Regulated Utilities and Rate Design - Deloitte US · Regulated Utilities and Rate Design Supplemental Prepared Remarks I have written extensively about microgrids. I see they have

Bill Graf Moderator

Partner

Deloitte & Touche LLP

Regulated Utilities and Rate Design

Mark B. Lively Consulting Engineer

Utility Economic Engineers

[email protected]


mailto:[email protected]


Supplemental Prepared Remarks Yesterday I heard Richard Stavros ask a question.

I met Richard about 10 or 15 years ago when he was editor of Public Utilities Fortnightly (PUF) and published an article I wrote. 25 years ago, long before Richard got there, PUF published my first article, "Tie Riding Freeloaders--The True Impediment to Transmission Access," Public Utilities Fortnightly, 1989 December 21. I wrote "Tie Riding Freeloaders" as personal therapy after being on the next to the last flight of Pan Am 103. The last flight, the next day, crashed in Lockerbie, Scotland.

Mark B. Lively 3


Supplemental Prepared Remarks My PUF article discusses the concept of pricing unscheduled

flows of electricity. If you have two electric utilities connected by a transmission line, there will always be some flow on the transmission line. Ask any power engineer. If the flow is unscheduled, it is called inadvertent interchange, as would be any deviation from any schedule. If there are 2 lines, owned by different economic interests, and we schedule power to flow on one of those lines, some power will flow on the other line. The unscheduled flow might be called low flow or parallel path flow. I say there needs to be a way to price inadvertent interchange and loop flow following economic principles which may not be in accord with normal accounting costs. I call the concept WOLF, for Wide Open Load Following.

Mark B. Lively 4


Supplemental Prepared Remarks Yesterday Walt Patterson of Chatham House advocated

microgrids. This is where one of the two utilities is very small, perhaps even very, very small. In the extreme it might be a single residential customer, the concept of my slides. The electric industry in the U.S. started with microgrids. Sam Insul saw that by connecting microgrids with transmission, he could build bigger, more efficient power plants and shut down a slew of small inefficient power plants, which prior to automation had 24x7 staffing at each plant. Eliminating 24x7 staffing at dozens of power plants pays for a lot of transmission, as does a halving of fuel costs.

Mark B. Lively 5


Supplemental Prepared Remarks

But Sam Insul didn't have something like WOLF pricing to pay for transmission, so he bought each microgrid, built the transmission, and formed utility holding companies, which grew into the electric utilities we have today.

Mark B. Lively 6


Supplemental Prepared Remarks I have written extensively about microgrids. I see they have

the same issues as traditional utilities, including how to pay participants. In a fun article, I wrote about how a neighbor, think Heather Heard of Deloitte, was a greenie, with solar and wind mills, while I was a troglodyte with a dirty diesel. We connect our houses electrically. Where there is a huge renewable surplus, the transaction price is very low and I can shut down my diesel as being uneconomic. When there is a shortage, the transaction price is very high. This 7 year old article is “Microgrids And Financial Affairs - Creating A Value-Based Real-Time Price For Electricity,” Cogeneration and On-Site Power Production, September, 2007.

Mark B. Lively 7


Supplemental Prepared Remarks 22 years ago, I helped Tampa Electric Company with its standby tariff,

where customers paid a monthly fee in the form of a demand charge of sorts to TECo for TECo to stand ready 24x7 to provide backup to their microgrids. TECo's Bill Ashburn is my guest, my "plus one," at this conference. Walt Patterson's microgrids need such standby, but then so does any customer with alterative supplies, whether a home owner with solar or a gas customer with a heat pump. Having these part time customers pay for standby reduces the amount the utility must collect from "standard" customers, customers without alternative supplies. This rate change reduces the subsidies being paid by standard customers, subsidies which would otherwise overly encourage customers to make investments in uneconomic alternative supplies.

Mark B. Lively 8

Importance of Rate Design

• Rate design can create cross subsidies within a

rate class, i.e., residential subsidizing

residential

• Cross subsidies give wrong incentives

– Electric Utilities “overly” promote PV

– Gas Utilities “overly” promote

• Heat pumps

• Wood stoves

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Residential Gas Consumption

• Need for pipes is based on demand

• Pricing is based on throughput

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0

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Daily Gas Consumption

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Need for pipes based on

maximum throughput

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Need for pipes based on

maximum throughput

Revenue for pipes based

on total throughput

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• Opportunity for residential cross-subsidy

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Standard With Heat Pump

With Wood Stove

Residential Consumption

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Customer

Type MCF

MCF

Allocation

Traditional 210 $ 354.93

Heat Pump 90 $ 152.11

Wood 55 $ 92.96

355 $ 600.00

$600 $1.690

Standard Rate Design

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Subsidy of Standard Rates

Customer

Type

Customer

Allocation

MCF

Subsidy

Traditional $200 $ 154.93

Heat Pump $200 $ (47.89)

Wood $200 $ (107.04)

$ 600.00 $ -

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Customer

Type Demand

Demand

Allocation

MCF

Subsidy

Traditional 20 $ 240.00 $ 114.93

Heat Pump 20 $ 240.00 $ (87.89)

Wood 10 $ 120.00 $ (27.04)

50 $ 600.00 $ -

$600 $12.000

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• Encourages sub-optimal customer actions

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Residential Electricity Consumption

• Need for wires is based on demand


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0

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Residential Hourly Load Curve

72 KWH of consumption

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Residential Hourly Load Curve Need for wires based on maximum throughput

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Residential Hourly Load Curve Need for wires based on maximum throughput

Revenue for wires based on total throughput

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0

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1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24

Solar Production Curve

7.6 KWH of Solar 1.0 KWH at Noon

0

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Residential With Sum Solar

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-2

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1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24

Residential With Lots of Solar

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Standard Rate Design

Customer

Type KWH

KWH

Allocation

Traditional 72.0 $ 181.89

Some Solar 64.4 $ 162.69

Solar Ratchet 51.9 $ 131.12

Solar Net Net 49.2 $ 124.29

237.5 $ 600.00

$600 $2.526 29 Mark B. Lively


Customer

Type Demand

Demand

Allocation

KWH

Subsidy

Traditional 4 $ 150.00 $ 31.89

Some Solar 4 $ 150.00 $ 12.69

Solar Ratchet 4 $ 150.00 $ (18.88)

Solar Net Net 4 $ 150.00 $ (25.71)

16 $ 600.00 $ -

$600 $37.500

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• Encourages sub-optimal customer actions

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Mark B. Lively 32

y = 0.0154x + 0.3487 R² = 0.0784

$0.024

$0.028

$0.032

$0.036

$0.040

$0.044

$0.048

$0.052

$0.056

0%

10%

20%

30%

40%

50%

60%

70%

80%

0 1 2 3 4 5 6 7 8 9

$

/

K

W

H

L

o

a

d

F

a

c

t

o

r

Customer Demand (KW)

Customer Load Factor vs. Demand 0.025*KW+0.300

$100/KW and 40% PV Energy

Normal LF Adjusted Linear LF Needed Revenue Adjusted Revenue Requirement Linear (Normal LF)

Commodity Subsidies

• Gas markets vary by day, soon intra-day

• Electric markets vary by hour, or intra-hour

• Periodic adjustment clauses protects utility net income from variable commodity cost

• Cross subsidies associated with commodity rates can still encourage inappropriate customer investments

33 Mark B. Lively

Conclusions

• Standard Energy Rate Design Produces Subsidies Relative to Demand Rates

• Subsidies Encourage Investments That Reduce Billing Energy

• Wires/Pipes Costs Stay the Same

• Death Spiral by Rate Design

34 Mark B. Lively

Eric Ackerman Director

Alternative Regulation

Edison Electric Institute

[email protected]



A Crossroads

“The nation’s energy technologies and are advancing

faster than the rules, rates and administrative

processes that govern how America’s utilities

operate…At the heart of this challenge is the

application of a 20th century regulatory model for a

21st century.”

-- Powering Forward: Presidential and Executive Agency Actions to Drive

Clean Energy in America, Center for the New Energy Economy, January

2014. needs

Legacy Rates Are Unsustainable

Reliance on volumetric (kWh) charges for fixed cost recovery leads to cost shifting (the “Green Energy Divide”)

Need to increase fixed charges

Rate incentives for PV and other favored technologies (net metering, non-compensatory backup and standby)

contribute to ever larger cost shifts

DER industries are no longer fledgling

Rate policies need to evolve to cost-based service agreements

DER will reach 30% of Installed US Capacity by 2020

Effectively all incremental growth in capacity will come from customers

30%

Customer-Grid Evolution Customer DER driven by resilience, economics & environmental objectives

• Increasingly networked, increasingly transactive

© Copyright 2014, Newport Consulting Group, LLC

Operational Evolution: 1978-2001 Transactive Energy: 2020+

DER at scale will likely lead to multi-party transactions and the creation of local balancing & distributed markets to integrate customer DER

Utilities Need New Flexibility

Utilities need new flexibility to offer differentiated value-added services Reliability services Network management services Transaction management services

Utilities need flexibility to develop distributed energy

In rate base (microgrids) Outside of rate base (community solar, customer sided

applications)

Conclusions

1. The Utility of the Future = f(grid modernization)

2. Integrated control & operation is key

3. The Utility of the Future needs a new regulatory model.

4. The foundation for that model will be new rate policies.

Philip R. O’Connor, Ph.D. President

PROactive Strategies, Inc.

Leave No Price Undistorted: Energy Utility Rate Design

Rate Design: A Regulatory Afterthought

• “Revenue Requirement” has been the main focus in traditional vertical monopoly regimes and now in competitive regimes for delivery rates

• Historically embedded rate design features perpetuate divergence from cost of service study indications

• There is an enduring cross-subsidy temptation

• The politics of price signals – “dangerous knowledge”

– Traditional “cost of service” misprices surplus & shortage

• Inertia & Incrementalism v. Initiative & Innovation

Traditional Tensions In The Rate Design Process

• Regulatory resource allocation: Limited professional staff - revenue tends to trump rate design

• There are better & worse “arbitrary” cost allocations

• High profile issues, though often of limited consequence, such as return on equity and charitable contributions tend to receive more attention than will rate design efficiencies

• Tradition of favoring volumetric cost recovery over fixed rates is politically & intellectually difficult to confront

• Short commissioner tenure limits rate design education

New Tensions In The Rate Design Process: Competitive Markets & New Policy Goals

• State-level energy efficiency and load reduction goals

• Renewable portfolio standards and net metering

• Movement to competitive markets by states with one-third of total national load removes most cross-subsidy from supply, leaving less room for overall cross-subsidy through delivery rates

• Many competitive states have not significantly altered process – similar complexity & resources for delivery-only rates

• Diversity of residential retail products in competitive states may invite regulatory intervention to limit offerings

There Is Not A Clear Prevailing Philosophy Of Rate Design At State Level

• Legacy rate design features and philosophies largely develop during a period of utility growth – both in energy consumption and expansion of networks

• In a few states – such as California -- legacy designs include elements such as inverted pyramid tiered volumetric rates

• NARUC has not initiated a shared effort at reconsideration

• FERC provides some examples of rate design consistency

• Regulators will not develop a broad consensus absent widespread industry momentum for change

Unintended Consequences: Policies & Practices In Conflict

• Electric plug-in vehicles: Volumetric & non-TOU rate designs and inverted pyramid may discourage use

• Net metering that includes delivery may encourage rooftop solar but shifts distribution costs to others

• Conventional rate design limits the use and value of smart meters being deployed pursuant to other policies – such as pre-pay, demand response and time-of-use

• Disconnect between gas & electric rate design may send wrong price signals for distributed generation

Learning From Experience

• In telecom, technology and competition changed the underlying cost structure – flat rates were replaced by usage sensitive pricing & now wide range of options

• Vertically integrated, traditionally regulated monopoly electric rates no more stable or less volatile monthly than all-in prices in competitive states

• It is far easier politically to address legacy cross-subsidy issues in competitive retail conditions

The Great Lakes Comparison: Michigan Long Delayed Addressing Rate “Skewing”

Change in Residential Rate as Ratio to C&I Rate from 1997 to 2013

(0.15)

(0.10)

(0.05)

-

0.05

0.10

0.15

0.20

Illinois Ohio Michigan Indiana Wisconsin

Ch

an

ge

in R

ati

o

The Michigan Double Whammy: Residential Ratio & Price Up Big

1997 to 2013 Change in Residential ¢/KWH & Residential-to-C&I-Price Ratios

(2.0)

-

2.0

4.0

6.0

8.0

(0.2) (0.1) - 0.1 0.2 0.3

Ch

ange

in P

rice

(Cen

ts p

er K

Wh)

Change in Ratio

Michigan

Illinois

Ohio

Wisconsin

Indiana

Path To A New Focus On Rate Design

• Re-Develop a utility regulatory philosophy rooted in adherence to accurate price signals that inform customers of the economic cost & value of service

• Embrace the idea that regulators can help to lead change

• Consider the opportunity for reducing cross-subsidy tensions by moving to customer choice of supply

• Free-up resources for rate design focus by moving to formula-based delivery rate design (Illinois example)

Illinois’ Energy Infrastructure & Modernization Act – A New Approach

• Aimed at assuring $3 Billion 10 year incremental investment in smart grid, AMI and network hardening

• Annual adjustment based on FERC Form 1 data and formula ROE of 580 BP over average Treasuries

• Metrics & penalties & rate increase limits

• Initial rate design case separate from revenue need

• Separate rate design cases at least every 3 years or on the motion of the Commission

Philip R. O’Connor, Ph.D. PROactive-Strategies, Inc. -- Chicago, Illinois

Dr. Phil O’Connor is President of PROactive Strategies, a Chicago consulting firm providing advice in the energy and insurance industries. For over two decades Phil has been recognized as a leading advocate of competitive market solutions for regulated businesses.

Phil is the author of Customer Choice in Electricity Markets: From Novel to Normal, published by COMPETE Coalition in November 2010 and co-author with Terrence L. Barnich of “The Grand Experiment: Has Restructuring Succeeded on Either Continent?”, published in Public Utilities Fortnightly, February 2007. He co-authored with John L. Domagalski “Regulation and Relevancy: Assessing the Impact of Electricity Customer Choice,” in ElectricityPolicy.com, January 2013.

In addition to a lengthy career in the private sector, Phil has had extensive government and political experience, having chaired the Illinois Commerce Commission serving as Director of the Illinois Department of Insurance and as a member of the Illinois State Board of Elections. Five consecutive Illinois Governors have appointed him to various boards and commissions.

From March 2007 to March 2008, Phil served in the U.S. Embassy in Baghdad, Iraq with the US Army Corps of Engineers and the US State Department as an advisor to the Iraqi Ministry of Electricity. A magna cum laude graduate of Loyola University of Chicago, Phil received his Masters and Doctorate in Political Science from Northwestern University.

[email protected] 312-446-3536 312-9804860





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Regulated Utilities and Rate Design - Deloitte US · Regulated Utilities and Rate Design Supplemental Prepared Remarks I have written extensively about microgrids. I see they have