NARUC Energy Regulatory Partnership Program

1
Principles of Rate Regulation

• NARUC Energy Regulatory Partnership Program
• The Georgian National Energy Regulatory
  Commission
• and
• The Vermont Public Service Board

by Andrea McHugh Vermont Public Service Board
June 28, 2008
2
Overview

• Part I Economics of Regulation
• Part II Sectors in Vermont
• Part III Price Regulation
• Part IV Rate Case Principles
• Part IV Steps for a Vermont PSB
• Rate Case

3
Objectives of Economic Regulation

• Economic efficiency
• Fair prices to consumers, producers and regulated
  entity
• Reasonable service, with non-discriminatory
  access
• Adequate quality and reliability
• Other policy considerations
• (social objectives)

4
Additional Goals of Economic Regulation

• Attracting investment
• Supporting privatization
• Rights and obligations must be clear and
  enforceable
• Transparent and predictable regulatory process
  and outcomes
• Clear franchises
• Enable fair competition where possible

5
Efficient and Distorted Markets

• DISTORTION
• One or few players (monopoly, oligopoly)
• Legal entry / exit barriers
• Imperfectly informed players
• Players do not have to pay for the full social
  cost of their activities (subsidies,
  externalities)
• Most of the players are publicly owned (seeking
  to maximize growth and influence)

• EFFICIENT MARKET
• Number of players is large
• Easy entry to and exit from the market
  (contestable market)
• Fully informed market participants
• Most of the players are private (seeking to
  maximize profits)

6
Distorted Prices Regulatory Tasks

• GETTING THE PRICES RIGHT
• (MIMIC THE MARKET)
• Monopoly price regulation
• Market price caps
• Merger control and antitrust
• Removing direct and indirect price subsidies
• Renewables pricing
• Creation of emission rights / green certificates
  markets
• Environmental taxation

• PRICE DISTORTIONS
• Above-efficient market prices
• Monopoly pricing
• Few players exercising their market power
• Below-efficient market prices
• Subsidised industries
• Non-internalised external costs (free pollution)

7
Sectors Subject to Price Regulation in Vermont

• Electricity
• Transmission (federal regulation)
• Distribution (state regulation)
• Generation - not directly regulated (except
  through distribution company rates and siting)
• Includes all in-state generators

8
Sectors Subject to Price Regulation in Vermont
(cont.)

• Natural Gas
• Transmission (interstate pipelines subject to
  federal jurisdiction)
• Vermont pipeline is not connected to the
  interstate system
• Canadian pipeline supplies Vermont
• Distribution (state regulation)
• Gas marketers (not in states that have
  deregulated)

9
Sectors Subject to Price Regulation in Vermont
(cont.)

• Telecommunications
• Landline phone companies
• Water
• Privately owned water systems

10
Sectors Not Subject to Price Regulation in Vermont

• Fuel Oil
• Propane (except for safety and limited price
  regulation of propane systems)
• Wood
• Cell phone companies
• Municipal water systems

11
Intrastate Operations

• In areas subject to price regulation, rate
  regulation includes all aspects of intrastate
  operations
• Actual distribution plant
• Generation facilities
• Purchased power/purchased gas contracts

12
Guideline for Price Regulation

• The regulator should set regulated rates or
  tariffs for the regulated companies so that the
  regulated rates allow the companies to earn a
  revenue that covers the justified costs of
  their operation, that is the costs that are
  necessary and unavoidable to provide the
  regulated service at a predefined level of quality

13
Price Regulation

• Intended to address each of the economic
  objectives outlined above
• Mechanism
• rate levels (revenue requirement cost-plus)
• rate structure (rate design)
• Prevent excessive prices or discrimination
• Ensure adequate earnings and enable company to
  attract capital
• Service
• Safety
• Management efficiency

14
Elimination of Subsidies

• Definition - prices below long run marginal costs
  (economic)
• Problems - wrong price signals
• Encourages consumption if prices too low
• Discourages consumption if artificially high

15
Discriminatory Pricing

• Often occurs to meet social or economic goals
• If not cost-based, who decides what goals should
  be supported?
• Low income
• Economic development
• Environmental concerns
• Solution - cost-based rates
• Variations must be justified based upon actual
  cost differences

16
Traditional Price Regulation

• Revenue requirements supported by cost of service
• Cost-plus ratemaking
• Rate base
• Expenses
• Return on investment
• Overall standard - Just and reasonable rates

17
Objective of Price Regulation
Annual Revenue Requirement (ARR) Total
Cost Priceelectricity sold FC VC
(justified) Price (FC VC) / electricity sold
(/kWh) Primary task is to understand
costs
18
Rate Case Objectives

• Rates should reflect the cost of providing
  service
• Costs should include all relevant costs, private
  and social
• Costs should be reasonably and prudently incurred
• Costs should be used useful

19
Revenue Requirement

• Cost-Plus ratemaking
• Determine OPERATING INCOME at current rates
• Revenues, retail and other
• Expenses, including taxes
• Determine the RATE BASE
• Estimate the required COST OF CAPITAL
• Compute revenue deficiency or excess

20
Accounting

• Chart of Accounts- FERC requires use of Uniform
  System of Accounts (USofA) for accounting
• Some state-specific forms
• Vermont requires use of FERC system
• Generally Accepted Accounting Principles (GAAP)
• Use these standards and rules in preparation of
  financial statements for consistency

21
From Costs to Rates

• Step 1 Allocate costs between customer classes
• Step 2 Design rates within customer classes
• Step 3 Address tariff issues including credit,
  collection, service response, etc.

22
Statutory Requirements in Rate Cases

• Statute sets time limit for decision 7 months
  from suspension of tariff or start of
  investigation
• Board must make decision based on record
• Department of Public Service represents interests
  of the State

23
Schedule

• Basic steps are
• Tariff Filing, Petition for Investigation, or
  Board initiation
• Prehearing Conference
• Intervention by Parties
• Public Hearing
• Discovery
• Filing of Testimony
• Hearings (Can have separate hearings on direct
  and rebuttal cases or combined)
• Briefs
• Board Decision

24
Schedule (cont.)

• If the case is assigned to a Hearing Officer
  instead of the Board hearing it directly, there
  are a few more steps in the process after the
  parties file briefs
• Hearing Officer issues Proposal for Decision
• Parties file comments, requests for Oral Argument
• Oral Argument before the Board (if requested)
• Board decision

25
Notice

• Board provides formal notice of all hearings,
  including status conference, prehearing
  conference
• All Orders provided to parties and interested
  persons in many cases, also to the press
  (depending on interest)

26
Public Hearing

• For a substantial number of Board cases,
  including most rate cases, Board holds public
  hearing
• Advance notice to public, preferably in
  customers bills
• Generally, entire hearing is devoted to hearing
  public concerns
• Utility and/or public advocate may introduce
  issues
• At times, will allow public to ask questions of
  company
• Vermont Interactive Television can be used as
  tool

27
Information Flow

• Board receives the following information
• Cost-of-Service Filing
• Written Testimony (usually 2 sets from each
  party)
• Discovery Responses (these are not part of the
  evidentiary record unless we or another party
  make them an exhibit)
• Briefs (usually 2 sets from each party)
• Also routine procedural filings (schedule,
  interventions, etc.)
• Compliance filings (after final Order is issued)
• Board can and will request parties to address
  specific issues in testimony (not in every case)

28
Information Flow Confidential Information

• Companies regularly have information that they
  claim would cause competitive harm if disclosed
• To allow exchange of information, parties
  generally execute protective agreements, which
  the Board then approves through a Protective
  Order
• Unless asked, at this stage, Board generally does
  not review the merits of whether particular
  information should be kept confidential
• If party wants to use confidential information at
  hearing, must make showing as to why it should be
  kept confidential

29
Hearings

• Held after all testimony is filed
• Since parties file all testimony in writing in
  advance, hearings consist of cross-examination
  and Board questions
• In typical rate case for large utility, hearings
  take about 1 week (on average)
• Hearings are open to the public occasionally it
  is necessary to briefly close the hearings to
  discuss confidential information

30
Settlements

• Utility and Public Advocate may reach settlement
• Board may accept, reject, or condition
• Intervenors may or may not support
• Settlements reduce litigation and foster
  cooperative resolution, but, they may also
  provide less transparency

31
Board Decisions

• By law, Board must make decision based solely on
  evidence in the record
• Board applies its expertise in reaching those
  decisions
• Public input (from public hearings and comments)
  is not considered part of the evidentiary record.
  Instead, Board considers it in weighing
  testimony and raising issues
• Ex parte communications are prohibited

32
Board Decisions (cont.)

• Staff will usually make recommendations
• Board then accepts, modifies, rejects
• Basic decision rules
• Just and reasonable rates (fairness)
• Consistency with past practice
• Disallow imprudent or non-used-and-useful costs

33
Board Decisions (cont.)

• Board decision-making and writing of decision
  often compressed
• After briefs, usually have 4-6 weeks at most to
  issue decision
• Rate case Orders are often substantial (100
  pages)
• Frequently issue press release to assist in
  public understanding