The secondary deal behind the purchase of North Carolina Natural Gas by Piedmont Natural Gas Co. could eventually cause customers’ rates to rise and diminish already faint hope that taxpayer-funded bond money will be repaid.

Piedmont’s $417.5 million deal to buy NCNG from Progress Energy Inc. was accompanied by an agreement to also take on 50 percent of Eastern North Carolina Natural Gas. Progress had teamed with the Albemarle Pamlico Economic Development Corporation to create ENCNG, which was awarded $188 million of the $200 million public gas bond funds approved by North Carolina voters in 1998.

As a partner with APEC, Progress added $7.5 million — the amount Piedmont is paying for its share of ENCNG — to the bond money to construct a gas pipeline in 14 counties that had no service in the Northeast part of the state.

Keep it separate

The North Carolina Utilities Commission, as a condition for approval of bond monies for APEC and Progress’s predecessor, CP&L, required that the partners form a separate organization “to ensure that adequate cost allocation and record keeping procedures are implemented.” The statute providing for the bond funds calls for the money to be paid back to taxpayers if the project becomes economically feasible. ENCNG is the vehicle collecting the bond funds, building the pipeline, and operating the system.

Piedmont’s pending acquisition includes a plan to merge ENCNG into the larger company, which means cost allocation and record keeping could get murky. Without separate tracking as the NCUC required, determining whether the $188 million in bond money should be repaid to taxpayers would likely be impossible.

“Once system ‘B’ is rolled into system ‘A,’ and ‘B’ was subsidized by bonds,” said Don Harrow, vice president of governmental relations for Piedmont, “I don’t know how you track that roll-in.”

How absorbent is Piedmont?

Piedmont’s primary focus is to absorb NCNG into its operations within two years, while holding its interest in ENCNG separately. But a resolution approved by APEC’s board of directors declares that once Piedmont fulfills its contractual obligations to build the gas pipeline, an APEC committee “is further authorized to consider further agreement between Piedmont and APEC that…at a mutually agreeable date, APEC would transfer all of its ownership interest in [ENCNG] to Piedmont and Piedmont will merge [ENCNG] into Piedmont and operate the [ENCNG] system as an integrated part of the overall Piedmont system….”

Piedmont and APEC also signed an agreement that includes future considerations of a merger, after Piedmont fulfills its contractual obligations to complete the gas pipeline. The agreement was reached as a condition for the APEC board’s approval of the Progress/Piedmont deal for ENCNG.

Jimmie Dixon, chairman of the board of directors for APEC, confirmed to Carolina Journal that the goal for ENCNG was to be absorbed into Piedmont and that the two companies had discussed it.

“Our main goal was to get natural gas to the 14 counties in the Northeast through the bond issue and working with CP&L,” Dixon said about APEC’s mission. “From all indications Piedmont is a well-rounded company. We think they’d do a better job than CP&L would have done.”

Harrow acknowledged that Piedmont officials have discussed the future incorporation of the ENCNG territory into its overall operations.

“I wouldn’t call it a goal,” he said. “I think it’s probably a subject of the partnership that’s logical to discuss.

“APEC’s interest was to get a gas project. I don’t think APEC is set up to be a long-term gas company, whereas Piedmont is.”

Harrow added that while he couldn’t speak authoritatively about ENCNG’s viability as a stand-alone company, it usually makes little sense for a larger company to swallow a smaller one that provides the same service without merging them.

“You might cut them up,” he said. “but for the long term it’s better for the company to have it all contained in one system.”

ENCNG so far has only about 350 customers, and revenues aren’t expected to cover operating costs for the foreseeable future. Harrow was hesitant to speculate, but he said if ENCNG was absorbed by Piedmont those losses would likely be passed on to customers, as would repayment of bond funds if the Utilities Commission determined they needed to be paid back.

“If it’s going to be a perpetual money-loser,” Harrow said, “from a long-term business perspective it wouldn’t be prudent to operate a (separate) system for very long.”

Instantly feasible?

Besides repayment of bond money, continued operating losses could end up hitting Piedmont’s entire customer base.

Others interviewed for this article didn’t know how, with a “roll-in,” Piedmont would be able to separate what are ENCNG’s current revenues and costs from the rest of Piedmont’s operations.

“I think it would be an uphill undertaking,” said Gisele Rankin, an attorney for the North Carolina Utilities Commission’s Public Staff. “There might be a way to do it.

“You’d have to either not allow the “roll-in” or keep the accounting separate, or order the (bond money) paid back in time.”

One possibility Rankin raised was that once ENCNG was absorbed by Piedmont, it could instantly be declared economically feasible. However, the North Carolina statute would seem to require that the bonds be repaid if that happened.

That proposition didn’t seem possible to Bill Gilmore, a gas industry analyst for the Utilities Commission.

“A change of ownership in ENCNG would not — of itself — make ENCNG into a feasible project,” he said in an e-mail message. “If I sell you a car that is a clunker, you may think that you’ve bought a Mercedes. But, just changing the title into your name does not change the fact that the car is still a clunker.

“The only way that it becomes economically feasible is that it has enough customers paying a high enough margin to make it feasible,” he said.

No separation anxiety

Gilmore said separate books would need to be kept for the ENCNG project, but believed Piedmont could do so within its operations. However, that would seem to render purposeless the Utilities Commis-sion’s original requirement to keep a separate company.

Sam Ervin IV, one of the seven Utilities Commissioners, said only the specific pipeline project’s costs and feasibility would need to be monitored, and not ENCNG overall. He said future studies could determine whether the project became economically feasible, and that ownership of the project was irrelevant.

However Jim Hoard, assistant director of accounting for the Utilities Commission’s Public Staff, said a proposal for Piedmont to take in ENCNG would probably trigger an examination of cost tracking and the bond repayment question.

“There’s going to be a number of issues that arise,” Hoard said. “It’s going to be a lot more complicated from a bond perspective to roll-in [ENCNG].

“That (merger) would be the spurring event. We’d have to determine what all the tracking provisions would be.”

Ervin said operating costs from the ENCNG project are covered in the bond funds, and would not affect Piedmont’s overall rate base. Any future rate changes would require approval from the Utilities Commission.

But if, as expected, the ENCNG pipeline loses money for years to come, Piedmont would need to recover the loss either through customers or shareholders. Currently there is a provision for Piedmont to maintain an account up to $15 million as an asset, which could later be recovered by ratepayers, according to Hoard.

Some operating costs are covered in the bond funds, Hoard said, but in reality almost all that money is paying for construction of the pipeline. Operating the system will require expenditures, which the current and projected ENCNG customer base isn’t likely to recover soon. Without a merger, it’s unlikely ENCNG could survive for long.

Piedmont, valued at $1.2 billion prior to the deal, will issue up to $500 million in short-term debt securities to fund the purchase.

“To the extent [Piedmont] want(s) to cover their operating expenses,” Hoard said, “that would have to be borne by the ratepayers.”

Hoard said if paying back the bonds (with interest) became possible, it would mean good things are happening with economic development in the East. Still, whenever in the future that occurs, if ever, the burden upon all Piedmont’s customers is unknown.
“You’re going to need several hundred million dollars of cash flow (for the project to become economically feasible),” Hoard said. “We’re a long way away from that.

“I suspect it’s going to be quite some time before Eastern comes up with that amount of money.”

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Chesser is associate editor of Carolina Journal.