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The Impact on Rate Cases of Moving from Coal to Gas for Power Generation

September 18, 2012

There has been considerable publicity about the shift in electricity generation away from coal-fired plants to those that use natural gas. Will this impact the frequency of electric utility rate cases? In an otherwise static and theoretical world, a shift away from coal to less capital intensive gas-fired generation might slow the frequency of increases from rate cases, or might possibly reduce their size somewhat. However, the reality is that coal-to-gas will have little net impact upon the outlook for rate cases and the rate changes that result from these proceedings.

For example, to the extent new gas fired generation is installed, the associated investment must be recognize in rates. This investment can often exceed the depreciated investment in older coal plants that are shut down.

Many utilities (e.g., AEP, Dominion and Georgia Power) are reluctant to place too many eggs in the natural gas basket pursuant to the fuel’s historical price volatility. Pollution control investments in coal plants that remain in service will be quite considerable, and will continue to contribute to rate increases. Oklahoma Gas & Electric’s pollution control expenditures may exceed $1 billion through 2017. If so, it would approximate nearly one-third of the utility’s current total investment in electric assets.

Fundamentally, there has been a shift in electric utility strategy over the last decade or so. Most are now focused primarily, if not entirely, on growing earnings through rate cases. This emphasis on increasing the levels of regulated rates has been induced by the failures of many unregulated enterprises owned by utility holding companies. The volume of rate cases has very roughly tripled since early last decade.

An electric utility may desire to file a rate case, but such a filing must be justified. In addition to pollution control, utilities are growing their regulated investment in other ways. One is the replacement of aging infrastructure. As an example, Pepco Holdings, which does not own any generation assets, plans to grow its investment (upon which regulators will allow it to earn a return) at a compounded annual growth rate of 10% over 2011-2016. This is doubled the growth rate in its regulated assets during 2006-2011. The new assets in Pepco Holdings’ three utilities will be dedicated primarily for the replacement and hardening of transmission and distribution systems. It is no small coincidence that Pepco is now boosting its regulated investment; it divested its unregulated generation assets in 2010. Pepco plans to file rate cases annually in the foreseeable future.

Customer conservation is also driving electric rate increases. Power consumption growth has slowed markedly, and during the past several years has been less than twenty percent of what it was during 1975-2000. This means that the full recovery of costs incurred by the average electric utility has become more problematic with existing rates, and raises the likelihood of a rate case filing.

Renewable energy projects are also boosting rates. These are often mandated by state renewable portfolio standards. Such projects tend to be capital intensive. The burgeoning investment in smart meters is also a contributor to higher rates. Many utilities are busy upgrading their customer service, which also increases costs subject to regulated rate recovery.

Finally, while interest rates are at historic lows, it is just a matter of time before they rise. This will induce a multitude of rate cases as utilities seek to obtain a higher allowed cost of capital to apply against their regulated investment. Also, higher interest rates will probably be indicative of greater inflation. This will accelerate increases in utility expenses that must be recovered via higher rates.

It is clear that the regulatory arena will continue to be quite active despite developments in the price relationship between coal and natural gas. The frequency of utility rate cases is correlated directly with the number of changes to tariff menus. Therefore, the expectation of numerous cases will tend to enhance the rate savings opportunities that Procurian Energy (UAI) will be able to discern and implement on behalf of its customers.

Ken Eisdorfer

Since 1986, UAI, now Procurian Energy, has provided energy supply management services that reduce utility costs for multi-site industrial, commercial, and governmental customers.  UAI/Procurian’s core team of unbiased utility rate analysts and deregulated energy procurement experts manage over $2 billion in annualized energy spend and are focused on lowering the cost of utilities for end-use customers. UAI/Procurian’s comprehensive energy cost management services include deregulated energy procurement, utility rate analysis, utility bill auditing and overall utility bill processing services that result in reduced energy costs and measurable utility savings. For more information on Procurian Energy or Utilities Analyses, Inc., visit www.utilitiesanalyses.com

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