In 1987, the federal government divested itself of Conrail, a freight railroad based largely in the Northeast and Midwest. Just as that divestiture was nearing completion, President Reagan is reported to have asked: “Okay, when do we sell the TVA?” While Reagan wasn’t able to achieve the sale during his presidency, fortunately the current administration is revisiting the issue today. Buried in the Obama administration’s FY 2014 budget is a commitment to undertake a “strategic review of options for addressing the Tennessee Valley Authority’s (TVA) financial situation, including the possible divestiture of TVA, in part or as a whole.”
The administration’s rationale is eminently reasonable. First, it notes that, “Reducing or eliminating the Federal Government’s role in programs such as TVA, which have achieved their original objectives and no longer require Federal participation, can help put the Nation on a sustainable fiscal path.” Second, the TVA already has $22.3 billion in debt outstanding, and the administration estimates that its current capital investment plan includes more than $25 billion of expenditures over the next 10 years, which could result in it exceeding its statutory $30 billion debt limit. As TVA notes in its most recent annual report, “TVA faces potentially large capital requirements to maintain its power system infrastructure and invest in new power assets, including generation assets using cleaner energy sources.”
The TVA’s primary function is power generation and transmission, hardly a necessary federal function given the ubiquity of private sector power provision in this country. In addition, TVA provides navigation maintenance on and flood damage reduction from the Tennessee River and its tributaries. These latter functions can be assumed by other appropriate federal agencies under any divestiture option. In any case, TVA ratepayers shouldn’t be subsidizing these functions through their electricity rates as they are today.
Divestiture, in whatever form, would bring two major benefits to taxpayers. First, according to the Congressional Budget Office, a divestiture of TVA would avoid adding roughly $10 billion to the federal deficit over the next decade through additional capital outlays (less the cost to the federal government of assuming the navigation maintenance and flood danger reduction functions of the TVA). Absent divestiture, TVA’s increased capital expenditures are scored in the federal budget as increased outlays, thereby increasing the deficit. Second-and much more importantly-a divestiture of TVA avoids another bailout of a “Too Big To Fail” government sponsored enterprise, not unlike Fannie Mae and Freddie Mac. By law, TVA’s bonds are not backed by the federal government; nonetheless they dropped in value on the day of the announcement of the administration’s budget because investors believe that, regardless of the statutory language, the federal government would ultimately bail out the TVA if it were unable to honor its debts. A divestiture would make such a taxpayer bailout considerably less likely.
Opponents of divestiture argue that the risk of a future financial meltdown resulting in a bailout is low. That may be true but even so, what’s the downside of divestiture? None. Such a scenario begs the question: other than waiting in the wings for a potential future bailout of TVA, why have continued federal ownership?
How then might the federal government divest TVA’s power generation and transmission functions? Three options seem worth evaluating: a public offering, an asset sale and a divestiture to the states. Let’s consider these in turn.
Public Offering of TVA Stock or Asset Sale
TVA could theoretically be divested either through an asset sale, or an initial public offering (IPO), as were Conrail and the United States Enrichment Corporation. Yet, some might rightfully question what the likely proceeds of an IPO might be for a corporation with 1) $22.3 billion in debt; 2) $25 billion in needed capital investments over the next 10 years; 3) an estimated multi-billion dollar unfunded liability in its pension plan, and; 4) paltry earnings (its 2012 annual report shows $60 million on $11 billion revenue and $46 billion in assets, representing a 0.5% return on sales and .01% return on assets). For the federal government, a sale of TVA would be less about the proceeds garnered and more about the risks shed, but Wall Street is not likely to be able to take TVA public in the short-to-mid term, as the enterprise has not been managed so as to attract equity investors.
Depending on what is done with the TVA Act of 1935 after an IPO-and it would probably need to be repealed to attract investors-TVA would operate largely as it does today, maintaining similar relationships with its management, employees, retirees, customers, bondholders, suppliers and distributors. But shareholders, not the federal government, would own the corporation, elect the board of directors, and expect a return on their investment. It is the need to provide a competitive return to shareholders that frightens those who argue for continued federal government ownership. However, the obligation to provide a return to the shareholders would also provide TVA with greater access to capital via the equity markets.
Instead of paying the five percent of its gross power revenues (not including sales to other federal agencies or utilities) payment-in-lieu-of-taxes to states and counties today, an investor-owned TVA would pay taxes to the states and counties as other businesses do. TVA paid the federal government $27 million this past year in repayment for the initial government funds appropriated for TVA’s power program and a return on those appropriated funds equal to the average interest rate payable on treasury obligations, which presumably it would no longer pay were to go public. Given its upcoming capital expenditures, TVA would have a significant federal tax shield, paying little or no federal taxes, as it does today. And the market-not Congress-would determine the proper amount of debt TVA should carry.
Alternatively, the federal government could bundle TVA’s assets in a manner that would provide for the sale of the most assets for the most proceeds, auctioning any remaining assets. But there are several hurdles with respect to an asset sale:
- Buyers would have every incentive to take as little of the workforce as possible, thereby upsetting the existing TVA workforce.
- Similarly, buyers would be acquiring assets, not liabilities, so TVA’s underfunded pension plan would not be purchased.
- Buyers would not be bound by TVA’s contracts with its distributors.
- Bondholders would be concerned that the market value of TVA’s assets is less than the book value, leaving them in the lurch and potentially prompting them to seek an assurance that they will be kept whole by either the federal government or the new owners of the assets. Failing to secure such an assurance, bondholders likely would oppose an asset sale.
In short, the number of parties who believe that they would suffer adversely from an asset sale makes a sale of TVA’s assets far less likely than a stock sale or transfer.
Divestiture to the States
Another way to divest TVA from the federal government would be to give TVA to some or all of the states in which it operates. There is precedent for this; the federal government all but gave the Alaska Railroad to the state of Alaska in 1985, selling it for a mere $22 million, which was tantamount to giving it away. TVA could be incorporated under state law, and each state in which it operates would get a percentage of the stock based on one or more metrics, such as the allocation of revenues, assets or employees by state. Congress could authorize the Department of Energy to work with the TVA board to devise a fair stock allocation methodology.
For example, using TVA’s 2012 operating revenues as the determinative metric, the stock would be allocated as follows:
- Tennessee: 62.25%
- Alabama: 14.06%
- Kentucky: 11.1%
- Mississippi: 9.38%
- Georgia: 2.22%
- North Carolina: 0.62%
- Virginia: 0.44%
Divestiture to the states could be the least disruptive option if they were afforded maximum flexibility as they assume their new non-federal responsibilities. The day after the divestiture, operations could be as they were the preceding day. TVA would look like most other public power entities, with the states determining the policies to assume and the direction they want TVA to move, through an elected board of directors. States could decide whether the stock should be negotiable-and when and with whom it is negotiable-and whether the other TVA states would have a right of first refusal when one state offers to sell some or all of its interest.
After all, some of these states, particularly those in which TVA’s presence is relatively small-Georgia, North Carolina and Virginia-may want to sell their holdings. Just as the federal government has several options with respect to divestiture of TVA, if any or all of the TVA states decided for any reason to dispose of their stock holdings, those states could sell their shares through an IPO, sell the assets, or sell their stock to one or more private purchasers (such as a neighboring utility or utilities or TVA distributors), thus eliminating the risk of “Too Big To Fail” for state taxpayers, too.
Repeal or Amendment of the TVA Act and Other Predicates to Divestiture
Any divestiture plan would require a determination of what should be done with the TVA Act of 1935. There are multiple options. Upon the actual divestiture, the entire TVA Act could be repealed (along with related provisions in other federal laws). Among other things, a total repeal would shed the $30 billion statutory debt cap, some antiquated provisions related to national defense, and anti-competitive legal restrictions that include what’s known as the “fence,” as well as the “anti-cherrypicking” provision in the Federal Power Act. The “fence” was enacted to stop TVA from expanding beyond its existing service territory, and the “anti-cherrypicking” provision was enacted to keep potential competitors out of TVA’s service territory. Both provisions are profound barriers to competition and deprive TVA consumers of other sources of power, as well as depriving TVA of the authority to be an alternative power supplier outside of its service territory.
Policymakers may be tempted to retain the TVA Act’s “fence,” and the “anti-cherrypicking” provision in the Federal Power Act in some form, while repealing the remainder of the TVA Act-or at least those provisions that overtly stand in the way of divestiture-thereby changing only the ownership of the entity. However, this would be ill-advised, as retaining the “fence” and “anti-cherrypicking” provisions would preclude any new owner from effectively managing the entity.
In any event, there would need to be a short period of time-perhaps a year, after enactment but before actual divestiture-allowing for the transfer of the non-power and non-transmission functions to other federal agencies, the determination of the stock allocation methodology, and preparations for the final transfer of stock.
In the case of a divestiture to one or more states, a waiting period would give each state one year after enactment of the federal law to prepare its laws to receive the stock and manage its ownership, including decisions about where in each state to house its ownership of TVA, how the state will cast its board vote, and how it will regulate the new state-owned TVA. For example, assuming ratemaking is no longer done by the TVA board without legal redress for disputes-as it is under the current federal law-the state of Tennessee would probably want to give the Tennessee Regulatory Authority jurisdiction over TVA’s in-state electric rates to protect ratepayers from unreasonable electric rates and practices and assure legal redress of disputes.
TVA no longer requires federal participation, and there are several potential paths toward divestiture. Overall, from the federal perspective, the primary objectives of any divestiture plan should be deficit reduction, risk management and removing itself from a non-essential function. If the federal government moves forward with divestiture, which it should, it will have assigned the risks associated with TVA to the beneficiaries and stakeholders of TVA, thus shielding taxpayers from another “Too Big To Fail” situation.
William B. Newman, Jr., is Senior Adviser to HC Project Advisors in Washington, DC. He is a former executive of Conrail, and worked on Conrail’s successful sale by the federal government. Conrail was sold in an initial public offering in 1987, then the largest initial public offering in history.