s02v02p01 - app · 2013. 11. 25. · 2015 general rate case application workpapers results of...

An EDISON INTERNATIONAL® Company

(U 338-E)

2015 General Rate Case APPLICATION

Workpapers

Results of Operations (RO)Requested Revenue Requirements, Ratemaking, Forecasts of Sales, Other Operating Revenue, Cost Escalation, Post-Year Ratem aking SCE-10 Volume 01, Chapter X

N ovem ber 2013

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Workpaper - Southern California Edison / 2015 GRC - APPLICATION1

X.

POST-TEST YEAR RATEMAKING

This chapter presents SCE’s proposal to extend our current Post-Test Year Ratemaking (PTYR)

mechanism. This mechanism is intended to provide additional revenues, as necessary, to cover our costs

of doing business in calendar years 2016 and 2017, including our program to step-up capital investment

to meet growing demand and to replace aging utility infrastructure. Our current PTYR mechanism was

adopted in SCE’s 2003 General Rate Case and extended, with modifications, in SCE’s 2006, 2009, and

2012 General Rate Cases.100

SCE currently operates under ratemaking that incorporates a revenue balancing account

mechanism known as the Base Revenue Requirement Balancing Account (BRRBA). This account is

discussed in Chapter II of Volume 1 of this exhibit. Under this mechanism, rates are designed to recover

the authorized revenue requirement with any variation in recorded revenues (either higher or lower)

tracked in a balancing account for subsequent recovery from, or refund to, retail customers.

Consequently, during the period in which the revenue requirement is in effect, any additional revenues

that result from customer growth or increased usage per customer are returned to customers as a rate

decrease, rather than being available to offset SCE’s cost increases. Thus, it is necessary to provide for

an increase in the annual revenue requirement to recover cost increases caused by increased capital

spending. Such increased spending may include new facilities to meet load growth or replace aging

infrastructure,101 and the impact of price inflation on operating expenses.102 In this manner, SCE is

provided a fair opportunity to earn its authorized return on equity. SCE is proposing a ratemaking

formula that results in the projected revenue requirement increases for 2016 and 2017 that are shown in

Chapters II and III of Volume 1 of this exhibit. SCE proposes to update its revenue requirement

100 D.04-07-022 (mimeo), pp. 266-281. D.06-05-016 (mimeo), pp. 290-309. D.09-03-025, (mimeo), pp. 302-307. D.12-11-051, (mimeo), pp. 599-609.

101 SCE’s rates reflect the embedded cost o f existing facilities, which are partly depreciated. Because plant is valued at original cost (without adjustment for inflation) less accumulated depreciation, new facilities that are added to accommodate load growth will cost more than the average value (for ratemaking purposes) o f existing plant. When older facilities are replaced with new ones, the associated cost is typically much higher that what is included in rates for the original facilities.

102 As explained more fully in section B.1 below, SCE’s post-test year ratemaking mechanism does not include any offset for additional O&M expense resulting from new customers. This feature, which is consistent with previous attrition mechanisms authorized by the Commission, and SCE’s current PTYR mechanism, is an implicit productivity adjustment.

110

Exhibit No. SCE-10 / Results of Operations / Vol. 01 / Ch. XWitness: P. Hunt

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Workpaper - Southern California Edison / 2015 GRC - APPLICATION

projections based on updated price inflation forecasts that will be made in annual filings prior to 2016

and 2017. SCE’s PTYR mechanism will recover O&M cost changes that result from input price

changes outside of SCE’s control and capital-related cost changes that result from SCE’s capital

expenditure program. As explained later in this exhibit, SCE’s mechanism does not track or recover

O&M cost changes that result from other factors, except to the extent that those factors are captured by

SCE’s proposed Z-factor mechanism. In addition, capital expenditures in the post test year period that

are not anticipated in SCE’s capital expenditure program as projected in this rate case will result in cost

increases that the PTYR mechanism will not recover.

Under our PTYR mechanism proposal we may seek recovery of costs imposed on SCE as a

result of Commission actions. SCE’s proposed post-test year ratemaking mechanism is based on events

known and reasonably anticipated as of the date this testimony is being prepared. Subsequent

Commission actions or other events may require SCE to propose changes to this mechanism.

A. Background

1. Rate Case Plan

Under the Rate Case Plan, as modified by Commission Resolution ALJ-151 and

D.89-01-040,103 energy utilities file GRC applications every three years. The Attrition Revenue

Requirement Adjustment mechanism was adopted by the Commission104 in the early 1980s to

compensate utilities for the increased costs that occurred between test years and has since been a regular

part of utility ratemaking.105 Over approximately this same period, the Commission utilized an Electric

Revenue Adjustment Mechanism (ERAM) or similar balancing account mechanisms to remove the

incentive for SCE to promote electricity sales at the expense of conservation and demand reduction

programs.

Annual cost increases can be caused by inflation and plant additions used to maintain and

provide service. Without a means to recognize these increases in rates, SCE will not have a reasonable

103 D.89-01-040, 30 CPUC 2d 576.

104 In D.92549, issued in conjunction with Edison’s 1981 GRC application, the Commission adopted Staff’s recommendation to implement stepped rate changes for 1982, citing Staff’s argument that “the use o f stepped rates would provide a more stable earnings pattern.” 5 CPUC 2d 39, 80.

105 In D.96-09-092, the Commission adopted a five-year performance based ratemaking mechanism that provided annual increases in SCE’s distribution rates based on a measure of inflation less a productivity factor, and allowed SCE to retain additional revenues that resulted from sales and customer growth. In anticipation of adopting a PBR mechanism, the CPUC did not authorize an attrition mechanism in SCE’s 1995 test year GRC.

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opportunity to earn its authorized rate of return after the test year, as evidenced by the projections

presented in Chapters II and III of Volume 1 of this exhibit. Since the BRRBA prevents SCE from

retaining the incremental revenue from sales that are above projected levels, SCE must have an explicit

ratemaking mechanism to permit it to recover increased costs.

financial cost changes. Operational cost changes due to price increases in the goods and services that we

employ in our operations and the level of capital assets required to operate our business are addressed by

the PTYR mechanism proposed in this exhibit. Financial costs, such as the cost of long-term debt and

preferred equity, are not addressed by the PTYR mechanism.

B. Need for Revenue Requirement Increases

This section explains why we anticipate that revenue requirement increases will be required

during 2016 and 2017.

1. Inflation and Productivity

since the late 1970s and 1980s, inflation still results in higher costs for the inputs that we use to provide

service to our customers.106 The labor and non-labor escalation rates presented in Part 4 of Volume 1 of

this exhibit document the operation and maintenance (O&M) inflation expected from 2012 through

2017. We will also incur higher costs for capital equipment to replace worn out equipment and to build

facilities to serve new customers.

costs, but generally productivity improvements are not sufficient to avoid cost increases, particularly

when we cannot keep the revenue increases from output (kWh sales, kW demand) increases. In

addition, our revenue requirements will increase as a result of the costs associated with serving new

customers. These two factors make a post-test year ratemaking mechanism necessary to provide SCE a

fair opportunity to recover its costs.

Under a revenue balancing account, we do not retain any incremental revenue from

growth in usage or new customers to offset the increased costs of operation that result from these

106 Perhaps the most notable example that consumers will recognize is that the price o f gasoline has increased by almost 133 percent from 2004 and almost 67 percent from 2009. (Based on the Producer Price Index for gasoline, not seasonally

2. Operational Cost Changes

After the test year, SCE’s earned rate of return is directly affected by operational and

Despite the dramatic decrease in price inflation in the U. S. economy that has occurred

In the past, our productivity performance has acted as a partial offset to our increased

adjusted.)

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influences. Under the attrition mechanisms previously authorized by the Commission and SCE’s current

PTYR mechanism, it has been assumed that increased O&M costs from customer and usage growth are

offset by productivity gains that will be achieved during the attrition years.107 These mechanisms

generally have permitted recovery of O&M cost increases due to input price escalation (O&M labor

escalation and O&M non-labor escalation) during attrition or post-test year periods, but have not

permitted recovery of O&M cost increases due to other factors. Limiting recovery of O&M cost

increases in this way results in an implicit expectation that productivity gains will offset O&M cost

increases from other sources. (Appendix B provides a mathematical analysis of this question.) This is

why our PTYR mechanism adjusts our test year O&M expense levels for escalation and

Commission-mandated and government-mandated changes, but does not include an explicit productivity

offset to these adjustments.

2. Enhancing SCE’s Financial Standing

SCE has returned to financial health and investment grade status, but SCE has not

returned to the financial stature that it enjoyed before the California energy crisis. SCE’s credit ratings

are below mid-2000 levels, before the energy crisis began. A reasonable regulatory mechanism that will

allow SCE to recover its revenue requirement during 2016 and 2017 will reinforce SCE’s return to

financial health.108

If SCE can achieve higher credit ratings than it currently possesses, customers will

benefit from reduced financing costs. The Commission should extend SCE’s post-test year ratemaking

mechanism to support SCE’s financial standing. The post-test year ratemaking mechanism should

provide that capital-related costs will be recovered as investments are made and enter rate base and also

allow timely recovery of reasonable cost increases in operation and maintenance costs that result from

cost inflation.

SCE cannot afford a post-test year ratemaking mechanism that allows it to recover costs

only associated with average historical levels of capital additions. Nor can SCE afford a post-test year

ratemaking mechanism that increases its authorized revenue requirement in one year but avoids any

increase in another. SCE’s capital expenditures are at historically high levels and those capital

107 D.04-07-022 (mimeo), pp. 273-274.

108 Before the energy crisis, SCE was A-rated by both Moody’s and Standard & Poor’s (corporate or issuer credit rating). While SCE is again A-rated by Moody’s, SCE is only BBB-rated (BBB+) by Standard & Poor’s.

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expenditures will result in substantial revenue requirement increases after the 2015 test year. The

Commission should continue the positive steps that it took in SCE’s prior GRC applications to ensure

that SCE’s authorized revenue requirement will be sufficient to permit it to make the capital investments

that are necessary to maintain and expand its system, and serve its customers.109 As discussed in more

detail below, the post-test year ratemaking mechanism adopted in the 2009 GRC contained significant

flaws. It does not serve as a model for this case.

C. Features of our Proposed Mechanism

We propose a PTYR mechanism with the following features:

• An annual advice letter providing notice of the revenue requirement change for the following

year.

• O&M escalation using the GRC escalation rate methodology, updated at the time of the

advice letter filing.

• Capital-related cost increases using SCE’s Board-approved capital budget, updated for

changes in SCE’s authorized cost of capital.

• A mechanism to address major exogenous changes in SCE’s costs.

These features are discussed in more detail in the following sections.

1. Annual PTYR Mechanism Advice Letter

SCE will file an annual PTYR mechanism advice letter by November 1, 2015 for 2016

post-test year ratemaking and November 1, 2016 for 2017 post-test year ratemaking, consistent with

current procedure. This advice letter will specify the revenue requirement adjustment for O&M

escalation and changes in capital-related costs.

2. O&M Escalation

Chapter VII of Volume 1 of this exhibit describes SCE’s methodology for determining

escalation rates for labor and non-labor O&M expense. SCE proposes to use the same methodology,

with some adjustments as discussed below, to determine O&M escalation rates to calculate the O&M

expense adjustments for 2016 and 2017.

109 The use o f an actual capital additions budget, as specified in the 2003 GRC decision, is superior to the escalation of test year capital additions, as adopted in the 2006 and 2012 GRC decisions, or the escalation of SCE’s revenue requirement, as adopted in the 2009 GRC decision.

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a) Latest Global Insight Escalation Rates Will Be Used

SCE’s annual revenue change advice letter will be filed by November 1 of 2015

and 2016 for the following year. SCE will employ the latest IHS Global Insight escalation rates that are

available on October 1 of the year in which these filings are made. These will be from the “Control”

projection if HIS Global Insight publishes more than one projection.

b) Escalation Rates Will Be “Trued Up” to Actual, But Previous Forecast

Errors Will Not Be Recovered or Refunded

This provision applies to the O&M escalation adjustment for 2017. In the

November 2016 advice letter filing, SCE will compute the authorized level of O&M expense for 2017

by applying compound escalation factors from 2015 through 2016 to the authorized level of O&M

expense for 2015. These escalation factors will be the latest available, so that actual escalation will

become incorporated as it becomes known. This procedure will ensure that the 2015 O&M escalation

adjustment captures all of the latest information for escalation from the test year forward.

The 2017 authorized level of O&M expense will be calculated as the 2015 level

multiplied by an escalation factor for 2016 and an escalation factor for 2017, based on the latest Global

Insight escalation rates available by October 1, 2016. The escalation factor for 2016 will not be the

factor employed in the November 2015 advice letter for 2016 post-test year ratemaking, but the factor

based on the latest information. However, there will be no true-up to the 2016 authorized level of O&M

expense resulting from updates to the escalation factor for 2016.

c) Other Differences from Escalation Rates Calculated Through the Test Year

The labor O&M escalation rates for 2013 and 2014 incorporated union wage

increases and target wage increases for non-represented employees, as discussed in Chapter VII of

Volume 1 of this exhibit. For the annual advice letters, union wage increases and target wage increases

for non-represented employees granted prior to the adoption of a Phase 1 decision in this application will

be incorporated in the labor escalation rates used in the 2016 and 2017 PTYR advice letters.

d) Projected Labor and Non-Labor Escalation Rates for 2016 and 2017

SCE’s projected labor and non-labor escalation rates for 2016 and 2017, based on

the information available at this time, are presented in Chapter Vii of Volume 1 of this exhibit.

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It is important that the escalation rates embedded in SCE’s PTYR mechanism be

industry-specific or company-specific, as SCE’s proposed escalation rates are.110 Use of a general

inflation index such as the Consumer Price Index (CPI) or Gross Domestic Product Chain-Weighted

Price Index (GDPPI) should be avoided. The CPI tracks prices paid by consumers and excludes large

categories of SCE’s costs. In addition, it excludes health care costs paid by employers.111 The GDPPI

covers the entire U.S. economy and thus is far too broad to be an accurate measure of SCE’s input price

inflation.

e) Benefit Escalation Rates

Testimony in Exhibit SCE-06, Volume 2, Part 1 discusses SCE’s benefit program

costs for the test year and benefit cost escalation in selected areas for 2016 and 2017. For medical costs,

escalation is projected to be eight percent in 2016 and 2017. These projected escalation rates should be

applied directly to medical program costs and PBOP (Post Retirement Benefits Other Than Pensions)

costs without any updating when the PTYR advice letters are filed. It is reasonable to apply these

escalation rates to PBOP costs, since PBOP costs are dominated by medical costs.

For other benefit categories, SCE will use the escalation rates shown in Table X-

39 below. Cross-references for these escalation rates are shown in the workpapers.

Table X-39 Benefit Escalation Rates

LineNo. Category 2016 2017 Comments1. Medical Programs - 926 8.00% 8.00% Medical escalation rate2. Dental Programs - 926 4.50% 4.50% Dental escalation rate3. Vision Service Plan - 926 2.00% 2.00% VSP escalation rate4. Disability Programs - 926 2.66% 2.65% Labor escalation rate5. Group Life Insurance - 926 0.00% 0.00% Life escalation rate6. Misc. Benefit Programs - 926 3.03% 2.90% A&G nonlabor rate after 20157. Executive Benefits - 926 2.66% 2.65% Labor escalation rate8. 401(k) 2.66% 2.65% Labor escalation rate

110 This matter is discussed in more detail in the cost escalation testimony presented in Chapter VII o f Volume 1 of this exhibit.

111 D.04-07-022 (mimeo), p. 278.

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3. Capital-Related Cost Increases

As discussed in more detail in other parts of this application, we are engaged in a

multi-year program of construction expenditures to meet system load growth, and to expand replacement

of aging infrastructure. (See Exhibit SCE-03, Volumes 1 and 3-5.) Our proposed PTYR mechanism

includes capital costs associated with a budget-based forecast of capital expenditures, but we also

propose that the associated revenue requirements be subject to refund if our capital spending budgets are

not fully implemented.112

Our projected capital additions, including cost of removal, for 2016-2017 are shown in

the following table.

Table X-40 Proposed Capital Additions, 2016-2017

($ millions)See WP's, pp. 3-4.

LineNo. 2016 2017

1. 3,827.1 3,896.3

(These amounts include gross capital additions plus cost of removal.)

SCE is not proposing that its capital additions for test year 2015 be covered by this type

of “one-way balancing account” mechanism. This is because when the Commission is considering and

deciding our test year request, we are close to the in-service dates for our capital projects. The customer

is protected because any variance between forecast and recorded capital additions is explained in our

next GRC application.

4. Treatment of Major Exogenous Cost Changes

In SCE’s current PTYR mechanism, SCE is permitted to seek recovery of costs

associated with exogenous events (“Z-Factors”) that result in a major cost impact for SCE. The existing

Z-Factor mechanism allows either SCE or the Division of Ratepayer Advocates (DRA) to submit a

Letter of Notification to the Executive Director to identify any potential Z-Factor event. There are no

current Z-factors. SCE is at risk for events that do not have a financial impact of more than $10 million.

112 We will create a “one-way” balancing account that will refund any over-estimate o f the revenue requirement associated with our post test year capital additions, including the cost o f removal. The balancing account calculation will be cumulative over the combined two-year period. This is the same as the balancing account that was adopted in our 2003 General Rate Case. D.04-07-022 (mimeo), p. 277.

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In addition, there is a $10 million “deductible amount” applied on a one-time basis to the first year’s

revenue requirement associated with any approved Z-Factors. Costs associated with two named

contingencies, new municipal utility formation and P.U. Code Section 463 projects, are treated as Z-

Factors but without the $10 million threshold or the $10 million deductible.113

The existing Z-Factor mechanism should be continued. Although neither SCE nor DRA

have identified any proposed Z-Factors since SCE’s 2003 GRC was decided, the Z-Factor mechanism

has nonetheless provided the assurance that a clear process is in place to deal with unanticipated major

variations in SCE’s costs.

5. The Commission Should Not Require an Application to Implement Post Test Year

Ratemaking

In authorizing post-test year ratemaking for 2004 and 2005, the Commission imposed a

requirement that if SCE’s revenue requirement increase were to exceed $150 million in either year, SCE

would be required to submit an application for that year, rather than an advice letter.114 The

Commission stated that it was unwilling to permit greater rate increases to be implemented through the

“streamlined” advice letter process.

Unlike that GRC application, however, this application contains testimony supporting

SCE’s proposed capital expenditures through 2017, not just through the test year.115 Thus, there is no

substantial component of SCE’s post-test year ratemaking mechanism that is not addressed by testimony

in this application. The Commission should not require SCE to submit a second application in 2015 or

2016 to reapprove its proposed mechanism.

D. The Post-Test Year Mechanism Adopted in SCE’s 2009 GRC Contains Two Fundamental

Analytic Errors That Shortchanged SCE’s Revenue Requirement

In SCE’s 2009 GRC, the Commission adopted a simplified post-test year mechanism that simply

increased SCE’s revenue requirement in 2010 and 2011 by specified percentages. However, that

113 The Z-factor mechanism was established in SCE’s 2003 Test Year General Rate Case. D.04-07-022 (mimeo), pp. 278-279; Finding of Fact 231, p. 346. Continuation was authorized in SCE’s 2006, 2009, and 2012 Test Year General Rate Cases. D.06-05-016 (mimeo), p. 308; Ordering Paragraph 7, p. 382. D.09-03-025, p. 306; Conclusion of Law 213, p. 390; Ordering Paragraph 5, p. 393. D.12-11-051 (mimeo), p. 609.

114 D.04-07-022 (mimeo), p. 281; Conclusion of Law 53, p. 355.

115 Further, when SCE submits its Test Year 2018 General Rate Case application, it will provide an updated forecast o f 2016and 2017 capital additions, developed at a much closer point in time (2016 instead of 2013). The Commission will beafforded another review opportunity at that time if it chooses.

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approach contained a methodological error because the Commission’s calculations overlooked SCE’s

year-end 2008 balance of Construction Work in Progress (CWIP).116

In SCE’s 2009 GRC, as in this 2015 GRC, we proposed a method for the Commission to

authorize revenue requirements for the two attrition or post-test years (in that case 2010 and 2011, in this

case 2016 and 2017).117 Our post-test year ratemaking proposal included detailed testimony on our

capital expenditures for 2010 and 2011. However, in lieu of reviewing our entire capital forecast, the

Commission instead adopted a ratemaking method that indexed our total 2009 adopted revenue

requirement by 4.25 percent for 2010 and 4.35 percent for 2011. The post-test year revenue requirement

should provide for recovery of authorized costs and a reasonable opportunity to earn the authorized rate

of return. But the post-test year ratemaking formula adopted in our 2009 GRC contained a fundamental

methodological error118 that effectively shortchanged our authorized revenues and jeopardized SCE’s

ability to earn its authorized rate of return.

It can take many months for some capital projects to be completed and placed into service.

During that interim period, as we continue to make capital expenditures on those projects, we accrue an

Allowance for Funds Used During Construction (AFUDC), which recognizes the financing costs being

incurred during construction.119 The AFUDC accrual is eventually added to the overall cost of the asset,

along with corporate overheads, then transferred to “Plant-in-Service” and the cost recovered over its

116 See, FERC Uniform System o f Accounts for Electric Utilities, 18 CFR, Part 101, Account 107:

A. This account shall include the total o f the balances o f work orders for electric plant in process o f construction.

B. Work orders shall be cleared from this account as soon as practicable after completion of the job. Further, if a project, such as a hydroelectric project, a steam station or a transmission line, is designed to consist o f two or more units or circuits which may be placed in service at different dates, any expenditures which are common to and which will be used in the operation of the project as a whole shall be included in electric plant in service upon the completion and the readiness for service o f the first unit. Any expenditures which are identified exclusively with units o f property not yet in service shall be included in this account. ...

117 SCE’s 2009 post-test year ratemaking proposal is described in A.07-11-011, Exhibit SCE-11A, Vol. 1 and summarized in D.09-03-025 §14.

118 SCE first brought this methodological error to the Commission’s attention in SCE’s 2006 General Rate Case. See Application 04-12-014, Exhibit 87, page 8.

119 See, FERC Uniform System of Accounts for Electric Utilities, 18 CFR, Part 101, Electric Plant Instruction 3(17):

Allowance fo r funds used during construction (Major and Non-major Utilities) includes the net cost for the period of construction of borrowed funds used for construction purposes and a reasonable rate on other funds when so used, not to exceed, without prior approval o f the Commission, allowances computed in accordance with the formula prescribed in paragraph (a) o f this subparagraph. No allowance for funds used during construction charges shall be included in these accounts upon expenditures for construction projects which have been abandoned.

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operating life. During the period before the asset enters service, the costs are recorded in Construction

Work in Progress (CWIP), FERC Account 107.

The Commission’s decision on our 2009 GRC “stranded” Construction Work In Progress

(CWIP) associated with authorized 2009 capital expenditures. That is, 2010 authorized revenues were

not enough to recover the authorized revenue requirement in 2010 when the 2009 CWIP balance is also

considered. Our Results of Operations (RO) model, which we are required by this Commission to rely

upon and that has also been used and endorsed by the Commission staff, includes estimates of the capital

expenditures in-service dates. Our rate base forecast thus depends on both the capital expenditure

amount and the forecast in-service dates. The rate base forecast, in turn, affects the revenue

requirement. For example, if there is a $100 million project and the annual revenue requirement is $17

million, with an in-service date of June 1, the first year’s revenue requirement would be $8.5 million.

The second year’s revenue requirement would be $17 million. The first year revenue requirement is

pro-rated, but the following year the project would be in rate base for a full year, and the revenue

requirement is for an entire year. Using this simplified example, overlaid with the 4.25 percent and 4.35

percent escalation is graphically depicted in Figure X-9 below.

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Figure X-9 Illustrative Revenue Requirement Example

i i Revenue Requirement “ ♦ ■Authorized Revenues (4.25% & 4.35% )

Explaining how this error shortchanged our authorized revenues requires some background on

ratemaking. While SCE’s proposal in this GRC is to review and approve a post-test year capital

expenditure forecast, in the event the Commission chooses to use a formulaic approach to setting the

post-test year revenue requirement, at a minimum this error should not be repeated.

1. The “Stranded” Construction Work in Progress Error in the 2009 GRC Adopted

Post-Test Year Ratemaking Formulas

As described in Mr. Shimmel’s testimony in Volume 2 of this exhibit, SCE budgets

capital on an expenditure basis, which represents the company’s outlays for capital projects. Given the

capital-intensive nature of our business, which is especially so for SCE, we must estimate the level of

capital expenditures to ensure we can finance this level of investment. And while we budget by capital

expenditure, many projects require months to construct, process invoices, and eventually close the work

order. We cannot begin to recover the investments until they are providing service to SCE customers.

The common characterization of capital assets serving utility customers is that they must be “used and

useful.” While these projects are being constructed, the monthly expenses being incurred by SCE are

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89

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recorded in “CWIP.” SCE, like most utilities subject to cost-of-service ratemaking, will carry a balance

in CWIP until such time as a capital asset is placed into service. This CWIP balance will carry forward

from the end of one calendar year into the next. Ratemaking that follows cost-of-service principles

would customarily recognize and link the capital expenditures authorized in year one, but closing

subsequently, to year two when establishing the revenue requirement in year two.

In SCE’s 2009 GRC, DRA witness Greg Wilson endorsed the manner in which SCE’s

Results of Operation (RO) model converts capital expenditures to capital additions:

SCE’s capital exhibits and supporting workpapers (as well as its RO computer model) are organized around capital expenditures. SCE’s capital witnesses provide testimony regarding the magnitude of the direct capital dollars that are estimated to be spent each year, not how much is actually being booked to plant. SCE relies on its RO computer model to manipulate these direct capital expenditures and calculate the corresponding capital additions. DRA has studied SCE’s RO model, and believes that it properly calculates plant additions. Therefore, DRA’s analyses and recommended direct capital adjustments are also stated in terms of capital expenditures. When analyzing data in this format, the impact of recommended adjustments to capital expenditures may not show up in the year in which they are made. For example, suppose a capital project is scheduled to begin construction in 2008, but is not scheduled to be completed until 2009. If DRA was to recommend an adjustment to the 2008 expenditures, there will not be a revenue requirement impact until 2009, when the project is completed, is booked to plant-in-service, and begins earning a return.120

Due to the timing differences between capital expenditures and capital additions, of the

total 2009 capital expenditures the Commission approved in SCE’s 2009 GRC, $1.468 billion121 ($960

million, CPUC jurisdiction) remained in CWIP as of year-end 2009. Note that this $1.468 billion 2009

CWIP balance does not depend in any way on the 2010-2011 capital expenditure forecast the

Commission declined to review, but is based entirely on the capital expenditure forecasts the

Commission did review and approve through the end of 2009.

Figure X-10 below, compares the forecast revenue requirement-holding capital spending

flat at the level authorized in 2009 for the entire three-year GRC cycle (2009-2011).

120 A.07-1-011, Exhibit DRA-13, pp. 8-9.

121 The year-end CWIP balance in SCE’s application was $1.847 billion.

122


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Figure X-10 2009 GRC CapEx Constant

2010 & 2011(CPUC Jurisdiction)

In theory, if a utility’s capital expenditure forecast were to be held constant year after

year for an extended period of time and depreciation rates were adequate, the amount of CWIP closing

in a given year would be mostly offset by new entries and asset retirements, thus mitigating the revenue

requirement effect in the subsequent years.

We do not believe the Commission intended to deny continued cost recovery for the very

capital expenditures it authorized in SCE’s 2009 GRC. However, its decision forced us to temporarily

restrain certain capital investments so that over the three-year GRC cycle (2009-2011) cumulative

company spending would mirror authorized revenues. SCE was further constrained by the fact that only

a small portion of authorized GRC revenues are “fungible,” or available to be re-prioritized. In this

application, the vast majority of the proposed revenue requirement is funding either existing ratebase

(2012 authorized, plus the 2013 and 2014 capital additions), or the amount of O&M authorized in the

2012 case. If the methodological error in the 2009 decision were repeated in this case, the only practical

way SCE could adjust spending would be to adjust the timing of capital investment decisions in a

manner that ensured recorded rate base did not contribute to a higher revenue requirement than was

123


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authorized for years 2016 and 2017. That would cause us to delay capital investment in the 2015-2017

rate case cycle, delaying the delivery of corresponding benefits to our customers.

The Commission endeavors to meet its responsibility to provide utilities subject to cost-

of-service regulation a reasonable opportunity to earn their authorized rates of return.122 In fact, in our

2003 GRC, the Commission rejected the same kind of simplified approach to post-test year ratemaking

it adopted in our 2009 GRC. In that 2003 GRC, after noting its concern with relying on a utility’s

budget-based forecasts,123 the Commission also noted that focusing solely on recorded spending would

overlook the need for stepped-up spending to replace aging infrastructure.124

Based on these considerations, in our 2003 GRC the Commission adopted a post-test year

approach that allowed us to include the capital costs associated with our budget-based forecast, with the

revenue requirement subject to refund if we under-spent capital relative to the authorized forecast. We

continue to believe this 2003 GRC approach was ultimately the most fair, both to our customers and to

our investors, because it most accurately reflects our actual cost of service over the three-year GRC

cycle. I urge the Commission to return to that approach in this 2016 GRC.

But whatever course of action the Commission follows, it must not replicate the

methodology adopted in SCE’s 2009 GRC. With a growing need to expend capital on system utility

infrastructure, review and approval of reasonable post-test year expenditures is necessary for SCE to

122 See, Re Southern California Edison Co., D.04-07-022, §11.3, (mimeo), p. 271:

We start with the proposition that a utility’s opportunity to earn a fair return on the investments made to provide adequate utility service is realized with the adoption of a just and reasonable forecast test year revenue requirement.Then, to judge whether post-test year revenue adjustment provisions are appropriate, we inquire into whether there are, or will be, conditions that might undermine a utility’s opportunity to earn its authorized rate o f return after the test year. Such conditions need not be limited to those encountered 20 years ago, when the Commission was approving attrition adjustments because o f high costs o f utility debt and because the economy was unpredictable and volatile. Interest rates may be lower and the economy may be more stable now, but that does not mean there can be no other conditions that impact the utility’s ability to earn a reasonable return.

123 It should be noted that a utility’s budget represents the most accurate forecast that can be prepared by any entity, and is the single most reliable estimate that can be developed.

124 Id., p. 276:

As we have repeatedly observed in this decision, there is a fundamental problem with budget-based ratemaking that boils down to the fact that budgets are not always implemented as planned.

When older facilities are replaced with new ones, the associated costs are typically much higher than what is included in rates for the original facilities. Moreover, the effect o f this phenomenon is enhanced by the accelerated pace of planned capital spending associated with SCE’s infrastructure replacement program. ...

124


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have an opportunity to earn its authorized rate of return. However, in its decision on our 2009 GRC, the

Commission rejected our proposal for determining post-test year amounts, citing two reasons:

As we repeatedly observed in prior decisions, there is a fundamental problem with budget-based ratemaking that boils down to the fact that budgets are not always implemented as planned. In addition, no party other than SCE provided or analyzed detailed post-TY plant addition budget forecasts in determining increases.125

Mr. Ron Litzinger addresses the first of these reasons—the “spending flexibility”

principle of forecast test year ratemaking in his testimony in Exhibit SCE-01. As to the second reason

given for not relying on SCE’s post-test year capital forecast, while we are sympathetic to other parties’

resource constraints,126 the Commission should not ignore the evidence of the growing need to expend

capital on aged utility infrastructure and the other reasons supporting our forecasts or to adopt a post-test

year revenue requirement that precludes recovery of some of the very capital expenditures the

Commission authorized.

2. By Not Providing for Separate Escalation of the Other Operating Revenues From

Tariffed Services, the 2009 GRC’s Post-Test Year Ratemaking Mechanism

Shortchanged the Authorized Revenue Requirement

Another flaw in the 2009 adopted post-test year ratemaking mechanism was its treatment

of Other Operating Revenues (OOR). OOR arises from various services, such as late fees, in which

individual customers provide revenues to offset SCE’s revenue requirement, rather than all customers.

Because the utility recovers such costs from individual customers, the revenues from these services

offset the revenue requirement to be recovered from general ratepayers. In other words, the authorized

revenue requirement to be recovered from general ratepayers is “net” of OOR.127

125 Re Southern California Edison Co., D.09-03-025, §14, (mimeo), p. 305.

126 Should other parties in the case make valid contributions that aid the Commission in deciding this issue, their associated resource costs are recoverable through the Commission’s intervenor compensation program.

127 See, e.g., Re Southern California Edison Co., D.91-12-076, (mimeo), p. 116: “Revenue credits are applied against utility costs in determination of net revenue requirement to be included in rates.” See also, Re Pacific Gas and Electric Co., D.99-09-031, (mimeo), p. 2: “ ...Other Operating Revenues ... functioned as an offset or reduction in the authorized 1996 GRC revenue requirement. Since the revenue requirement was reduced by this amount, it was not included for recovery in rates in the GRC decision.” See also, Re Pacific Gas and Electric Co., D.08-06-038, (mimeo), p. 8: “PG&E proposes to credit $1,000 received from the City for the easement to Other Operating Revenue. As a result o f this action, the funds will reduce the future revenue requirements from customers consistent with conventional general rate case cost-of-service ratemaking.”

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As I discussed above, D.09-03-025’s post-test year formula escalates the total 2009

revenue requirement (SCE’s authorized costs). This approach assumes that each of the line items

comprising the overall revenue requirement is escalated at the same rate, including the tariffed service

revenues. However, the fees SCE is allowed to charge customers for tariffed services must be explicitly

approved by the Commission and D.09-03-025 did not authorize SCE to increase any of those fees to

provide for additional revenues. In other words, the decision’s post-test year mechanism implicitly

assumed SCE would be able to increase tariffed OOR by 4.25 percent in 2010 and 4.35 percent in 2011

but did not authorize any increase in the fees that generate that OOR. In 2010 this disconnect created a

$5 million shortfall between the adopted post-test year method and the revenues from fees for tariffed

services, an amount that grew to $10 million in 2011.128

Like the stranded CWIP error I discussed above, the post-test year ratemaking

mechanism the Commission adopts in this 2015 GRC should avoid this kind of methodological

inconsistency. See WP's, p. 6

128 For supporting calculations, please see the workpapers.

126


2015 General Rate Case - APPLICATION INDEX OF WORKPAPERS

EXHIBIT SCE-10, Volume I, Chapter X

DOCUMENT PAGE(S)Producer Price Index for Gasoline, Not Seasonally Adjusted 1-2Annual Gross Capital Additions, 2016-2017, and Cost of Removal by Functional Classification 3-4

Citations to Benefit Escalation Rates from Table X-39 52010 and 2011 OOR Shortfall 6


PRODUCER PRICE INDEX FOR GASOLINE, NOT SEASONALLY ADJUSTED


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ANNUAL GROSS CAPITAL ADDITIONS, 2016-2017 AND COST OF REMOVAL

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