their assurance of repayment
despite the interposition of the subsidiary. Absent unusual
circumstances, if the parent were to issue the debt directly,
no question would arise under the Act.
Id. (emphasis added).
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In its release adopting Rule 3a-5 of the Investment Company Act, the
Commission explained:
. . . [T]he Commission believes that it is appropriate to
exempt a finance subsidiary from all provisions of the
[Investment Company] Act where neither its structure nor its
mode of operation resembles that of an investment company. We
have found this to be the case where the primary purpose of
the subsidiary is to finance the business operations of its
parent or other subsidiaries of its parent which are not
investment companies. We have also found this to be the case
where any purchaser of the finance subsidiary's debt
instruments ultimately looks to the parent for repayment and
not to the finance subsidiary. The rule, therefore, describes
a situation where the finance subsidiary is essentially a
conduit for the parent to raise capital for its own business
operations or for the business operations of its subsidiaries.
Exemption from the Definition of Investment Company for Certain Finance
Subsidiaries of the United States and Foreign Private Issuers, Rel. No.
IC-14275, 32 S.E.C. 66, 1984 W.L. 52669 (1984).
Southern does not herein request an exemption from any provision of the
Act. Section 1(c) of the Act requires the Commission to interpret and apply the
Act based upon the substance of transactions in order to eradicate enumerated
evils; not apply the form of the act to frustrate access to new and economical
sources of financing. The Commission's recognition in the administration of the
Investment Company Act that a financing agency of this nature carries with it no
substantive consequences different from the principal itself undertaking the
activity in question merely illustrates that the Commission may appropriately
construe the prohibition of Section 12(a) as not including the use of a special
purpose entity formed solely for the purpose carrying out authorized financing
by the registered holding company. Southern's proposal to form a financing
subsidiary to effectuate authorized financings with the benefits of authorized
guarantees by Southern faces no statutory impediment under the Act and is wholly
consistent with the Act."
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(d) By adding the following to Item 5. Procedure:
"It is considered that the record is now complete with respect to the
transactions described herein. Southern hereby requests that the Commission
release its reservation of jurisdiction over (a) the issuance and sale, from
time to time or at any time on or before September 30, 2003, of any securities
described herein in an amount that will not in the aggregate exceed
$1,500,000,000 (net cash proceeds to Southern) and (b) any transactions
involving a Finance Subsidiary or Special Purpose Subsidiary. Southern also
requests that the Commission reserve jurisdiction over the issuance of the Debt
Securities, Preferred Securities or Preferred Stock if (A) Southern's credit
ratings are below investment grade or its common stock equity is less than 30%
of total capitalization or (B) such issuance would cause Southern's credit
ratings to fall below investment grade or would lower Southern's common stock
equity below 30% of total capitalization. Southern hereby requests that the
Commission's order be issued as soon as the rules allow. Southern hereby waives
a recommended decision by a hearing officer or other responsible officer of the
Commission, consents that the Division of Investment Management may assist in
the preparation of the Commission's decision and/or order in this matter, unless
such Division opposes the transactions proposed herein, and requests that there
be no 30-day waiting period between the issuance of the Commission's order and
the date on which it is to become effective."
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SIGNATURE
Pursuant to the requirements of the Public Utility Holding Company Act
of 1935, the undersigned company has duly caused this amendment to be signed on
its behalf by the undersigned hereunto duly authorized.
Dated: February 2, 2000 THE SOUTHERN COMPANY
By: /s/Tommy Chisholm
Tommy Chisholm
Secretary
