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Recent Developments in Cost-of-Service States Expose Captive Ratepayers to Increased Risks and Costs

According to a recent report by the highly respected Cambridge Energy Research Associates, power plant construction costs increased 27 percent in the twelve months before October 2007 and nearly 20 percent between March and October 2007. A power plant that would have cost $1 billion in 2000 would cost upwards of $2.3 billion in October 2007. No sector of the electricity industry is immune to these cost increases: all compete for the same components and skilled labor. In this rising cost environment, it is important for policymakers to allow competitive suppliers to help meet growing energy needs as well as to provide the market discipline that contains costs. Recent developments in several states are ominous - customers are being placed at risk of significant cost-overruns as pre-approved plants are being constructed under cost-of-service regulation without the benefit of testing the marketplace. A competitive procurement process would greatly benefit customers by ensuring the best resource was picked. Competitive suppliers can be part of the solution by shifting risks away from captive ratepayers and providing the incentives to finish projects on time and on budget.
<center>ALABAMA</center>

  • The Alabama House of Representatives passed House Bill 234, the "Alternative and Renewable Energy Act of 2008," on February 28, 2008. The bill is nominally intended to encourage the development of new electricity generation in the 2012-2018 timeframe through property, sales, and mortgage recording tax abatements and other credits.

  • While investment in low- and no-carbon generation technologies is critical to meeting future power needs, H.B. 234 excludes independent power producers from receiving any of the incentives for which only utilities and public power providers are eligible. Given the rising-cost conditions that the entire industry is facing and the uncertainty regarding the additional cost of eventual federal carbon legislation, it is important for Alabama consumers to be exposed to the least potential risk. The cost-of-service regulation that Alabama Power and public power providers enjoy places this risk squarely on the shoulders of ratepayers. In contrast, competitive suppliers are not guaranteed a rate-of-return and more financial risk is borne by investors. Competitive suppliers have a demonstrated ability to develop large-scale projects across the country as well as in Alabama and have more clean-coal and low-carbon development experience than Alabama Power. Denying access to incentives for the most experienced and efficient companies further increases the risk to Alabama ratepayers.

<center>COLORADO</center>
  • The Public Service Company of Colorado, an affiliate of Xcel Energy, is attempting to severely limit the role of competitive suppliers in Colorado by arguing before the Public Utilities Commission that long-term power purchase agreements (PPAs) present prohibitive debt equivalency issues. (Colorado Public Utilities Commission Docket No. 07A-447)

  • Under its proposal, Xcel would only accept bids from competitive suppliers on the condition that the utility would receive 50 percent ownership of those plants. This would have serious adverse, long-term consequences for consumers and competitive suppliers in the state. Unlike Xcel, competitive suppliers take on significant risk in building plants. Under Xcel's proposed scenario, competitive suppliers would be forced to give up ownership of their plants simply because they made good business decisions. In no other industry do winners get "rewarded" in such a fashion.

  • Furthermore, the argument put forward by Xcel against power purchase agreements is not convincing. In a National Association of Regulatory Utility Commissioners and Federal Energy Regulatory Commission meeting in July 2007 a representative from Standard & Poor's clearly stated that PPAs do not present debt equivalency barriers: "The point I'd like to make on the purchase power adjustments is that they're often or sometimes referred to as being a debt equivalent or something like that. And we certainly dont see it that way." (Todd Shipman, Director, Standard & Poors, NARUC-FERC Competitive Procurement Dialogue, July 18, 2007)

  • PPAs in fact are beneficial to consumers. With PPAs, Standard and Poor's notes that plant construction risk is borne largely by the supplier, meaning that load serving entities and customers do not pay for construction cost overruns. Moreover, since competitive developers generally do not have the option to pass construction cost increases to customers they have every interest in maximizing efficiency and keeping costs down. Given the public and government interest in deploying new, cleaner technologies - that are also largely unproven at the utility-scale and are expensive - it is important to reduce risk to customers.

<center>MISSISSIPPI</center>
  • On February 22, 2008, the Mississippi Senate approved Senate Bill 2793 by a vote of 38 to 11. The bill allowed utilities to recover planning, pre-construction and construction costs for new baseload power plants before they are in commercial operation. With costs for new large-scale baseload power plants in the billions of dollars and rising, ratepayers in Mississippi could be on the hook for decades to come for power plants that might never be completed. The Mississippi General Assembly wisely voted against this bill.

  • Mississippi State Senator John Horhn (D) was quick to denounce the bill after Senate passage. "It was shocking that they would do something like this. It would allow utilities to build coal and nuclear plants and charge ratepayers from the moment design begins. It also holds companies harmless if they decide not to go forward. It does not have any provision to protect ratepayers." (Mary Powers, "Mississippi bill allows immediate cost recovery for plants," Electric Power Daily, February 25, 2008)

  • Provisions such as these have already cost Mississippians dearly. In the 1980s the price to consumers for the construction of the 1,300 MW Grand Gulf nuclear power plant increased by 61 percent due to cost overruns. A second unit at Grand Gulf was abandoned after only a third of it was completed. Entergy, the incumbent utility, claims that pay-as-you-go would have saved ratepayers $1 billion. Yet had Entergy been able to charge ratepayers before operation of the plant began, it is possible they would have simply walked away from the construction, as they did with the second unit at Grand Gulf.

<center>OHIO</center>
  • In 2005 American Electric Power (AEP) sought approval to recover costs in advance of commercial operation for a 600-MW Integrated Gasification Combined Cycle (IGCC) coal-fired power plant in Ohio. AEP was granted approval by the Ohio Public Utilities Commission to build the plant in its rate base while selling its output in Ohio's restructured electricity market. While IGCC technology has the potential to reduce greenhouse gas emissions, it is still an expensive, unproven technology that will place captive ratepayers at risk for cost-overruns and operational problems. For Ohioans, AEP's plan was all risk and little reward. Thankfully, the Ohio Supreme Court ruled on March 14, 2008 that the PUC does not have the authority to grant such advance cost recovery and remanded the case back to the Commission.

<center>VIRGINIA</center>
  • Virginia Power, a subsidiary of Dominion, recently gained approval from the Virginia State Corporation Commission (SCC) to build a 585 MW, coal-fired power plant. Dominion plans to build the estimated $1.8 billion plant with unprecedented rate incentives provided by legislation passed by the Virginia General Assembly in 2007. Dominion attempted to use this case to permanently eliminate Virginia's competitive procurement rules, which have been on the books since 1978.

  • As part of the new unprecedented rate of return and incentive structure, Dominion's return for the $1.8 billion plant increased from $180 million (at 10%) to $220 million (at 12.2%). This $40 million increase in return for the utility was gained through legislative fiat, rather than a justifiable regulatory review, despite the fact that Dominion's risks are lower due to guaranteed cost recovery.

  • Given the extraordinary benefits that Dominion sought and was awarded by the General Assembly, it is important that the SCC ensures all alternatives are explored, including competitive suppliers, energy efficiency and demand response. Given uncertainty regarding future federal greenhouse gas legislation and rising construction costs it is highly likely that this will in fact end up costing Virginians more than Dominion is estimating.

Recent Developments in Cost-of-Service States Expose Captive Ratepayers to Increased Risks and Costs

CONTACT: JOHN SHELK
(202) 349-0154or 703-472-8660

EPSA is the national trade association representing competitive power suppliers, including generators and marketers. These suppliers, who account for nearly 40 percent of the installed generating capacity in the United States, provide reliable and competitively priced electricity from environmentally responsible facilities serving global power markets. EPSA seeks to bring the benefits of competition to all power customers.