Scathing audit of East Kentucky Power demands change

The state Public Service Commission issued a scathing management audit Thursday of East Kentucky Power Cooperative, saying the 500,000 homes and businesses powered by the utility must band together to change it from the inside for it to stay viable.

The audit, conducted by an outside consulting group, is a harsh rebuke for a power cooperative that has been plagued with financial problems in recent years and announced Thursday it would seek its third rate increase in the past four years.

Tony Campbell, CEO of East Kentucky Power, said in response that the utility is eager to work closely with the PSC to resolve the issues.

"Whatever has to be done, I'm going to do, and I'm committed to doing that," Campbell said.

Co-op's structure

One major concern of the audit is the leadership structure of the power cooperative. East Kentucky Power is owned by its 16 members cooperatives for which it produces power at four main plants across Kentucky. Those 16 member co-ops, including Blue Grass Energy, Clark Energy and others, serve a half-million homes and businesses throughout Kentucky.

But the management audit says a conflict of interest has existed because East Kentucky Power is governed by the member co-ops, who are devoted to keeping their prices low and weren't willing to seek higher rates when East Kentucky needed the money to secure its finances.

"As a director of East Kentucky Power, you have a duty to make sure that East Kentucky remains financially stable ..." said David Samford, deputy executive director of the PSC. "Because you are also a director of your distribution cooperative back home, you also owe an equally strong duty to your distribution co-op customers to keep their rates as low as possible.

"There is a tension between those two interests."

The board in the past resisted asking for rate increases for East Kentucky Power, and the result has been a "real, continuing and hazardous conflict" that has led to financial instability for East Kentucky Power. The co-op saw its financial cushion deteriorate so much that it failed in 2006 to meet one of the financial ratios required by its loan agreements.

The co-op lost money during 2004 and 2005 and narrowly had a profit in 2006. It has since had profits, but those have been built on the backs of two rate increases. It announced Thursday, too, that it plans to seek permission to raise rates by $50 million effective Jan. 1. It would raise the average residential customer's bill by about $4 a month.

Where the money's gone

Contributing to the co-op's worsened finances, the report says, was that East Kentucky Power became too reliant on building and operating its electric facilities rather than looking for partner utilities.

At the end of 2000, the co-op had $658 million in long-term debt. By the end of 2009, that had ballooned to $2.6 billion. Propelling that was the opening of new coal-fired power generators at its Spurlock plant in Maysville, as well as money spent on pollution control equipment to settle two Environmental Protection Agency lawsuits.

Up until last week, East Kentucky Power also had planned to borrow up to $900 million more to finance a new generator at its Smith plant in Clark County. Last week, though, the co-op asked to withdraw its request for approval of the financing while it reassesses its financial condition. Campbell said the co-op still plans to build the plant, which has been opposed stringently by environmental groups.

Fixing East Kentucky

The audit includes 29 recommendations, but the PSC noted that many of them stem from long-standing issues that were highlighted in a similar audit in 2001.

Because of that, the consultants have said the co-op's customers must band together, join boards and change the co-op's corporate culture. The PSC's authority under the law generally doesn't extend to such day-to-day issues of utility management; thus it cannot directly affect change on that level.

Change is rare on at least some of the member co-op's boards. Blue Grass Energy hasn't had a contested board election since at least 2005. And members concerned about the Smith plant who attempted to run for election lost to incumbents, said Elizabeth Crowe, executive director of the Kentucky Environmental Foundation.

"They clearly have had leadership in place — many board members have been there for a long time — and trying to listen to and implement new ideas is sometimes difficult for organizations to do," she said.

Samford said the PSC is hopeful members will become engaged, and the commission is also meeting with the individual member co-ops to discuss the findings and suggest changes.

Campbell, East Kentucky's leader, also said he has asked the PSC to come in and observe as the co-op works to implement the suggestions, including moves already made to fill an internal auditor position and update a 20-year financial forecast.

"I don't think the PSC realizes how committed this board of directors and management team are to work through these issues," he said.

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