As U.S. investor-owned utilities make strong progress in the regulatory arena and beef up capital spending plans, there are still several macroeconomic headwinds that could affect near-term balance sheets.

Overall, Wall Street signaled it was not surprised by the financial and operational updates provided on third-quarter earnings calls and at the 2021 Edison Electric Institute Financial Conference that immediately followed. The bigger uncertainties revolve around the passage and impact of federal energy legislation, rising fuel costs, supply chain constraints, inflation and winterization.

"Everyone is bracing for a very expensive winter even if it is not record-setting cold," Scotia Capital (USA) Inc. analyst Andrew Weisel said in a Nov. 16 interview. "Most companies are estimating anywhere between a $5 per month and [a] $20 per month increase for your average residential customer. ... But the good news is arrearages are way down and programs available for customer support are way up."

While utilities are looking to keep bills as low as possible, "the details of how they are going to do that vary tremendously," Weisel added.

CreditSights bond analysts said they were "somewhat surprised management teams at EEI didn't have more concrete plans to dial back [capital expenditure] and/or launch formal [operations and maintenance] reduction programs to mitigate the impact on customer bills."

Mizuho Securities USA LLC also noted that utilities "have not cut back on capex, choosing instead to boost capital spending levels," as announced either on their third-quarter calls or at the EEI Financial Conference.

EEI forecasts overall 2022 capex by its members at $139.3 billion. That is down slightly from $143.3 billion in 2021 but up significantly from $113.1 billion in 2017 and $90.3 billion in 2012.

Only temporary?

While Moody's analyst Jairo Chung acknowledged that sustained higher gas prices "may put some pressure on some utilities to increase their rates," the rating agency also believes this is "more of a temporary event," with prices expected to come back down to below $4/MMBtu.

When it comes to inflation, the Moody's analyst in a Nov. 10 interview said the rating agency believes utilities will be able to offset their expenses through a variety of levers, including controlling their operations and maintenance costs.

Moody's also believes that "inflation is not necessarily a long-term driver and that utilities shouldn't be impacted in a significant way," Chung added.

Industry experts were optimistic about utilities' spending on weatherization ahead of the 2022 winter heating season.

"Broadly speaking, everyone learned lessons from Winter Storm Uri," Guggenheim Securities LLC analysts wrote, citing as examples NiSource Inc.'s hedging book, Duke Energy Corp.'s customer education efforts and other companies' initiatives to procure additional gas transportation and storage capacity.

Searching for clarity

Analysts were hoping for better clarity on energy policy from Washington.

"Obviously, that process is taking a very long time with lots of twists and turns," Weisel said, adding there are "far more questions than answers" on how federal policy might affect utilities' business strategies.

"The general theme on that front, though, seems to be support from D.C. will no doubt help, but it is a question of how much it will help," Weisel said.

The House of Representatives narrowly passed a nearly $2 trillion budget reconciliation bill on Nov. 19 that, if enacted, would offer a big hand to the country's efforts to slash climate-warming greenhouse gas emissions, particularly from the energy sector. The Build Back Better bill now heads to the U.S. Senate, where Democratic leaders hope to move the package quickly but face uncertain support from party moderate Sen. Joe Manchin, D-W.Va.

Analysts at Guggenheim told clients that some utilities are pessimistic about the legislation's provisions and its potential to become law.

"Potential tax reforms remain a potent [near-term] unknown for the entire industry," analysts wrote about meetings conducted with management teams at the EEI conference. "For example, Southern Co. CEO [Thomas] Fanning was skeptical about the prospects of [production tax credits] for existing nuclear plants and about the Build Back Better Act getting done by year-end."

Bigger utilities paying lower cash taxes are also wary of a corporate alternative minimum tax provision that could be included in the final bill, the Guggenheim analysts continued.

Meanwhile, the $1.2 trillion bipartisan infrastructure bill, which U.S. President Joe Biden signed into law on Nov. 15, contains more than $65 billion for power infrastructure, including nearly $29 billion devoted to the electric grid.

"It's got billions of dollars earmarked for the power grid, but utilities are already spending so much money every year that the percentage isn't really that meaningful," Weisel said. "The other factor is it is unclear at what pace those funds will be spent and how they will be allocated between states, regions [and] utilities. There is a lot of uncertainty in there."

Transactions

On the M&A front, Ohio investor-owned utilities American Electric Power Co. Inc. and FirstEnergy Corp. both announced long-awaited transactions during their third-quarter calls.

Under a $2.85 billion deal announced Oct. 26, AEP will off-load its Kentucky Power Co. regulated utility and AEP Kentucky Transmission Co Inc. business to Algonquin Power & Utilities Corp. subsidiary Liberty Utilities Co.

"The move will increase the share of AEP's earnings from the ultra-valuable/stable transmission business from 30% of overall earnings closer to 35% and eliminate the ongoing equity overhang from underearning in [Kentucky]," CreditSights analyst Andrew DeVries wrote in an Oct. 26 research report.

FirstEnergy, meanwhile, announced Nov. 7 that it will sell a 19.9% stake in FirstEnergy Transmission LLC to Brookfield Super-Core Infrastructure Partners LP for $2.4 billion in an all-cash transaction and will issue $1 billion of common stock to Blackstone Infrastructure Partners LP at $39.08 per share.

The combined $3.4 billion in proceeds is expected to boost FirstEnergy's balance sheet, eliminate near-term equity needs and support the company's investment plans.

FirstEnergy executives signaled in April that the company could sell a partial stake in one of its businesses as it works to return to investment-grade credit ratings.

Management noted they were intrigued by the valuation that Duke Energy received for the sale of a minority interest in utility subsidiary Duke Energy Indiana LLC to address the company's equity needs.

Weisel noted that most of the companies under his coverage "don't have a real burning equity need," but that FirstEnergy and Duke Energy were able to address their needs "in a very elegant way."

Chung, with Moody's, noted that the rating agency views this alternative way of raising equity as "credit neutral at best."

"Certainly, doing a straightforward common equity issuance would be the preferred method," Chung said.