July 27, 2000

 

Introduction

Energy Probe intervened in the RP-1999-0034 proceeding particularly with respect to the issues now involved in this proceeding. In RP-1999-0034, Energy Probe believes that it took a unique perspective on the issues, being the only party to fundamentally oppose a return to the utility on capital invested by rate payers and the only public interest party to argue that there is no logical distinction between contributed capital and other sources of retained earnings for the purposes of return, in that it has all come from rate payers. Energy Probe’s unique perspective has limited our ability to participate in coalitions for the purposes of our submissions. As the proceeding advances, we will make every effort to coordinate with parties whose views are compatible with our own with a view to economizing the overall costs of the proceeding.

Energy Probe suggests that the process would benefit from a clarification of the Board’s role with regard to distribution rates. Has the government seized authority to determine distribution rates? Is the Board an adjudicator or a proponent or an advisor to the government? What is the role of Board Staff?

As we will discuss later, Energy Probe believes that fixing the problem of the impending local distribution rate shock should have the input of the provincial government. However, we are concerned that Bill 100 creates problems rather than solves problems. We have studies Bill 100 and found it to be so ambiguous that we cannot determine its implications for ratepayers. Under Bill 100, what happens after 2003? Does the legislation apply to privatized utilities? We would urge the government to explain its intentions on the record in this proceeding.

The scope and informal approach to this proceeding as defined by the Board is not sufficient to address the real problems. The disposition of approximately $7 billion in public money, the potential effects on municipal democracy should windfall electricity profits accrue to local governments, the integrity of the regulatory process, and investor confidence in Ontario’s electricity reforms are at stake. Any one of these issue alone should be of sufficient import to warrant mobilization of all the necessary resources for a full inquiry.

Energy Probe is concerned that a lack of due process will undermine the legitimacy of this process, as it did previously with RP-1999-0034. In this case, an issues list was decided with no issues day or, to our knowledge, no other means of consulting with the interested parties. As was the case with RP 1999-0034, there is no applicant. It appears that there will be no proper rules of evidence for submissions. There will not be any cross-examination or other testing of the positions of parties by other parties. In light of these procedural deficiencies, Energy Probe is puzzled as to what the Board hopes to achieve in this proceeding. Parties who duly expect a clear decision on which they can rely will instead get another result untested by the rigour of a formal hearing, with some likelihood of future government interference in any case.

Given the history on this issue and the fact that a multitude of financial decisions have been taken on the basis of the previous Board decision, it is our opinion that the least bad solution for the problems created by the RP 1999-0034 decision requires actions by the provincial government – specifically a windfall profits tax on municipalities, a matter we have advocated publicly⁽¹⁾. Under Energy Probe’s proposal, although the previously approved rate increase would be implemented, the windfall would be taxed back from the municipalities and the proceeds used to offset the Debt Retirement Charge. The net effect on ratepayers of the distribution rate increase would therefore be neutralized. Energy Probe recognizes that its plan would create significant problems for municipalities that have already set lower property tax rates in the anticipation of windfall revenues.

The reason Energy Probe believes that the least bad solution is to leave the rate increase in place is for the protection of investors. Energy Probe believes that in the long run, protection of the rights of investors to receive a reasonable rate of return on prudently invested capital in natural monopoly sectors is a necessary component of consumer protection. (Note that utility shareholders should not have the right to earn a return on capital invested by others, which is what the decision in RP 1999-0034 did.)

On June 22, 2000, the Ontario Energy Board issued a decision in response to application by Toronto Hydro-Electric System Limited for an interim rate order, RP-2000-0021. Energy Probe’s interpretation of the decision is that the Board may consider it appropriate for Toronto Hydro to postpone a rate increase by borrowing additional money to pay for certain restructuring related debt costs incurred under the Board’s direction as expressed in the PBR Rate Handbook decision. This interpretation is based on two elements of the decision:

1. On the grounds that Toronto Hydro can meet certain debt payments from its credit facility with a Canadian chartered bank, the Board found that “no financial distress was demonstrated” and therefore turned down the requested rate increase.

2. The Board stated that “Toronto Hydro was not able to demonstrate its concern that the use of the Bank credit line towards the payment of servicing the debt until final rates are in place would jeopardize its credit ratings.” The decision stated that “there were no specific plans provided for the possible issuance of debt instruments to third parties, only a general concern that unless rates are increased Toronto Hydro would not be able to obtain third party financing to replace bank line borrowings.”

Other utilities, seeing the Board’s decision, may be guided to remove assets from the utility and leverage themselves to the limit in order to demonstrate “financial distress” and thereby gain approval for rate increases.

Energy Probe considers that it would be inappropriate for a utility to borrow money for the purpose of deferring interest costs without a considered plan in place on how those moneys might be repaid. In Energy Probe’s opinion, such a measure would increase ultimate costs for consumers, or risk the capital of creditors, or both. If Toronto Hydro must default on its loan covenants, we consider that the public interest is best served by a default that is smaller rather than larger.

Energy Probe urges Toronto Hydro and other utilities to eschew further borrowing related to debt repayment until the distribution rate rules are settled.

Response to the Issues List

1. The rate impacts resulting from the elements in the determination of a market-adjusted revenue requirement.

Energy Probe’s response: This issue appears to be ambiguous. We are uncertain as to whether we are being asked to comment on rate impacts or the MBRR. As noted above, Energy Probe believes that the purpose of the electricity restructuring is to minimize long term rates for consumers. Our proposed solution – allowing the distribution rate increase and then recovering the windfall to discharge the DRC – is discussed above.

2. The entitlement of utilities to recover deferred return and, if so, methods of recovery.

Energy Probe’s response: We anticipate that some interested parties may advise the Board to stretch out the implementation of the rate increases caused by the PBR Rate Handbook. We believe that if costs are just and reasonable, they should be paid now and not deferred. Energy Probe opposes any measure that would conceal future liabilities from customers. In general, costs should only be deferred if the corresponding benefits occur over a number of years, for example capital spending on assets with long useful lives. Ontario’s electricity restructuring should be guided by the long term interests of consumers, not short term expediency. We particularly oppose deliberate efforts to keep rate payers in the dark. Energy Probe therefore strenuously objects to the application of deferral accounts as outlined in 3.4.2 of the PBR Rate Handbook. Even if a phase-in was proposed without deferral accounts we would be opposed.

3. The entitlement of utilities to recover utility business re-engineering costs and, if so, methods of recovery.

Energy Probe’s response: Our understanding is that business re-engineering cost are costs incurred to delineate core regulated utility services from competitive services to be offered by new utility affiliates. These costs should be borne by the affiliates, which are presumably expecting to make a profit on their re-engineered services. In any event, we would expect that these costs are not material relative to the disposition of $7 billion in ratepayers’ capital.

4. Filing requirements that give indications of how rate impact mitigation might affect service reliability and quality, and what these filings might consist of.

Energy Probe’s response: We interpret this issue to address potential impacts on service quality if utilities encounter financial distress due to an inability to increase rates. We question whether it is possible to meaningfully attribute specific service quality problems to the current environment of regulatory and legal chaos however, we believe it would be in the public interest for the Board to acquire and summarize this information if it could be obtained inexpensively.

We are encouraged by the Board’s interest in transparency and disclosure. The current discussion about municipal rate increases is hampered by the fact that the Board’s filing requirements do not require the utilities to disclose their rate increases on an undiluted basis. As we noted in our final submissions on RP 1999-0034 October 25, 1999, there is no information before the Board that would allow MEU customers to understand the rate impact on them of the proponent’s proposal. Without publication of customer rate impact analysis, there cannot be adequate notice to the affected parties.

Another transparency objective should be to track the financial leakage from the electricity sector. Both the Board, in its Decision on Toronto Hydro interim rates, and the government, with the introduction of Bill100, have expressed their views on the importance of utilities’ capital structures in the determination of rates. Although we disagree with this premise, we do agree that it is important for utilities to disclose all transactions with their owners and affiliates, and the details of all changes to their capital structure. Accordingly, all utilities should be compelled to file details on all financial transactions between utilities and their owners and affiliates since 1998, as well as details on all changes to capital structure. This should include all transactions involving transfers of cash, land and other assets out of the utilities, so that these values are available in the event that policy decisions are taken to recapture them for the electricity sector.

5. The level of the 10% within class rate impact guideline related to rate restructuring included in the Rate Handbook.

Energy Probe’s response: Given the reference to the RP 1999-0034 decision, we have interpreted this issue to refer not to distribution rate impacts but to total electricity bill. (See RP 1999-0034 Decision with Reasons, para. 3.1.23) We take the view that it is inappropriate to analyze distribution rate impacts without reference to the undiluted impact. Specifically, it is necessary to remove the cost of power from the rate analysis to be able to consider the rate changes in isolation. The 10% bill impact guideline would permit larger Distribution rate increases for LDC’s with lower distribution margins, for example due to high contribution-in-aid charges. After the opening of the competitive market for the electricity commodity, power costs, and customer bills, will become more volatile. It is inappropriate, and inconsistent with good rate making principles, to allow higher distribution increases solely because power rates increase.

APPENDIX : Energy Probe’s history on RP-1999-0034

The following is a brief selection of summaries of, and references to, previous submissions of Energy Probe on the PBR Rate Handbook, provided here for the assistance of the Board and the parties :

Motions Day, August 24, 1999

Energy Probe argued for due process for consideration of PBR Rate Handbook. (TR 64-68)

 

Technical Conference

Energy Probe’s questions focussed on the OEB’s role in determining in the size of the municipal utility windfall. (V. 2 TR 340-347)

Our oral submissions addressed the rate shock problem head on:

With the old Ontario Hydro restructuring, there is a major effort by many people to move heaven and earth to make electricity rates go down, but on the municipal utilities’ side of the ledger, the OEB staff has come forward with a plan that makes the rates go up.

Does this picture seem backward to you? It does to us. (V. 3 TR 612)

Under the proposed scheme, the OEB’sdraft handbook, not the government’s Bill 35, is bestowing a windfall on municipalities by allowing the distribution utilities to double charge for their capital already paid by their consumers.

By allowing a massive leakage from the electricity ratepayers to municipalities, the OEBstaff proposal will raise electricity rates, which in our view contradicts the intention of the White Paper, and we are very concerned will potentially impair public support for electricity reform in Ontario.(TR 615)

Here is the punch line. In Energy Probe’s opinion, it is in the public interest for the stranded benefits within municipal utilities to continue to benefit electricity consumers. All future cost, including the full and fair cost of new capital should be recovered from users. (TR 617)

Submission of Energy Probe, Prefiled Notes for October 5, 1999 Oral Submission

Many representatives of the MEUs have argued in this proceeding that government’s policy is to commercialize the MEUs. Without detracting from this comment but rather to expand on it, Energy Probe suggests that the government’s policy is also to cut electricity rates for consumers. The Minister’s speech in releasing the White Paper referred to one of the goals of the restructuring as leading to electricity rates at “the lowest possible cost”. The third sentence of the White Paper referred to the goal of “lower electricity prices”. The White Paper also noted, “The Government will work with Ontarians to ensure that the electricity industry is restructured in a timely and well-managed way, with the necessary protections for both business and residential customers.” In another expression of concern for the interests of ordinary consumers, the White Paper says (p. 20), “Under the Government’s plan, when consensus on amalgamation among utilities cannot be reached, the Ontario Energy Board would be available, at the request of the utilities, to facilitate the process and ensure that the interests of the consumer are met.” (page 1)

Energy Probe has developed an alternative procedure for setting initial distribution revenue requirements which accomplishes the following objectives :

• Distribution utilities will be on a level playing field.
• Utilities and ratepayers will see normalized rates, including a MBRR.
• To prevent double payment, ratepayers will get itemized reductions to the normalized rate which will decline over time, while allowing utilities a fair return on new investment.
• Ratepayers will be spared shocking increases, but utility investors will earn the MBRR

ENERGY PROBE’S PROPOSED REVENUE REQUIREMENT FORMULA

1. Distribution revenue requirement (before MBRR) per Draft Handbook calc.
2. + Current book depreciation per financial statements.
3. – Additions to fixed assets per financial statements (average of most recent 3 yrs).
4. – Utility net income per financial statements.
5. +/(-) Net interest income (expense) per financial statements.
6. = Adjusted current revenue requirement (before MBRR).
7. + MBRR on rate base including contributed capital.
8. = Normalized Revenue Requirement including MBRR.
9. – Portion of net utility cash and marketable securities, if any.
10. – Depreciation of ratepayer-funded rate base.
11. – MBRR on remaining ratepayer-funded rate base
12. = Opening Revenue Requirement- Distribution

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Notes

1. The impact of PILS should be disclosed on customer bills when it becomes payable.
2. Opening rate requirement excludes transition or Z-factor costs.
3. Line 8 figure should be used in applying price cap.
4. Line 9 should only be used if positive.
5. Lines 2 and 3 should include assets financed with contributed capital.
(Page 6)

ENERGY PROBE, Oral Presentation to the Board, October 5, 1999

The real concern that brings us here today is the rate implications, the rate shock, which we anticipate to be approximately a 35 per cent increase in the distribution rates which, as we will argue in our presentation, we think is at least partially and perhaps wholly unnecessary. (TR 295)

If the OEB staff plan is pursued, Energy Probe is concerned that ratepayers will blame their higher rates on unbundling and competition, when the real culprit is the substantial transfer of wealth to municipalities implicit in the Board staff plan. (TR 298)

However, with Ontario’s municipal utility distribution rates the proposed increases are, in our view, counter-intuitive. Distribution utilities are flush with close to a billion dollars in cash and marketable securities. Just think about that for a minute, a billion dollars in cash. Think of any place else in the economy where a billion dollars in cash might exist. That’s more than the liquidity requirements of the federal government I am sure.

The utilities have no debt. Their infrastructures appear to be in reasonable condition for the most part. The fact that they have this huge amount of cash on hand is clear evidence that the historic rate-making practice has been inherently inefficient. We believe that customers have been overcharged historically.

In our oral presentation at the technical conference we noted the inequity of ratepayers being charged again with interest for assets, the cost of which they have already paid. We also set out several possible remedies to this distortion, albeit some within the OEB’s purview and some outside of the OEB’s purview, including a special dividend to ratepayers or having municipal utilities absorb a portion of Ontario Hydro’s debt. (TR 298-299)

So our proposal eliminates the double payment issue and ratepayers get an itemized reduction to their normalized rate, which declines over time. It allows the utilities — and I think this is a key point — it allows the utilities to make a fair rate of return on all new investment when there is — as we normalize and rationalize the electricity sector. They have a normal business structure under normal regulation. We expect them to be partially debt financing, partially equity financing their long-term investments, and that debt and equity becomes the basis for a market-based rate of return.

Finally, the ratepayers, under our proposal, are spared rate shock because what we have done is we have eliminated the double payment and the double counting. (TR 304)

RP 1999-0034 Final Submissions on behalf of Energy Probe, October 25, 1999

Energy Probe opposes the severe but unquantified and apparently unnecessary customer rate impacts inherent in the MBRR element of the Staff’s PBR Handbook. We have attached as an appendix an example of how our proposed formula can cause rates to decrease…It may seem peculiar that Energy Probe is advocating an initial rate decrease in conjunction with the adoption of a market-based rate of return for local electricity utilities, when many other parties accept that at least some initial increase is necessary. The explanation of our position is actually quite simple. (P. 1)

There is no information before the Board that would allow MEU customers to understand the rate impact on them of the proponent’s proposal. Without publication of customer rate impact analysis, there cannot be adequate notice to the affected parties. (P. 3)

The proponent’s proposal, articulated in the PBR Handbook and the Supplement have not been properly considered and cannot be accepted by the Ontario Energy Board. The onus on the proponent was not discharged and no adequate notice to affected parties was provided. (P. 4)

The matter of appropriate LDC distribution tariffs deserves extensive further policy consideration and a full hearing with due process and much more complete information than has so far been made available. There is insufficient evidence on the record to do anything but freeze rates until the Board has before it an appropriate plan that minimizes rates. (P. 4)

IN THE ALTERNATIVE

If the Ontario Energy Board is not an independent adjudicator in the matter of the implementation of MBRR, the Board might issue a decision inviting the government to decide the matter. (P. 4)

If the government wishes to have a complete and legally binding decision by the OEB, the Minister could refer the matter back to the Board for full consideration. Alternatively, the government could decide the matter on whatever basis it finds suitable. (P. 4)

1. “Credibility meltdown”, National Post, June 14/2000, by Thomas Adams and Michael Hilson.