By Charlotte R. Lane, Chairman
Public Service Commission of West Virginia
All sorts of things can trigger a rate increase request from a utility and approval of
increased rates by the Public Service Commission of West Virginia.
The primary factors driving utility rate filings are the cost of operations and the
cost to provide utility service. Key elements include maintenance of the utility’s
lines, such as the transmission and distribution wires used by electric utilities and
the pipelines used by gas, water, and sewer utilities. The costs to produce or
purchase what they sell are major components of their revenue requirements.
For example, an electric utility must buy fuel to produce electricity. Water utilities
must treat water to make it potable or buy it from a larger utility that meets those
needs. Utilities also are required to expend considerable sums on environmental
controls and meeting required environmental and safety regulations.
In addition, all utilities have large investments in plants and equipment. Cash is
required to pay for the debt and equity capital used to finance those investments.
Debt capital costs are directly related to the cost of borrowing money from banks,
bondholders, and other investors in utility debt. The cost of debt is set by the
terms of utility borrowing agreements, which set repayment terms, interest rates,
and debt service reserve and coverage requirements.
Equity capital is different since there are no guaranteed interest or repayment
obligations. When an equity investment is made by stockholders or other owners
of a private utility, those investors expect a return on their capital. Under
generally accepted accounting principles, the return on investor capital is not
recorded as an expense. Therefore, some level of reasonable net income after
expenses and taxes must be available to provide a return on stockholder and
owner investments in utility operations. This net income is commonly referred to,
sometimes pejoratively, as “profit.”
Public Service Commission
of West Virginia
First, I will discuss the need and purpose of profit. Anyone who invests in
businesses, including stockholders, trust funds, retirement funds, and insurance
funds, can understand the expectations of earning a return on their investments.
Therefore, they should understand that profit is not a dirty word. Profits are
allowed to compensate investors of private utilities for money they have invested
in the business, but only if that money was used prudently to finance assets that
are necessary for the provision of utility service. Non-utility businesses can earn
unlimited profits, but they also face greater risks than regulated utility companies.
While an interest in keeping utility rates low may seem to argue for the
Commission to require very low or no profits, such regulation would be
counterproductive if it limits a utility’s ability to attract the capital it needs to
maintain high-quality utility services. It also would violate the law. Courts
repeatedly have ruled that utilities are entitled to earn a reasonable profit or rate
of return from their operations. We call this the rate of return on equity
investment. The Commission is legally bound to set that rate of return level at a
figure that gives the company stockholders – which can be you, your retirement
fund, your insurance fund, or any other investor – a reasonable profit, which is
really a return on their investment.
Companies generally file for two types of headline-grabbing rate cases. One
deals with the overall financial condition and revenue requirements of the
company. That is called a base rate case. A second type is one of several
special cost recovery cases, which are limited to recovery of a set of specific
costs that are excluded from base rate cases and considered on a stand-alone
basis.
Base rate cases involve most elements of the company operations and
maintenance costs; meeting whatever environmental controls it must; the day-to-
day cost of the company operations; coverage of debt capital, including the
interest payments; and return on equity invested in necessary property, plant,
and equipment.
These base rate cases are not filed on any regularly scheduled basis. The trigger
for a base rate case involves many factors, including growth in plant investment,
growth or loss of customer load, changes in environmental and safety
regulations, tax law changes, and changes in the cost of debt and equity capital.
There were periods in the past when rate cases were filed almost every year,
while during other periods there could be four or more years between base rate
cases. Currently, we expect utilities will file base rate cases about every third
year.
Each base rate case has its own particular set of circumstances driving the need
for the filing, and I do not intend to defend or downplay the merits of the
circumstances of individual utilities that may justify rate increases. However, we
are well aware that recent inflation, changes in environmental and safety
regulations, and increased cost of borrowing money are all factors that are
putting pressure on utility costs. As we are painfully aware from our own
household budgeting, almost everything we buy – from a dozen eggs to a gallon
of gasoline – costs more today than they did just a few years ago.
Base rate cases involve an enormous amount of work, not only for the
companies involved, but for the Commission, our staff, and intervenors in the rate
cases. Base rate cases generally involve a proposed major increase in rates.
They take a long time to investigate, conduct hearings in which pubic protests
and other public input can be received and all parties can provide expert
testimony and evidence, and then for the Commission to reach a conclusion.
While we try to safeguard ratepayers from unreasonably higher utility prices, it is
almost inevitable that rate increases are going to occur. Things just cost more,
and requirements being placed on utilities plus inflation in costs, including payroll,
are no exception to the rising expense. Inability to recover reasonable and
prudent costs will lead to degraded quality and reliability of service. While
consumers may have to accept lower quality goods and services from non-utility
suppliers, we cannot afford to allow utility service, which is essential for public
health and welfare, to degrade to unreliable and unsafe levels.
It is important for all of us that our utility companies remain in a strong financial
position so they can properly and reliably provide vital services such as powering
our heating, air conditioning, and other electricity consuming equipment, and
providing water, natural gas, and sewer disposal for all of us.
You may think your water, electric, gas, or sewer bills are high. And when
compared to the bill of 10 or 20 years ago, they are. But how would you like it if
you had to dig a well and draw your water that way, maintain a safe and
environmentally acceptable septic system, or heat your home with a wood or coal
fireplace? The costs, quality of service, and environmental impacts of such
substitutes for the utility services we receive are not going to be very attractive
compared to the payments we make to utility companies. And I didn’t even
mention the time and inconvenience such an arrangement would require.
One of the costs of a modern civilized society is to have financially sound utilities
operating to provide us with the vital utility services that we want and need.
In all of our rate cases we allow representatives of all customer groups to
participate. We also encourage negotiation meetings with the utilities and
customer representatives to try to reach a compromise on rates and service that
will be acceptable to everyone.
In many instances, after long negotiating sessions, a compromise is reached and
given to the Commission. In many instances, we give that compromise our
blessing because, while it may require give and take where all parties give up
something and gain something, it generally is endorsed and is satisfactory to all.
A second major type of rate case that involves only a subset of costs is one that
allows recovery of the costs of the product utilities are selling to you. For electric
utilities, these are called ENEC cases, which stands for “Expanded Net Energy
Cost” cases. The costs considered in these cases are limited to the cost of fuel
used for producing power, purchased power from neighboring utilities, and
transporting power back and forth on the transmission lines of the utilities. ENEC
cases are typically filed annually and are normally processed and finalized in six
months or less.
Since the components of ENEC costs can fluctuate widely from year to year, and
some of the costs are controlled by the Federal Energy Regulatory Commission,
it is critical for most companies that we review these costs annually between
base rate cases.
These cases also go through the process used in base rate cases, but because
the issues are limited, they usually take less time to complete. There are other
limited issue rate cases allowed, some of which are required by law, and some of
which have been approved by the Commission to extract specific issues out of
the base rate group of costs so that they can be reviewed annually. These cases
include:
- Purchased water and sewerage treatment cost recovery cases. These cases
are allowed for water and sewer utilities that purchase water or sewerage
treatment from a neighboring utility. When the rates of the neighboring utility go
up, the purchasing utility is allowed to file a limited and expedited rate request to
recover the increased cost.
- Natural gas pipeline replacement cost cases. The Legislature mandates these
cases to allow natural gas utilities to recover costs related to specific pipeline
upgrade and replacement programs. The pipeline programs are established as a
five-year plan to improve utility pipeline systems. Each year the natural gas utility
files an updated rate request to recover pipeline replacement and improvement
costs that are projected to take place in a future 12-month period. In each case,
the Commission reviews the future projects to determine that they are in
compliance with the limitations of the five-year plan, and also reviews the actual
investments made in a prior 12-month period to determine whether the rates
established resulted in an over-recovery or under-recovery of actual costs.
There are several other special cost recovery rate cases, some authorized and
mandated by the Legislature, and some established by the Commission to
expedite and streamline the ratemaking process.
Rate regulation may not be a perfect system, but considering the necessity of
reliable utility service to maintain a high quality of life and the nature of utility
delivery systems that spread costs over the largest possible number of
customers to produce the lowest reasonable rates, the rate and service
regulatory system is the one we have and which we will strive to manage in the
best interest of utility customers.
But bear in mind that financially healthy utilities are vital to all of us, no matter
how much we grumble about it, and adequate revenues collected from
customers are the statutorily required source of funds to assure that the utilities
that serve our basic needs are in a position to meet those needs.
