Alternative Regulation and the Cost of Service Framework For Vermont EEU Regulated Utilities Overview

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Alternative Regulation and the
Cost of Service Framework

For Vermont
EEU
Regulated Utilities


Overview

This
alternative regulation and
cost of service
policy
document
provides a

framework for
the
cost of service
rate

and compensation

regulation
process
as it
is generally applied

to Vermont regulated utilities and specifically how it may
apply to

for profit


and

not for profit


EEU’s

operating under
Orders of
Appointment
issued by the Vermont Public Service Board.

Traditional
cost
of
service principles

shall be
applied in determining the revenue requirement
associated with authorized EEU utility operations

and shall be the initial
basis for
adoption of alternative
/incentive

regulation
.


For background and comparative information, t
he principles
includ
ed

here
are
also
used
in Vermont
for investor owned utilities, municipal utilities, and
cooperatives.


Cost of Service
Rate

and Compensation

Regulation


Policies and Principles

Vermont
EEU
utilities are
to be
fully integrated and rate regulated by the Pu
blic
Service Board
1
. The revenues a
Vermont regulated
EEU
utility may

collect, the
recovery of costs and the earning of profits and incentive payments during any
rate year
are

to be
determined based upon

existing
Vermont statutes
,
established
PSB policies

and rate making principles and over 100 years of legal
precedent established
in PSB

orders.


These statutes, policies, principles and precedents can be summarized as
follows:



EEU r
ate

and compensation

regulation is a substitute for competition

that
is f
ocused on the provisioning of “least cost” services.
It is designed to
include and simulate normal business risk for the EEU and does not
guarantee cost recovery or earnings while requiring sound managerial
practices, normal internal controls and cost man
agement to attain
earnings and cost recovery.



EEU
Alternative regulation

is an extension of rate

and
compensation
regulation

that provides additional motivation and incentives for
innovation, creativity and efficiency in the provisioning of “least cost”
services.




EEU r
ates

and compensation

and the related revenue requirement

shall
be just and reasonable
.



There shall be no undue discrimination.

o

No service s
ubsidization




1

All Vermont utilities are fully integrated and rate regulated by the Vermont Public Service Board e
xcept
where preempted by Federal Law, such as rates for CATV service,
rates for cellular service, rates for
wholesale electrical energy and capacity and rates for electric transmission service.

o

No service group intra or interservice s
ubsidization

o

Cost causer pays.



There shall

be a separation of
jurisdictional and
regulated and non
-
regulated activity.



An EEU
utility shall

have the opportunity to
recover

known and
measurable, just and reasonable,
used and useful
and prudently incurred
expenses

in the provisioning of service.



Mos
t
Vermont rate regulated utilities

are capital intensive and
have the
opportunity to
earn
a
fair and reasonable
return on and a return of rate
base
2
. The rate base include
s

plant in service,
material and supplies
inventory
, working capital,

and deferred t
axes. The rate base must consist
of
known and measurable

charges for plant in service
,
the cost must be
just and reasonable,
prudently
acquired

and
used and useful in the
provision
ing

of service.

o


Vermont utilities that are not capital intensive including

“For Profit”
and
“Not for profit”

utilities that have no or only a relatively small
level of plant investment
committed to public service

(rate base)

such as EEU’s,
shall have
the opportunity to earn
a
fair and
reasonable percentage return on revenue
s

or

expenses

in lieu of
earning a return on rate base
.





The
EEU
utility shall follow US Generally Accepted Accounting Principles
and PSB established accounting principles and shall maintain their books
of account using the PSB
authorized

Uniform System of A
ccounts.



Under alternative regulation, the EEU shall have the opportunit
y to earn
incentive revenues beyond the authorized revenue requirement when

performance
exceeds predetermined performance metrics.



The EEU
“rate year”
revenue requirement shall b
e determined based on
an historical annual “test year”
cost of service
adjusted for known and

measurable changes
3
. The cost of service filing may include multiple
annual
rate years

and cover the time period specified in the alternative
regulation plan
.



W
hen an EEU files a cost of service with multiple annual rate years in
conjunction with an alternative regulation plan, the EEU utility shall file



2

“Not for profit” utilities, such as municipals and cooperatives, who are capital
intensive have the opportunity to earn net inco
me at a level that (a) provides just
and reasonable interest coverage ratios

(
Debt Service Coverage Ratio
and or
Times Interest Earned Ratio
)

and (b) is sufficient to attract needed capital, but
which does not exceed a fair and reasonable return on rate ba
se.


3

Known and measurable changes include (a) those changes that will occur
during

the test year that are not applicable to the rate year(s), (b) changes
occurring
between the test year and the rate year
(s) and (c) changes occurring
during the rate yea
r(s).



annual base rate changes for each year covered under the plan. The
annual base rate filing shall be develope
d based on an historical annual
“test year” cost of service adjusted for known and measurable changes.



The EEU utility shall inform the PSB of
all
Affiliate Transactions

in excess
of $25,000 and shall present for PSB approval their

documented
Transfer
Pri
cing

policies and practices.



The EEU utility shall present for PSB approval their documented cost
allocation policies and practices.



The EEU utility shall provide an evaluation of competitive alternatives with
each cost of service filing.



State Re
gulatory

Cost of Service

Process


Preparation

and Planning


The state regulatory cost of service process requires preparation and planning.




Financial p
lanning

covering the time period covered under the alternative
regulation plan.




Ancillary s
tudies

tha
t meet the documentation requirements for satisfying
the “known and measurable” standard.




Annual volume of services to be delivered that may include work load
f
orecast
s and deliverables for the time period covered under the plan.




Key Performance Metrics
and annual objectives that establish the basis
for incentive revenue payments.




Uniform System of Accounts

that provides historical test year audited
financial information.




Functional or
Activity Based Accounting

(GAAP)

including cost allocation
proce
sses for determining service costs.


Cost of Service and
Revenue Requirements

After the preparation and planning, the EEU shall prepare a cost of service for
the test y
ear

with known and measurable adjustments to arrive at a revenue
requirement for the
rate year[s].



The revenue requirement may include:



Proposed

“pass
-
throughs
” for

the rate year[s]


Allocation of Costs

When EEU authorized services and carried out within an entity that conducts
other business activity,
the

EEU’s revenues and costs ma
y need to be separated
into a more granular level of detail than what the Uniform System
of

Accounts
may provide.

This creates the need for the development
and documentation
of
revenue and cost separations,
assignment

and allocation policies and
procedure
s.


An
entity’s

total cost of operations
as reflected in its
USOA

may need to be
separated by regulatory jurisdiction

when the
entity

or its parent operates in more
than one regulatory jurisdiction. Further, an
entity’s

state costs will need to be
furth
er separated
between regulated
EEU activity

and costs

and
other
non
-
regulated operations

when the
entity

operates in both
the regulated and non
-
regulated
arenas. The EEU regulated
activity and related
costs are
then further
separated by service

or servic
e category and rate class

when preparing the cost
of service and revenue requirement. This separation is in addition to
the normal
revenue, expense, capital separation that is required for GAAP and regulatory
reporting.



The separation of these costs sh
all be accommodated to the greatest extent
practicable through the adoption of a PSB authorized EEU uniform system of
accounts (EEU
-
USOA). Where this separation cannot be accomplished through
the EEU
-
USOA, such as for
the common costs associated with
bu
i
ldings, the
President’s salary for example
, allocations of
such
cost
s

must be made

to
establish the proper categorization of costs for subsequent recovery from
appropriate cost causers
.


Cost allocations may be

required

to determine:

Interjurisdictional
allocations

(1)

The level of total state jurisdictional operating costs for multi
-
state utilities;

a.

Includes the
allocation

of common costs associated with a
corporate headquarters operation that is involved in multi
-
state
operations and in regulated and non
-
re
gulated business activity.

Regulated/Unregulated Allocations

(2)

The level of the regulated component of total state costs;

(3)

The level of the non
-
regulated component of state costs;


Jurisdictional and Service Cost Allocations

(4)

The revenue requirement for each

service or
category of service

including
rate classes
.

Cost Assignments and Cost Allocations

(5)

All cost assignments and costs allocations shall be based on cost
causation.

(6)

Common costs are general business costs and do not lend themselves to
assignment or

allocation on a cost causation basis.
Lacking any
objective basis, for cost assignment,
all common costs shall be allocated
and assigned on the basis of revenues

or such other basis as the Board
shall approve
.

Allocation
s

Factors

(7)

.Allocation factors s
hall be based on embedded cost relationships and or
marginal cost relationships.