TVA’s management has also recognized the need to  reduce its debt and other financing obligations to increase its flexibility to  meet competitive challenges. To identify the impact that growth in demand for power in the Tennessee  Valley may have on TVA’s ability to meet its debt reduction plan, we   (1) interviewed officials from TVA, TVA’s Office of Inspector General, the  Tennessee Valley Public Power Association, and the Knoxville Utilities  Board; (2) reviewed prior GAO reports on issues confronting TVA;   (3) reviewed TVA’s fiscal years 2004 and 2005 annual reports, information  statements, and audited financial statements to determine the types of  revenue and costs TVA had reported; and (4) interviewed an official from  CBO with expertise in issues pertaining to TVA. This includes reducing statutory debt by  $6.7 billion and alternative financing obligations by $0.4 billion. TVA plans  to meet this goal by increasing revenue, controlling the growth of its  operating expenses, and limiting capital expenditures. TVA Used a Reasonable Approach to Developing Its Plan to Reduce TFOs

Overall, we found TVA’s approach to developing its TFO reduction goal  was reasonable. To assess  these outside risks, TVA performed detailed competitive analyses and  modeled different market scenarios to estimate its future competitive  environment. As part of its annual internal budget process,  TVA used an accounting model to project annual cash flows and refine its  goal. Assuming that this net cash flow is  applied to reducing financing obligations, the model provides an estimate  of the level of obligations at the end of the simulation, which can then be  used to refine projections used in coming up with its goals. Other sources may also provide reasonable  estimates for key variables in the model, however. Several Key Factors Could Impact TVA’s Ability to Successfully Carry out Its Plan for Reducing TFOs

We identified several key factors that could impact TVA’s ability to  successfully carry out its plan. The timing of electricity industry restructuring,  potential increases in interest rates, and costs associated with meeting  potential new environmental regulations are factors outside TVA’s control. Future rate increases and a fuel-cost adjustment clause are factors that  will help TVA cover unforeseen costs, which will help TVA meet its TFO  reduction goal. Limiting the Growth of Operating and Maintenance Expenses Will Be Difficult for TVA to Achieve

TVA will be challenged to meet its goal of reducing projected O&M  expenses by $1.1 billion from fiscal year 2007 through 2015. Building New Generating Capacity Could Require Capital Expenditures Not Included in the Plan

Building new generating capacity during the current TFO reduction period  to meet the projected demand for power beginning in 2015 would likely  cause TVA to incur new debt and use cash that is currently projected to be  available to reduce TFOs. Growing Demand for Power Could Affect TVA’s Ability to Meet Its TFO Reduction Goal

The growing demand for power could affect TVA’s ability to meet its goal  since TVA’s current projections assume that it will not invest in any new  generation through 2015, other than restarting BFN 1. TVA’s plan includes  the capital expenditures needed to expand generating capacity in existing  generating facilities to meet projected increases in demand for power  through 2015. By 2015, however, TVA estimates that it will need more  baseload generation to meet growth in demand. TVA officials are considering a number of options to meet this projected  increase in demand for power, including partnering with outside parties. Specifically, we are recommending  that:    TVA consider incorporating the variability surrounding certain  assumptions that are now held fixed, such as the starting date for  Browns Ferry Nuclear Unit 1 or possible new environmental  legislation.
Why GAO Did This Study

Competition in the electricity industry is expected to intensify, and restructuring legislation may dramatically change the way electric utilities do business in the future. To be competitive, the Tennessee Valley Authority (TVA) needs to reduce fixed costs and increase its flexibility in order to meet market prices for power. TVA plans to reduce its financing obligations, which include statutory debt and other financing arrangements, by $7.1 billion by the end of fiscal year 2015. GAO was asked to (1) describe how TVA plans to meet its goal for reducing financing obligations, (2) assess the reasonableness of TVA's approach in developing its plan, (3) identify key factors that could impact TVA's ability to successfully carry out its plan, and (4) identify how TVA's plans for meeting the growing demand for power in the Tennessee Valley may impact its ability to reduce financing obligations. To fulfill these objectives, GAO interviewed TVA officials and others, and reviewed budget submissions, financial projections, and other documentation supporting the plan.

What GAO Found

TVA plans to reduce its financing obligations by about $7.1 billion from fiscal years 2004 through 2015 by increasing revenue, controlling the growth of its operating expenses, and limiting capital expenditures. TVA's financing obligations include statutory debt, which it plans to reduce by $6.7 billion, and alternative financing obligations such as energy prepayments, which it plans to reduce by $0.4 billion. Overall, GAO's review found TVA's approach to developing its plan to reduce financing obligations reasonable. TVA performed detailed competitive analyses and modeled different market scenarios to estimate its future competitive environment, then used its internal budget process to project annual cash flows and refine its goal with a cash-based accounting model. Many of the variables used in the models were based on recognized data sources. Augmenting these sources with prices from options markets could provide more accurate estimates in volatile markets. TVA also made fixed assumptions about actions it would take, such as building new power generation, and events, such as the advent of new environmental regulations. While these assumptions are reasonable, they carry uncertainty that is not reflected in the model. Modeling them as variables might better reflect that uncertainty and provide broader information for planning purposes. GAO identified several key factors that could impact TVA's ability to successfully carry out its plan. Factors such as the timing of electricity industry restructuring, potential increases in interest rates, and costs associated with meeting potential new environmental requirements, are key factors that are difficult for TVA to control. TVA has more control over other key factors, such as its decisions on whether or not to construct new power generating facilities before 2015 and to limit operating and maintenance expenses, but these are also affected by outside forces and contain an element of uncertainty. Future rate increases and a fuel-cost adjustment clause are factors that should help cover any unforeseen costs, capital expenditures, or revenue shortfalls. TVA's plan includes the capital expenditures it believes will be needed to expand capacity of existing generating facilities to meet the growing demand for power in its service area through 2015; however, any new or unplanned expenditures prior to 2015 could lessen TVA's ability to achieve the $7.1 billion goal. By 2015, TVA has estimated that it will need more baseload generation to meet growth in demand. TVA officials are considering a number of options to meet this projected increase in demand for power, including partnering with outside parties to build new generation. TVA's current projections assume that it will not invest in any new generation through 2015 other than restarting Browns Ferry Nuclear Plant Unit 1; however, any new or unplanned capital expenditures could use cash otherwise intended to be used to reduce financing obligations.