CENTRAL POWER AND LIGHT COMPANY

File No. 70-1665. Promulgated July 23, 1948

(Public Utility Holding Company Act of 1935--Rule U-50)

ISSUE AND SALE OF SECURITIES BY SUBSIDIARY OF REGISTERED HOLDING COMPANY Exemption From Competitive Bidding Requirements of Rule U-50

Application by subsidiary of registered holding company for exemption from competitive bidding requirements of Rule U-50 in connection with proposed financing through issuance and sale of preferred stock denied, where the issue and sale of preferred stock were not necessary or appropriate to the economical and efficient operation of the subsidiary's business within the meaning of Section 7 (d)(3) in view of the costs involved and available alternative methods of raising the required capital.

APPEARANCES:

Ralph D. Stevenson; Ove B. Dendtler; and Edward Clark, of Looney and Clark, for Central Power & Light Company.

M. Morton Weinstein and Jerome M. Alper, for the Division of Public Utilities of the Commission.

SUPPLEMENTAL FINDINGS AND OPINION

On December 8, 1947, we entered our Findings, Opinion and Order herein permitting to become effective the declaration filed by Central Power and Light Company (Central"), a subsidiary of Central and South West Corporation (Central and South West"), a registered holding company, providing for the sale at competitive bidding pursuant to the provisions of Rule U-50 of $6,000,000 principal amount of First Mortgage Bonds and 40,000 shares of $100 par value Cumulative Preferred Stock, subject to the condition that the sale of said securities would not be consummated until the results of the competitive bidding were made a part of the record and a further order entered in the light of the record so completed. 1 Upon the offering of the bonds and preferred stock at competitive bidding Central received several bids for the bonds, the most favorable of which was accepted by the company and approved by the Commission, but failed to receive a bid for the preferred stock. On December 17, 1947, we issued our Supplemental Order releasing jurisdiction with respect to the results of competitive bidding in connection with the sale of the bonds but continuing the reservation of jurisdiction with respect to the sale of the preferred stock. 2

In February, Central requested the informal consent of this Commission to negotiate privately for the sale of the preferred stock and a few days thereafter, on February 17, 1948, the

1 Central Power and Light Company, 27 S. E. C. 185 (1947).

¿Central Power and Light Company, Holding Company Act Release No. 7932.

28 S. E. C.--35----8375

302972 O-55-21

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Commission granted such informal consent. Central on April 13, 1948 filed an amendment to its declaration stating that the company had negotiated a purchase contract with a group of underwriters headed by Glore, Forgan and Company, Lehman Bros., and Dewar, Robertson and Pancoast, providing for the sale to the public at $100 per share of 40,000 shares of $100 par value Cumulative Preferred Stock with a dividend rate of 5%. Compensation to the underwriters was fixed at $5 per share, the net proceeds to the company being $95. The amendment requested exemption of the transaction from the provisions of Rule U-50 and the entry of an order approving the terms and conditions of the financing as then proposed.

Public hearings were reconvened to consider the declaration as amended. Upon completion of the public hearings, the Staff of the Division of Public Utilities opposed the proposal and we granted the request of counsel for Central that the matter be set down for oral argument before the Commission. Central waived the filing of briefs and the matter was presented to us upon the record as supplemented by oral argument. Upon the consideration of this record we entered an order on April 14, 1948, denying effectiveness to the declaration, as amended, and stated that as a result of the exigencies of the time factors we would enter our Order forthwith without awaiting the preparation of our Findings and Opinion herein.

In support of the declaration, as amended, Central stated that the proposed financing was the result of diligent negotiations, that competitive conditions were maintained and the proposal represented the best arrangement the company could make. The company urged us to consider, in passing upon the terms and conditions of the offering, the fact that no bids were received for the stock upon the competitive offering, that it had encountered great difficulty in negotiating a contract for the sale of the preferred stock, and that funds were required to finance the company's extensive construction program.

In opposing the declaration, as amended, the Staff of the Division of Public Utilities contended that the high cost of issuing the proposed preferred stock (5.26%), sharply reflected the over-all weakness of Central's program for financing its large construction requirements and that, on the basis of the record, the Commission was required to make adverse findings under Section 7 (d) of the Act. 3

3 The portions of Section 7 (d) relied upon by the Staff reads as follows:

"If the requirements of Sub-Sections (c) and (g) are satisfied, the Commission shall permit a declaration regarding the issue or sale of a security to become effective unless the Commission finds that-

(1) The security is not reasonably adapted to the securities structure of the declarant and other companies in the same holding company system;

(3) Financing by the issue and sale of the particular security is not necessary or appropriate to the economical and efficient operation of a business in which the applicant is lawfully engaged or has an interest;"

We agreed with the contention of the Staff that we were required to make adverse findings under Section 7 (d) of the Act with respect to the amended declaration. In reaching this conclusion we considered the proposed preferred stock financing in the context of both the declarant's financial requirements and the methods the methods available to satisfy such requirements.

With respect to Central's financial requirements, the record disclosed that, while Central was and is in the midst of an expansion program involving an expenditure of approximately $31,000,000 for the period 1947-1950, inclusive, the company was not in immediate need of the proceeds of the proposed financing to meet its scheduled construction requirements. According to the testimony given on behalf of the company, Central had at March 31, 1948, cash resources in the amount of $1,362,000 and the company estimated that it would have cash resources of approximately $975,000 at the end of June, after expenditures for scheduled construction had been made for the three months period without taking advantage of available bank credit. Thus, it was indicated that the company was in a position to meet its scheduled requirements for a sufficient period of time to enable it to explore other means of financing.

The proposed financing must be considered in the light of the statutory policy expressed in Section 1 (b) (5) in which Congress explicitly referred to lack of economies in the raising of capital as one of the evils to be remedied. As previously indicated, the proposed dividend rate was 5% and the proposed underwriting spread was $5 per share (the highest underwriting spread presented to us in recent years), resulting in a cost of money to the company of 5.26%. On the basis of the record, we have no reason to doubt that these terms were the best obtainable for this particular security. However, quite apart from the question of whether the costs involved were reasonable, the principal issue presented was whether financing by the issue and sale of this preferred stock was necessary and appropriate to the economical and efficient operation of Central's business within the meaning of Section 7 (d) (3). In resolving this issue, we necessarily had to consider the proposed financing in the light of available alternative methods of raising the required capital.

5

As we pointed out in our earlier Opinion authorizing the sale at competitive bidding of the bonds and the proposed preferred stock, the company has planned an extensive construction program, which it proposes to finance by the sale of senior securities and the retention of a portion of

4Subsequent to the entry of our order, the company advised us that it would not require additional cash funds for its needs until the fall of 1948.

5 Supra, p. 1, footnote 1.

estimated future earnings. It would appear that an expansion program of such magnitude should make provision for the issuance of an appropriate amount of additional common stock. Further, a sale of additional common stock at this time undoubtedly would tend to affect favorably the basis upon which senior securities could later be sold.

As we have previously stated in our prior Opinion in this case, an increase in the common equity of Central should be achieved by the investment by Central and South West of funds derived by the sale of its own common stock. While the president of Central and South West acknowledged the need of Central Power & Light for additional common stock capital and acknowledges the obligation of the parent to provide this capital requirement, he was of the opinion that the necessary common stock financing by Central and South West should not now be undertaken. This position was based on the contention that Central and South West's outstanding common stock is not sufficiently seasoned to warrant a present sale of additional shares of the company's common stock at an appropriate price. We cannot agree with this position. In this connection, it must be pointed out that the present shares of Central and South West have been outstanding since the reorganization of the company in February 1947. Further, at the time of the reorganization the management indicated that, earnings and other factors permitting, it intended to pay dividends on a semi-annual basis at the rate of 70 cents per share per annum and it will be observed that semi-annual dividends have been declared and paid on that basis. Moreover, existing common stockholders could be adequately protected against dilution by offering any additional shares to such stockholders pursuant to a warrant program. Based on these facts and our observation of the experience of other recent offerings of equity securities, we were not and are not persuaded that an issue by Central and South West of additional common stock is not feasible.

In the light of all of the foregoing, we concluded that financing by the proposed preferred stock is not necessary or appropriate to the economical and efficient operation of the declarant's business, within the meaning of Section 7 (d) (3),

It should be pointed out that Central's expansion program of approximately $31,000,000 for the period 1947-1950 constitutes 55.1% of the company's net plant account of $57,183,553 (exclusive of $1,208,119 of Account No. 100.5), as at December 31, 1946.

7 Not only Central Power and Light Co., but the entire Central and South West system is engaged in a great expansion of plant and facilities. We have recently considered financing applications by other subsidiaries of Central and South West, which indicate that the contemplated expansion program throughout the system for the period 1947-1950 is approximately $100,000,000 which represents an increase of approximately 50% of the combined plant of the Central and South West as at December 31, 1946. None of these filings disclosed any provision for the sale of additional common stock. See In the Matter of Southwestern Gas Electric Company, 27 S.E.C. 675, (1948); In the Matter of Public Service Company of Oklahoma, Holding Company Act Release No. 7989; West Texas Utilities Company, 28 S. E.C.--, (1948), Holding Company Act Release No. 8183.

8 See, The Middle West Corporation, et al., 22 S. E. C. 636 (1946).

and as stated, we entered our Order denying effectiveness to the declaration, as amended.

Subsequent to the entry of that Order, Central Power & Light filed a petition for modification of that Order to limit its scope to a denial of effectiveness to the amendment relating to the preferred stock sale and to leave outstanding our earlier Order authorizing the sale of bonds and preferred stock, subject to the competitive bidding requirements of Rule U-50. In view of our conclusion that adverse findings are required under Section 7 (d) of the Act, we feel that we cannot appropriately grant the requested modification, and our Order will stand as entered.

By the Commission (Commissioners McConnaughey, McEntire and McDonald), Chairman Hanrahan and Commissioner Rowen not participating.