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Leonard Hyman & William Tilles

Leonard Hyman & William Tilles

Leonard S. Hyman is an economist and financial analyst specializing in the energy sector. He headed utility equity research at a major brokerage house and…

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Will Trump Privatize The TVA For $20 Billion?

Donald Trump

The Tennessee Valley Authority has been a thorn in the side of American conservatives since its inception. But its history, beginning in the Great Depression, of flood control, munitions manufacturing in both World Wars, aluminum production and atomic research -- reads like a History Channel commercial for the mid-twentieth century U.S.

A new U.S. President with decidedly conservative leanings will soon take office. Many “new hires” in the administration appear to favor increased privatization of public services and so called public-private partnerships. This makes sense. Privatization and deregulation are key parts of the neoliberal economic paradigm embraced by both of our political parties.

Given that the private sector also does a good job providing electricity, it raises the question, “Do we still need the TVA?” And if not, what is it worth to U.S. taxpayers in a sale?

Taken purely as a power company, the TVA’s generation and transmission assets are similar to those of a typical investor owned utility such as Southern Company or Duke Power. TVA’s power generation business, with its mix of coal, gas, nuclear and hydro is bog standard for the industry especially in that region. Alongside the power business TVA owns an extensive, valuable regional transmission network. Related: Are Proven Oil Reserves Just A Political Tool?

What the TVA lacks is a retail electricity distribution business. When the UK privatized its utility sector it was the distribution segments which made the biggest gains for both the new management and shareholders. Distribution can account for 30 percent of electric utility assets. TVA’s customers, on the other hand, are all names like Memphis Gas, Light & Water or co-ops, not individual consumers.

If we ignore the host of regional economic development functions embedded in the agency’s original mission, (like navigation, flood control, reforestation, agricultural improvements, or malaria prevention in the early days), the TVA looks like a big generation and transmission (G&T) cooperative.

Let’s compare some of TVA’s financial metrics to its large investor owned neighbor, Southern Company. Southern's common stock, like much of the utility industry, trades at about 17 times earnings. That suggests a value for TVA’s shareholder, the U.S. government, of $21 billion (17 times the $1.223 billion earned in the most recent fiscal year). But, if privatized, TVA would have to pay corporate income taxes, reducing net income to about $850 million, so a more realistic estimate of the market value of the government ownership position (at 17 times earnings) might be closer to $15 billion.

Private equity investors (people like Wilbur Ross, soon-to-be Commerce Secretary) and bond investors value firms by their enterprise value (EV). For comparison, Southern Company's enterprise value is about 11 times its cash flow, or more technically, its EBITDA. But Southern has a valuable retail distribution business and engages in other non-electric operations that command higher multiples. If we conservatively apply a 10x EV/EBITDA to TVA’s $4.6 billion of EBITDA, we would value TVA's cash flow at $46 billion. Subtracting debt of $25 billion leaves $21 billion, the government’s share of TVA. Cutting that valuation further to rectify a somewhat underfunded pension, relative to prospective corporate peers, might lower the U.S. government's take to below $20 billion.

As a plus, TVA finances its capital needs from internal sources as its Watts Bar Unit 2 nuclear construction winds down. Like other power producers in the region, TVA is both installing environmental retrofits on newer coal plants and switching to natural gas fired base load generation. Load growth projections for the coming year are flat like much of the industry.

TVA’s retail power prices are about average for the US Southeast region according to the Energy Information Administration (U.S. EIA). This despite TVA having the advantages of being lightly taxed, able to borrow at almost at the same interest rate as the U.S. government and being heavily leveraged (with about 80 percent total debt). Related: OPEC’s Spare Capacity Will Calm Oil Markets In 2017

If TVA paid a typical corporate tax rate and had a “normal” balance sheet, it would require far more cash from ratepayers to even cover its costs. That would leads to price increases for electricity. Not exactly an outcome to please local politicians or energy consumers.

Now to all that debt. TVA was designed to do more than sell electricity so it is unfair to criticize it as being more leveraged than other utilities. It also engages in governmental functions that normally sport high debt ratios. Yet any privatization of TVA will have to sort out that mountain of debt. Will the government be able to assign all of it to a private buyer(s)? The privatization price may have to be adjusted for the debt situation, another way of saying the government may get stuck with some of the debt.

If the linchpin of regional economic development remains low electricity prices, does TVA represent the best economic path forward? Apart from their regional development efforts, their power prices are about average.

If the government’s stake in TVA can fetch $20 billion. The “privatizers” in the new administration will take notice. And perhaps sooner than later. If interest rates rise continue their rise, TVA's considerable debt costs more to service and the prospective value of its equity will decline. Higher interest rates invariably depress the value of all bond like utility stocks. So if they're going to sell, sooner may be better.

By Leonard Hyman and William Tilles

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