SJR 259

Joint Subcommittee Studying Electric Utility Restructuring

September 29, 1997, Richmond

Overview

The joint subcommittee convened its fourth meeting in 1997, receiving updates from key stakeholders in the General Assembly's study of electric utility restructuring. Additionally, the task force studying the impact of retail restructuring on state and local taxation of public utilities presented an interim report of its findings. The subcommittee also received an update on negotiations between a major Virginia utility and a coalition (composed of heating and cooling contractors, petroleum jobbers and others) concerning the utility's proposed entry into unregulated markets served by the coalition's members.

The subcommittee is in its second year of examining proposed restructuring of the electric utility industry to permit competition at the retail level. Under current Virginia law, only certificated, public service companies may sell electricity to end users within service territories assigned by the Virginia State Corporation Commission (SCC). Retail competition, if authorized by the General Assembly, would allow independent power producers, power marketers, and other utilities—from within Virginia and across the country—to compete for retail electricity sales to residential, business and industrial electricity customers in Virginia.

Several retail competition bills are pending before Congress, including bills that would mandate retail competition within the states by a date certain—2001 in one bill—while leaving the resolution of many key details to the states. Eight states (including California, Pennsylvania, New Hampshire, and Montana) have enacted legislation authorizing various forms of retail competition thus far. California is slated to begin retail competition on January 1, 1998. Several other states are examining this change through regulatory proceedings. The majority of states—like Virginia—are engaged in legislative or regulatory studies of this issue.

Energy Producer Updates

At its last meeting on August 12, the joint subcommittee received briefings on the restructuring viewpoints of consumer, low-income, environmental, and senior citizen groups, together with updates from energy producers (including investor-owned public utilities, electric cooperatives, independent power producers, and natural gas companies), business and industrial electricity customers, and organized labor. Consumer, low-income and senior citizen group representatives expressed reservations about retail competition, urging joint subcommittee members to consider its implications for residential customers. Industrial and business customers, however, emphasized the need to move quickly toward retail competition, asking the joint subcommittee to support restructuring legislation in the 1998 General Assembly Session.

This latest meeting concluded stakeholder updates to the joint subcommittee with presentations from Virginia Power and AEP Virginia—two major utilities responsible for most of the electricity sales in Virginia—together with a detailed overview of the restructuring viewpoint of Virginia's largest industrial, commercial and business electricity customers, represented by the Alliance for Lower Electricity Rates Today (ALERT). Additionally, the Municipal Electric Power Association of Virginia (MEPAV), representing municipalities operating electrical distribution systems, provided further details on its position.

Virginia Power

Virginia Power told the joint subcommittee that it supports the development of a restructuring plan in Virginia. This company views the transition to customer choice through the lens of its Alternative Rate Plan (ARP) filed with the Virginia State Corporation Commission in March 1997. The ARP's principal feature is an immediate five-year rate freeze. The freeze, ending in 2003, would partially mitigate Virginia's Power's stranded costs—principally purchased power contracts with prices currently above market.

Virginia Power emphasized that its ARP's proposed rate freeze would furnish its retail customers an average "real rate savings" of more than $200 million per year. The company declared its intentions to work with all interested parties during the next few months to bring restructuring legislation to the 1998 Session.

AEP Virginia

AEP Virginia, an operating company within the American Electric Power system furnishing electric power in Western and Southwest Virginia, told the joint subcommittee that it has also filed an alternate rate plan with the SCC. This company suggested that restructuring in Virginia begin with a one- to two-year period in which pricing information is unbundled; that is, separate prices established for the generation, transmission, distribution and other components of electricity that are currently aggregated in Virginia's electricity rates. This unbundling period would be followed by a four- to five-year cap on generation prices as a means of ushering in retail competition in Virginia.

AEP Virginia also suggested a mechanism for calculating utilities' stranded costs during the transition period (during which the generation price cap would be imposed). In its view, if a utility's customer chooses to purchase power from another source, the customer should pay a pro rata share of its original utility's net revenue loss—an amount equal to the customer's original rate minus an average, market-based rate. The company noted that the generation cap imposed during the proposed transition period would furnish utilities an opportunity to mitigate their stranded costs by applying revenues net of their costs and controlling these costs by whatever reasonable means would be available to them. Under the AEP model, following the transition period and the onset of retail competition, no further stranded cost protection would be permitted.

The company also furnished an overview of its efforts, in cooperation with other utilities, to establish a voluntary Independent System Operator (ISO) regulated by the Federal Energy Regulatory Commission (FERC). Facilities in 10 states (including Virginia as the easternmost state) would be involved, networking transmission facilities generally above 100 Kv. The ISO's management would be independent of transmission facility owners, while the ISO's members would retain ownership of the transmission facilities and would also be required to maintain them. ISO members plan to file this plan with FERC by November, and are anticipating FERC action on the case by mid-1998. If the filings and approvals proceed smoothly, AEP Virginia anticipates that the ISO could be operational and managing wholesale power transactions as early as the year 2000.

MEPAV

The Municipal Power Association of Virginia (MEPAV) reminded the joint subcommittee that its members—localities with power distribution systems—do not produce their own power, although a few have peaking power units. Consequently, MEPAV members, as wholesale power purchasers, emphasized that any restructuring plan adopted in Virginia must focus on the availability of sufficient transmission capacity to enable power movement from west to east. Otherwise, MEPAV noted, the bulk of Virginia's in-state market will be insulated from the benefits of power importing, limiting the market to in-state generation during many hours of the year. It suggested that this potential problem can be resolved through the use of ISOs' furnishing all users transmission system access on an identical basis.

Washington Gas

Washington Gas, a natural gas distributor in Virginia and Maryland, offered its view of a future where full-service energy companies provide electricity and natural gas together with ancillary energy services such as energy management. Reiterating its strong support for electricity retail competition in the Virginia market, Washington Gas advocated a phased plan for customer choice, culminating in full retail competition by the year 2002. Under its proposal, 20 percent of the Virginia customer market would have choice in 1998; 40 percent in 1999; and additional 20 percent incremental increases would be introduced each year thereafter until phase-in is completed in 2002. Transitional issues Washington Gas views as significant include neutral taxation, stranded costs and benefits, and prevention of market power abuse by incumbent utilities.

Energy Customer Updates

ALERT

The Alliance for Lower Electricity Today (ALERT), representing a significant cross-section of large industrial and commercial electricity customers throughout the Commonwealth, outlined its plan for restructuring in Virginia. ALERT's members include Allied Signal, Newport News Shipbuilding, Westvaco, Circuit City, Ukrops and Heilig-Meyers. The coalition—a moving force in Virginia's study of this issue—wants a 1998 bill. ALERT proposes a three-year transition to full competition by the year 2001. Under its proposal, many of the details—such as determining utilities' stranded costs—would be delegated to the SCC.

ALERT addressed the concern raised by consumer and senior citizen groups that restructuring in low-cost states such as Virginia would mainly benefit large users, such as industrial customers. It said that historically, competition drives down costs; that nearly all experts believe there will be substantial, long-term consumer benefits from restructuring; and that Virginia's electricity prices should be lower in a competitive retail environment. ALERT stated that Virginia Power's average residential rates (for monthly consumption under 1,000 kWh) are higher than the national average and that its commercial rates (for consumption over 30,000 kWh per month) are higher than the South Atlantic region's average rates. ALERT also asserted that rates could be lower in AEP Virginia's service territory, too, citing the example of cities in Western and Southwest Virginia which recently inked wholesale power contracts with power marketers rather than their traditional utilities—and gained savings ranging from 20 to 30 percent.

ALERT made several significant recommendations as part of its retail competition proposal. One key component is enabling the construction of state-of-the-art, independent power plants, or "merchant plants" in incumbent utilities' service territories generating electricity without long-term sales contracts. ALERT views this as a necessary check on incumbent utilities' market power and as a means of expediting retail competition while addressing potential concerns about generation reliability in a restructured market.

ALERT also suggested that utilities' stranded costs be shared by the utilities and their current rate payers. While offering no specific formula for their determination, ALERT advocated a short recovery period in which the SCC would determine "net stranded costs"—costs reflecting maximum mitigation and limited to historical, prudent and necessary utility investment. It suggested that the SCC be provided a full range of recovery options, including rate-freeze periods (apportioning significant revenues to stranded costs), reasonable non-bypassable wires charges for departing customers (but not one-time exit fees), and periodic "true-ups" to reflect actual market experience. The emphasis, it said, must be on consumers' experiencing effective competition and not on utilities' recovering investments/returns that were never guaranteed.

AOBA

The Apartment and Office Building Association of Metropolitan Washington, D.C. (AOBA), furnished the restructuring perspective of owners and managers of office buildings and residential apartment buildings. An AOBA consultant told the joint subcommittee that this group's major concerns about restructuring involve generation reliability and "firm" power; adequate transmission system capacity; limitations on stranded cost recovery (it opposes any 50/50 sharing between ratepayers and utility shareholders); and ensuring sufficient generation and transmission reserve capacity.

AOBA distinguished its needs from industrial and commercial customers, observing that whereas an industrial customer could negotiate a cheaper rate by agreeing to interruptible power, AOBA's members cannot afford that luxury. Apartment dwellers, for example, would not tolerate periodic power interruptions. However, AOBA stated that its members' office and apartment tenants favor competition as a general matter. The key, AOBA emphasized, is reliability.

Taxation Task Force

The joint subcommittee's task force examining restructuring's potential impact on state and local tax revenues furnished an extensive report of its interim findings. Members of the task force include representatives of major restructuring stakeholders, including investor-owned utilities, electric cooperatives, power marketers and independent power producers, industrial and commercial customers, and governmental officials such as the SCC, the Office of the Attorney General, and the Department of Taxation.

The task force's work, to date, has focused principally on electric utility gross receipts taxation furnishing revenue to the state's general fund—at last count, nearly $100 million annually. Prompting this examination is a constitutionally based concern that electric power sold to Virginians by out-of-state generators or marketers may not be taxable by Virginia—at least not under a gross receipts tax system.

The task force has reviewed a number of alternatives to the gross receipts tax, including taxing public utilities’ revenue stream via a corporate net income tax. This approach would apparently solve the constitutional problem by assuming (based on current case law and tax regulations) that power consumption in Virginia creates a taxable "nexus," or connection to the out-of-state electric power source. Nevertheless, a switch to the corporate net income tax would (according to a DeLoitte Touche study presented to the joint subcommittee) reduce the current gross receipts tax revenue by about approximately $50 million.

The significant revenue shortfall resulting from conversion to a corporate net income tax has focused the attention of the task force on making up the difference through an alternative means. Assuming two concurrent tax policy goals of (i) revenue neutrality, and (ii) maintaining the current apportionment of tax burden among residential, commercial and industrial electricity customer classes—coupled with ease of administration—the task force has determined that an end-user, kWh-based consumption tax would provide one potential solution to the $50 million shortfall issue. Other approaches include an ad valorem, or sales tax approach (favored by ALERT representatives) and a kWh-based tax levied at the distribution rather than retail level (proposed by MEPAV).

A unique end-user tax method developed for the task force would impose a kWh-based tax on electricity consumption using a "declining block" method. This proposal taxes electricity consumption at three tax rates, with the highest for the first 2,500 kilowatt hours consumed each month; the second and lower rate on consumption between 2,501 and 50,000 kWh, and the third and lowest rate is imposed on kilowatt hours consumed in excess of 50,001 kWh per month. The consumption blocks were developed for discussion purposes only. The rates would be set in proportion to projections about levels of electricity consumption in response to prices prompted by competition or price elasticity. The rates could be "trued up" or adjusted to achieve revenue neutrality, and the declining block would treat all taxpayers the same (satisfying a constitutional constraint) while providing a tax burden apportionment that approximates that currently existing under the gross receipts method.

The task force will continue its work with additional meetings slated to focus on local taxation of electric utilities—work likely to include an examination of such topics as utility property taxation, local BPOL levied on utilities, and the local consumer utility tax. The task force will make an additional report at the joint subcommittee's next meeting on November 7.

Utility Entry into Unregulated Markets

One feature of an evolving electric utility industry is the actual or proposed entry of regulated utilities (those regulated as public service companies) into unregulated markets—directly, or through affiliates or subsidiaries. In Virginia, public service companies' activities are restricted by statute to their public service activities, such as providing telecommunications, electric power generation and distribution. However, they may also engage in business activities "related and incidental" to that public service.

Since 1996, the joint subcommittee has had before it the issue of whether furnishing services usually supplied by contractors in the heating, ventilation, air conditioning, cooling and refrigeration (HVACR) trades are "related and incidental to" an electric utility's principal public service activities. This resulted from an ongoing dispute between Virginia Power and representatives of a coalition composed principally of HVACR contractors and petroleum jobbers brought to the joint subcommittee's attention. The coalition's main concern: that Virginia Power would use its size and market power to achieve market penetration sufficient to harm the livelihood of HVACR concerns and other businesses. The two parties were requested by the joint subcommittee to review and negotiate the issues before them and to report their progress at this meeting.

Virginia Power and the coalition advised members of the joint subcommittee that the parties had reached agreement in principal on a statement of intent and proposed standards of conduct restricting certain Virginia Power activities during the transition to retail competition. Key areas include structural and operational separation of Virginia Power's unregulated subsidiaries. A draft agreement also addresses issues of customer information sharing between parent and subsidiary and the subsidiary's use of the parent's name or logo in marketing and sales activities. While the negotiations are not concluded, it is apparently the parties' intent that any ultimate agreement resolve this dispute and govern their relations—with possible enforcement through the SCC. A further update on these negotiations will be presented at the joint subcommittee's next meeting.

Impact of Restructuring on Demand Management

An issue frequently raised in the restructuring debate is retail competition's potential impact on energy conservation achieved through demand management programs. One such program approved in Virginia by the SCC is customer use of a billing rate option called Schedule 1S. This option separates the charge for electricity into two parts: one for monthly kWh consumption and the other for peak demand placed on the power company during the month. The option has been available to residential customers since 1978.

An energy consulting company furnishing computerized demand control equipment to approximately 2,000 residential and 30 small business and church electricity customers in Virginia testified before the joint subcommittee. In a residential setting, this equipment manages the electrical loads for heating and cooling, hot water heaters and electric clothes dryers—uses said to represent about 80 percent of typical residential usage. The bulk of savings comes from reductions in peak usage demand, with some customers said to save up to $600 per year. The energy consulting company noted that the Virginia Power's alternative rate plan (discussed above) makes no provision for demand management for electricity customers with small loads, and asked for the joint subcommittee's support for demand management programs in any restructuring transition period and thereafter. One suggestion: permit demand control users to negotiate demand-based billing rates.

Other Matters

The joint subcommittee was updated on its chairman's testimony before a congressional subcommittee studying electrical utility restructuring. Senator Reasor testified before the Energy and Power Subcommittee of the House Commerce Committee on September 24. He joined legislative and regulatory representatives from five other states (including California and Idaho) in briefing the subcommittee on current, state-based electric utility restructuring activities.

The SCC will present its plan for restructuring Virginia's electric utility industry at the joint subcommittee's next meeting on November 7. This key presentation culminates three years of study by the SCC's Energy Division, recently with the help of stakeholder working groups focused on such issues as stranded costs and models. The plan may include proposals for a restructuring pilot project. The November 7 meeting will also feature an update and briefing from the task force on state and local taxation of electric utilities.