expertise

UTILITY REGULATION

Alternative Regulation

Overview
The term Alternative Regulation (Altreg) encompasses a wide range of alternatives to the traditional Cost of Service (COS) approach to utility regulation, where base rates are reset only in occasional rate cases using historical test years. The most important approaches to Altreg today include multiyear rate plans, revenue decoupling, capital spending (capex) trackers, and forward test years. The growing use of Altreg in North America reflects in part its effectiveness in mitigating the problem of regulatory lag that many utilities face today under traditional regulation. Ratebases are growing, and utilities can no longer count on brisk growth in use per customer to offset the chronic gap between inflation and productivity growth. The problem is especially acute for utilities engaged in accelerated programs of system modernization.

Multiyear Rate Plans

Multiyear rate plans are the most common form of Altreg around the world today.   The basic idea is to weaken the link between a company's rates and its own cost so that its returns are more sensitive to its performance. Such plans feature a moratorium on rate cases that typically last from three to five years. Attrition relief mechanisms in the form of rate caps or revenue caps may permit escalation in rates to reflect inflation and other changes in business conditions. Strengthened incentives and lessened concerns about cross-subsidies can permit regulators to sanction greater operating flexibility. Plan parameters can be calibrated to share the benefits of better performance with customers. Utilities can earn superior returns for superior performance. 

Recent developments have increased the potential contribution of multiyear rate plans to the economy. Economic forces are placing upward pressure on the unit cost of utility operations. 

• Many utilities are boosting plant construction.
• Growth in sales per customer has slowed and for many gas utilities, actually declined.

Under cost of service regulation, utilities will under these conditions file more frequent rate cases that raise regulatory cost and weaken performance incentives.  The last time these conditions were prevalent (from 1974 to the mid 1980s) America's utility industry experienced a costly slowdown in productivity growth that led, ultimately, to the restructuring of much of the U.S. electric power industry.   With nations overseas showing stronger commitments to multiyear rate plans and power market competition, North America today runs the risk of a "productivity gap" that can erode its competitive position.


In North America , multiyear rate plans have been approved for energy utilities in diverse jurisdictions.

	Alberta		Missouri
	British Columbia		New York
	California		Ontario
	Connecticut		Oregon
	Florida		Quebec
	Maine		Rhode Island
	Masschusetts		Washington
	Michigan

The Federal Energy Regulatory Commission (FERC) and Canada's National Energy Board (NEB) use multiyear rate plans to regulate oil pipelines. Many other North American energy utilities have operated under less formal mechanisms that substantially relax the cost of service link. These include the extended rate freezes under which many utilities operated under the terms of power market restructuring plans. Multiyear rate plans are used more extensively in North America to regulate telecommunications, utilities and railroads. Overseas, the privatization of many utilities has in the last 15 years forced governments to choose a regulatory system. The majority have chosen multiyear rate plans over cost of service regulation. Countries such as Britain, Australia, Germany, and the Netherlands are recognized as multiyear rate plan leaders.

Multiyear rate plans are especially popular in North America where utilities need operating flexibility to perform well and traditional prudence reviews are challenging. Such plans have helped railroads and telcos serve markets with diverse competitive pressures from a common set of assets. This advantage of multiyear rate plans can help power distributors pursue efficient diversification into businesses, such as telecommunications, where the realization of scope economies from shared inputs is a key to success.

Revenue Decoupling
Revenue decoupling is an approach to Altreg that has been used for more than three decades by North American utilities. The two most common approaches are decoupling true up plans and lost revenue adjustment mechanisms ("LRAMs"). An LRAM compensates the utility periodically for the margin that is lost due to its DSM programs. In a decoupling true up plan, rates are reset periodically to ensure that a company's revenue matches its revenue requirement. Both approaches make utility finances less sensitive to the slowdown in use per customer that can accompany aggressive demand side management (DSM) programs. Utilities are therefore more likely to embrace DSM. A well designed decoupling mechanism can help utilities avoid frequent rate cases that might otherwise be triggered by slow volume growth. The need for decoupling is especially acute when volume growth is slow but utilities are compelled to use historical test years in rate cases.

Decoupling true up plans usually involve a revenue adjustment mechanism (RAM) that escalates the revenue requirement in the absence of a rate case. Five approaches to RAM design have been established.

• Under a revenue per customer (RPC) freeze, revenue per customer is fixed for the term of the plan. The revenue requirement then grows automatically with the number of customers served. The formula may apply to the total revenue per customer or individual rate classes. This is the single most popular approach to decoupling today. Although used primarily by gas distributors (e.g. Baltimore G&E), who experience declines in average use, it is now used as well by electric utilities in Idaho and Maryland. RPC freezes don't compensate utilities for input price inflation, which has accelerated substantially in recent years. As a consequence, many utilities operating under RPC freezes have been compelled to file frequent rate cases. The other four approaches to RAM design that we describe do not have this failing.
  
  
• Under revenue per customer indexing, the allowed revenue per customer is subject to automatic escalation for price inflation. This can in principle be accomplished by having a company's cost per customer rise at the average rate of a suitably chosen peer group. However, most RPC indexes approved to date have relied on the theoretical result that the growth in cost per customer is the difference between input price and productivity growth. These indexes have inflation - X formulas, where X reflects a productivity target and also corrects for any inaccuracy of the chosen inflation index as a measure of energy utility input price inflation. This approach has a solid scientific foundation and is apt to generate considerably more attrition relief than a revenue per customer freeze. Utilities who have operated under this kind of RAM include Enbridge Gas Distribution, Southern California Gas, and Vermont Gas Systems.
  
  
• Under the "inflation-only" approach to RAM design, the revenue requirement is adjusted only for growth in a familiar macroeconomic inflation measure such as the Gross Domestic Product Price Index. This is tantamount to a revenue per customer index in which X is set equal to customer growth. This approach has been approved for use in decoupling plans for Southern California Gas, and the gas and electric services of Pacific G&E and San Diego G&E.
  
  
• Under the "all-forecast" approach, revenue requirement escalation depends on a multi-year forecast of the growth in total cost. This is tantamount to a rate case with multiple forward test years. The revenue requirement in the "out" years is usually scheduled to rise in a ?stair-step? pattern. This approach to RAM design has been used extensively in California and is now being used in New York state. It has the disadvantage of being non-responsive to unforeseen hyperinflation.
  
  
• Under the "hybrid" approach to RAM design O&M expenses are typically escalated using an index, whereas capital cost escalation is based on a multi-year forecast. This general approach has been the third most popular overall and has been used chiefly by California utilities. It is currently used by the three Hawaiian Electric companies.

Revenue decoupling has been a major focus of our recent work. Our three decoupling witnesses have filed relevant testimony in proceedings leading to the approval of 21 decoupling mechanisms including LRAMs as well as decoupling true up plans. A special strength is the design of revenue adjustment mechanisms. For example, we have been a witness in support of several approved index-based and hybrid RAMs.

Forward Test Years

Many utilities are still compelled to use historical or hybrid test years in rate cases. These approaches were designed for an earlier era of rapid volume per customer growth and are often uncompensatory under today's business conditions. A forward (aka fully forecasted) test year allows the utility to set its rates using forecasted costs, investment levels, and revenues. California, New York, and Wisconsin are three states that have used forward test years for decades.

Capex Trackers

Many energy distributors are engaged today in accelerated programs of system modernization. Vertically integrated electric utilities face an additional challenge when engaged in a multiyear program to install scrubbers on its generating units. Assets with appreciable value become used and useful each year, and timely recovery of the cost of plant additions can require frequent and even annual rate cases. Capex trackers can help utilities achieve timely recovery of new investments without frequent rate cases. The majority of U.S. regulatory jurisdictions have employed a capex tracker.

Altreg for Major Generating Plant Additions
Many utilities today need to make major generating plant additions to replace aging assets and/or meet demand growth. These are especially risky in an era of volatile energy prices and changing climate policy. Under COS regulation, major plant additions can cause rate shock and subject utilities to a risk of prudence disallowance that isn't matched by a high allowed rate of return.

Altreg is evolving to meet these challenges. Measures are being taken to reduce utility risk. These include traditional risk reduction measures such as accelerated depreciation and the inclusion of construction work in progress in rate base. Additional measures taken to reduce risk include

• Expensing of preconstruction costs
• Advanced approval of construction plans
• Guaranteed recovery of approved capital costs
• Formula rates
• Capex trackers

Rate trajectories can be sculpted to smooth the impact of plant additions on customers. Mitigation of rate shock is facilitated when capital cost recovery is guaranteed so that utilities can recover cost more evenly over the years. Major plant additions can also be facilitated by increasing the expected return from investment. This can be achieved via rate of return premia, competitive bidding to establish capex budgets, incentivized capex budget caps, and innovative generation pricing deals such as California's (expired) plans for nuclear plants.

A central challenge in the regulation of vertically integrated utilities today is securing funding for needed major plant additions while maintaining strong performance incentives. PEG believes that funding for major plant additions can be embedded in multiyear rate plans that generate strong incentives using the all forecast or hybrid approaches to the design of attrition relief mechanisms that we describe in the decoupling section above. The design of O&M escalation indexes used in the hybrid approach is a company specialty.

PEG Research Capabilities
PEG possesses North America's most experienced staff of energy Altreg consultants.  Our staff has over fifty man-years of Altreg experience.  We routinely extend the frontier of Altreg with cutting edge research. Applications we have worked on include most major services furnished by energy utilities:

• ELECTRIC POWER: Transmission, Distribution, Customer Care, Energy Procurement, and Bundled Power Service
• NATURAL GAS: Transmission, Distribution, and Procurement

Many of the leading Altreg jurisdictions in the world are now located overseas.  PEG is active in many of these venues, including Australia, Britain, and Canada.  We are eager to share our expertise with less developed countries. 


Plan Design
PEG has helped many energy utilities design Altreg plans.  We have worked on a variety of Altreg mechanisms:

• Price caps
• Revenue decoupling
• Earnings sharing mechanisms
• Service quality and other benchmark incentive mechanisms.

We are not wedded to any single approach to Altreg and are committed to helping our clients find the approach that makes sense for them.  Our plan design services include the monitoring of Altreg developments across utility industries and around the world. This includes Altreg for major plant additions.   Clients can quickly access our extensive collection of Altreg documents.

Incentive Power Model
The benefits to utilities from alternative regulatory systems are critical issues in Altreg plan design and advocacy.  Utilities care about earnings levels and risk.  Customers care about price levels and stability.  In research for several clients, PEG has developed a sophisticated model to quantify these impacts of regulation for alternative concrete regulatory systems. For each system considered, the model generates results for:

• Strength of incentives
• Earnings
• Customer benefits

Using a sophisticated optimizing algorithm, we have modeled how rational companies respond to several key features of regulatory systems. These include:

• Plan Term (e.g. 2 - 10 years)
• Rate Reset Provisions (e.g. full rate case, interplan benefit sharing)
• Earnings sharing mechanisms (e.g. symmetric vs. asymmetric, deadbands)

The model also considers how a utility's response to a regulatory system differs for different kinds of performance incentives. For example, it can consider how responses vary with the up front costs and project payback periods. Our results show that if the Altreg plan is not designed appropriately, some initiatives will not be pursued and utilities and their customers will both lose. Results can also help managers plan for success under Altreg. For example, preliminary results suggest that some of the biggest benefits of a Altreg plan may not be realized unless there is timely implementation.

Our Incentive Power model can help clients appraise established regulatory options, identify promising new options, and present supportive evidence.

Empirical Research
Altreg plans often require a solid foundation in empirical research.  We have undertaken a wide range of Altreg-related empirical work, including the calculation of industry input price and productivity trends for many utility services.  PEG personnel have provided the research supporting many approved indexing plans for energy utilities.  We are currently placing service quality Altreg on a comparably scientific foundation.  For example, we have developed deadbands for service quality mechanisms that are based on rigorous statistical tests of change in quality performance.

Regulatory Support
A sound regulatory strategy is essential to the ultimate success of a Altreg initiative.  PEG provides a full range of regulatory support services, from involvement in technical and settlement conferences to expert witness testimony.  Our experience as expert witnesses in Altreg proceedings has no rival in the consulting industry.  Our record goes beyond appearances on the witness stand to include the achievement of solid results for clients.

Publications and Public Appearances
PEG has organized, chaired, and sponsored a series of highly acclaimed national forums on Altreg.  We have also helped the Edison Electric Institute and the American Gas Association organize Altreg conferences.  Contact us if you need a speaker on Altreg issues.  PEG personnel have also made a number of contributions to the literature on Altreg, including influential white papers for EEI and the Electric Power Research Institute.  Articles have been published in respected professional journals.

Benchmarking

What is Statistical Benchmarking?
Statistical benchmarking is a scientific approach to performance measurement that makes extensive use of data on utility operations. Indicators are chosen that reflect important dimensions of company performance. Company values are then compared to benchmarks that reflect the performance of other utilities. The change in a company's performance over time can also be measured.

Benchmarking has long been used by utility managers, including Boards of Directors, to appraise operating efficiency. Today, it is also playing a role in regulation. For example, utilities, intervenors, and regulators all use benchmarking to appraise the reasonableness of historical costs and forecasts of future costs. The results can be used to help set rates in rate cases and the out-year provisions of multiyear rate plans. Companies investing in utilities outside the US are especially likely to encounter benchmarking studies in the regulatory arena.

PEG Research Experience
PEG Research is a leading consultant on statistical benchmarking for energy utilities. Our personnel first testified on benchmarking in 1992, and pioneered the use of scientific benchmarking methods in North American regulation. Company President Mark Newton Lowry and Senior Advisor Larry Kaufmann have chaired several benchmarking workshops and conferences. Our methods are also useful in management since they produce the most accurate performance measures available. We can help managers track trends in their company's performance and identify areas of strength and weakness.

Available Methods
PEG Research uses a range of sophisticated benchmarking tools.

Unit Cost Indexes Unit cost metrics are most commonly used in cost benchmarking by North American utilities. A unit cost index is the ratio of cost to a measure of operating scale. It facilitates cost comparisons between companies with different operating scales.
Experienced benchmarkers will have encountered the challenge of deciding which measure of output should be used in unit cost research. A distributor, for instance, may find that it stacks up much better on a cost per customer basis than on a cost per line mile or volume delivered basis. The output quantity indexes we use in our benchmarking work help to finesse this problem. These feature multiple output quantity measures with weights that reflect their relative importance as cost drivers.

Productivity Indexes  A productivity index is the ratio of an output and an input quantity index. Productivity trend indexes capture the change in a company's cost over time that is not due to changes in its input prices or operating scale. Productivity level indexes capture differences in the costs of sampled companies that are not due to differences in their input prices or scale. Since input prices and operating scale are major cost drivers, productivity indexes are useful measures of operating efficiency. They permit the use of data from companies facing different input prices and operating scales in benchmarking a company's efficiency.

Productivity indexes are widely used in government and industry as performance measures. They are most commonly employed to measure performance trends over time. For example, they can measure the annual productivity growth of a company and compare it to that of other companies in a specified region. This is a great way to appraise the ongoing success of efficiency initiatives.

Productivity indexes can be calculated at various levels of detail. Total factor productivity (TFP) indexes summarize the efficiency with which all inputs of a company are utilized to provide a bundle of services. Partial factor productivity indexes can address the productivity of specific input groups (e.g. operation and maintenance inputs).

Econometric Cost Models An econometric cost model explains the relationship between utilities' costs and an array of quantifiable business conditions in their service territories. Model specifications are guided by economic theory. Model parameters are estimated using historical data on the costs and business conditions (cost "drivers")of a sample of utilities. Statistical tests can ensure that the model contains only significant cost drivers. The model can then be used to predict a utility's past, current, or future cost given the exact business conditions that it faces in its service territory. This reduces the need to choose a peer group of companies. Models can also be used to predict the change in a company's cost given expected changes in local business conditions (e.g. input price inflation and customer growth).

Econometric cost models have important advantages over unit cost and productivity metrics in performance measurement.


• A model simultaneously can consider the impact on cost of a wider array of business conditions. Examples include the extent of undergrounding of a power delivery system and whether companies distribute both gas and electricity.
• Statistical tests can be conducted of hypotheses regarding deviations from efficiency norms. Confidence intervals used in these tests reflect, as they should, the size of the sample and the success of the cost model in explaining the variations in cost in the historical sample.

Capital Measurement Capital accounts for the largest share of the cost of most utilities. Capital cost containment is therefore the single most important dimension of long run utility operating efficiency. Many benchmarking consultancies nonetheless focus on O&M expenses due to the difficulty of comparing capital costs across utilities. Moreover, their studies usually take little account of the amount of capital utilized even though it has a major impact on the amounts of O&M inputs used. PEG Research uses rigorous capital measurement methods that can surmount this barrier to comprehensive efficiency measurement. We routinely benchmark capital cost and consider a utility's capital holdings when benchmarking O&M expenses.

Econometric Quality Models Like cost, the service quality of utilities also depends on local business conditions. These conditions can vary between utilities and account for much of the variations in quality that utilities achieve. PEG Research has developed econometric models that benchmark the reliability of a utility given local business conditions. Models have been developed for SAIDI and SAIFI. Model parameters are estimated using only data in the public domain that conform to IEEE standard 1366. The models are useful in setting reliability targets and in evaluating prudence. The econometric approach to benchmarking is especially advantageous given the paucityof utilities with publicly available, standardized data which are candidates for inclusion in peer groups.

Other Methods Other benchmarking methods, including data envelopment analysis (DEA), are sometimes used in the regulatory arena. PEG Research personnel are thoroughly familiar with DEA and can advise clients on the comparative advantages of alternative benchmarking methods.

Applications
PEG Research can provide index and econometric cost benchmarking studies for all of the major services of gas and electric utilities and relevant combinations thereof.

ELECTRIC POWER

• Generation
• Transmission
• Local Delivery
• Customer Accounts
• Distribution (Local Delivery and Customer Accounts)
• T&D (Transmission, Local Delivery, and Customer Accounts)
• Bundled Power Service
• Reliability (e.g. SAIDI and SAIFI)

NATURAL GAS

• Transmission
• Storage
• Local Delivery
• Customer Accounts
• Distribution (Local Delivery and Customer Accounts)
• Integrated Transmission, Storage, and Distribution

For each service, studies are available for detailed cost categories as well as for total cost and we can appraise performance levels and changes in performance.

Benchmarking Workshops
Many clients today want to strengthen their in-house benchmarking capabilities. PEG Research can conduct benchmarking workshops to help staffers new to benchmarking get up to speed and to sharpen the skills of more experienced staffers. Workshops can be held on site, at our Madison office or at an attractive retreat location. PEG Research can also provide real world data for a benchmarking exercise.

Expert Witness Testimony
PEG Research personnel have testified on benchmarking for some of North America's best known utilities. Utilities have also submitted our research to regulators overseas, where formal rate cases are rare. Impressive results have been achieved for clients in several instances.

Other Statistical Cost Research

PEG Research's expertise in statistical cost research has a number of other useful applications in utility regulation.

Cost Forecasts
Indexes and econometric models are both useful in the preparation of cost forecasts for internal budgeting and forward test years. For example, it is well established that

Growth Cost = Growth Input Prices - growth Productivity + growth Output

PEG Research can prepare utility specific input price indexes, output metrics, and tough, but attainable productivity targets that permit custom forecasts of O&M expenses and total cost. Formulas of this kind, developed by our personnel, are currently used by the Essential Services Commission in Melbourne, Australia to establish multiyear O&M budgets for gas and electric power distributors. This research is also useful for quantifying the financial attrition that results from historical test years and delays in making rate case decisions.

Scale Economies Estimates of economies of scale and other aspects of the cost structure of utility services have uses in utility management and regulation. For example, our personnel used a study of scale economies in gas distribution to help the Comision Reguladora de Energia in Mexico decide how many gas distributors to create in Mexico City. Our research was nominated for an award for the best applied economic research in Mexico.

Code of Conduct Issues

PEG personnel have been active in fashioning public policies regarding utility company diversification into competitive markets and codes of competitive conduct. We have authored several Edison Electric Institute white papers on these issues, including The Cost Structure of Power Distribution, Branding Electric Utility Products: Analysis and Experience in Regulated Industries, and Controls for Cross-Subsidization in Electric Utility Regulation. Our brand names paper was filed in a California code of conduct proceeding and has been credited with influencing the CPUC's decision on the brand name issue. We have testified in support of relaxed restrictions on utility diversification in Wisconsin.

DSM/Integrated Resource Planning

PEG Research personnel have extensive experience assisting utilities plan, design, and implement an appropriate and efficient set of energy efficiency (EE) and demand response programs and initiatives [often broadly referred to as demand-side management (DSM) programs]. Dr. Chamberlin was an early developer of methods to evaluate and select DSM programs, and was coauthor of 3 widely used books on the topic. For many utilities, there are two overriding issues that must be addressed in the development of an integrated resource planning (IRP) process - one that efficiently and effectively balances demand and supply side resources. These issues involve the process used to select DSM resources, and the types of financial mechanisms that will be used to address inequities between supply and demand side resources.

Process

Demand-side resources have numerous important differences when compared to traditional generating plant options. DSM resources tend to be highly distributed, fragmented, and individually quite small. They are, by their nature, inherently subject to decisions made by multiple customers. As a result, their load impact can be difficult to predict, and uncertain. And, they can often be ramped up and down over time to match other changes in load growth. They tend to impact load differently throughout the service territory. Finally, they have quite different cost impacts to program participants compared to non-participants. These characteristics make them difficult to evaluate within the framework of traditional utility planning models used to evaluate and select generating units.

PEG Research personnel have assisted utilities in the development of processes that effectively and efficiently balance these considerations in the application of an IRP process. It can be done fully within an IRP model framework, or alternatively, by using outputs from a traditional model to select appropriate levels and types of DSM programs. In either case, it is critical that risk be appropriately considered, that alternative levels of "aggressiveness" of DSM programs be evaluated, and that a process be employed to ensure consistent treatment of all resources.

Dr. Chamberlin has most recently developed a model (Portfolio Strategist) that allows the incorporation of a wide variety of specific risks and uncertainties inherent in DSM resources into the IRP selection process. The model allows utility management to see the overall level of cost uncertainty resulting from any set of DSM and generation resources, and to compare the overall level of uncertainty between resource plans.

Financial Considerations

DSM resources have a different impact upon the financial results of a utility compared to traditional supply side resources. The latter, once found used and useful, typically enter the rate base and are recovered though rates from all customers. DSM resources, on the other hand, (without special treatment), often result in an under-recovery of expenses, under-recovery of those fixed costs previously approved by the commission, and a foregone opportunity to earn a return on the capital that would otherwise be invested.

Each of these limitations can be addressed, but all have issues. The expense issue, for example, arises as DSM programs ramp up, while the expense recovery built into rates lags. Contemporaneous recovery "cures" the problem, but some parties may be concerned that such a mechanism isn't appropriate for DSM expenditures, or that such a mechanism weakens oversight. Deferral accounts, with appropriate carrying charges also address this issue.

Under-recovery of fixed costs arise because DSM programs reduce usage levels below those used to calculate rates. This issue can be addressed (to varying degrees) with decoupling true up plans, specific calculated lost revenue adjustment mechanisms, fixed rate designs, or forward test years. All these approaches have both strengths and weaknesses, and selecting the best strategy is often a complex undertaking. PEG Research is the leading consulting firm working in this area, as discussed further in the "AltReg" section of our website.

Finally, the earnings opportunity issue is often addressed with the development of performance incentives for DSM activities. These can take many forms, including ROE adders, shared savings mechanisms, and performance formulas. Again, each of these may be appropriate in different circumstances, and selecting the best one involves a balance of expected financial results, performance risks, and the views of each of the parties in a given proceeding.

PEG Research personnel have extensive experience in the design, implementation and regulatory defense of each of these financial mechanisms. We typically work by assisting utility management in understanding the options available, understand the views on these mechanisms of various parties to the proceedings, and in developing typical or "ball park" estimates of the effects of those mechanisms under consideration, and help to quantify the results of various forms of favored mechanisms. We also help illustrate the strengths and weaknesses of these in each particular situation.

Industry Structure

The efficient structure of the energy industries has been a key policy issue for nearly two decades. PEG personnel have performed several pathbreaking studies that shed light on this issue.

• For Mexico's energy regulatory commission, we prepared a study of future scale economies in gas distribution that supported their decision to establish two franchises in metropolitan Mexico City.
• For the Edison Electric Institute (EEI) and the National Electricity Distribution Forum of Australia, we have written white papers on the cost structure of power distribution.
• For a group of Massachusetts power distributors, we prepared a study and filed comments on scale economies in local power delivery, metering and billing.
• For Hawaiian Electric, we have studied and testified on the natural monopoly characteristics of Hawaiian power markets.
• For Western Power, we have studied the natural monopoly characteristics of the power industry of western Australia. We have also performed a critical examination of problems with retail competition initiatives around the world.
• We have written two white papers for the Edison Electric Institute (EEI) on metering and billing competition.
• We have written white papers on the cost structure of power distribution for the Edison Electric Institute and the Electricity Supply Association of Australia.

INTERSTATE Gas Transmission

PEG personnel are active in gas transmission proceedings before the Federal Energy Regulatory Commission (FERC) and Canada's National Energy Board. We provided econometric models, market power analyses, and expert testimony in the first FERC case where an interstate natural gas pipeline successfully received authority to charge market-based rates. We recently testified in a proceeding on alternative plans to expand gas transmission capacity to Wisconsin.

Mergers and Restructurings

As two major forces, competition and consolidation, alter the landscape of utility operations, PEG has been in the forefront helping companies develop and implement effective business and regulatory strategies. We have specialized software and analytic tools to aid in strategic decisions. These include:

• Models to estimate cost and revenue synergies related to mergers.
• Models to prepare pro forma balance sheets, income statements and cash flow statements for merging companies, both with and without projected synergies and merger related costs.
• Share price and dividend models to track the various merger components and to provide valuable information to boards of directors and senior management as to a potential merger's accretive or dilative effects.

We have developed complex marketing and demand analyses for utilities moving from regulated to competitive markets. In most of these cases, PEG provided expert testimony before either state or federal regulatory commissions, or both.  We have developed presentations for boards of directors and upper management identifying the strategic issues involved in moving from a regulated to a competitive environment, and assisted in developing appropriate strategies for implementing these changes.

For several utility and non-utility clients, we have identified and screened potential merger candidates and acquisition targets in the United States and abroad. We have analyzed the financial aspects of potential mergers and issued fairness opinions. We have analyzed and provided expert testimony regarding vertical and horizontal market power issues related to mergers.

Rate of Return Analysis/WACC

PEG is often asked to determine a just and reasonable Return on Equity (ROE) as well as a Rate of Return (ROR) and Weighted Average Cost of Capital (WACC). In addition to our work in the United States, our experience includes international/country risk adjustments for various nations in Latin America and Asia. PEG uses these analyses for regulatory proceedings, due-diligence, and forming opinions.

Utility Rate Design

Traditional Rate Design

Experience Dr. John Chamberlin has 35 years of experience in the design and evaluation of electric and gas utility rate designs. He has developed and applied cost of service models, marginal and avoided cost processes, and has taught courses in these methods for numerous groups, including EPRI, APPA, NRECA, and the Center for Professional Advancement. He taught the marginal cost segment of EEI's Rate Fundamentals course for several years.

In addition to developing base rate designs, Dr. Chamberlin has developed numerous special purpose rates, including standby prices, interruptible and curtailable rates, TOU prices, rates for intermittent resources (e.g. wind), critical peak pricing programs, and market based rates of a variety of types. He has testified on pricing and rate design matters for many utilities in the US and Canada.

Demand Response Pricing

What is demand response pricing? Demand Response (DR) pricing is a set of initiatives intended to reduce or shape customer demand in response to price, incentives or utility directives. The goal is generally to reduce system costs while maintaining reliability. A subsidiary goal is often to provide customers with an opportunity to reduce their utility bills while simultaneously reducing the overall level of utility costs.

Early forms of DR pricing include fixed sets of prices that vary by time-of-use (TOU), and incentives to encourage customers to reduce load at times of system peak (such as interruptible or curtailable rates). DR pricing also includes pricing structures in which a fixed peak period price is applied to a limited number of callable peak periods (Critical Peak Pricing), and a variety of market based pricing approaches in which all, or a portion of the customer price is set by future market prices. As utility metering becomes more sophisticated (e.g. with the installation of increasing numbers of smart meters), there is increasing opportunity to develop prices that allow customers to make more informed decisions about their energy use.

PEG Research Experience PEG Research personnel have been assisting utilities with DR pricing for 35 years. Dr. John Chamberlin was one of the early developers of approaches to design interruptible and TOU rates, and was the lead author for many of the EPRI/EEI Electric Utility Rate Design Study reports in the 1980s. Since then, he has continued to develop these and other DR pricing approaches for utilities across North America.

Design of DR Prices The development of DR prices involves many of the traditional utility rate design steps and processes. Typically, however, these prices are more complex and have additional elements that require a comprehensive evaluation framework. For example, the development of Critical Peak prices typically requires consideration of the following components:

1. Determination of program objectives (i.e. what is the specific load shape goal for the program?);
2. Determination of customer eligibility (i.e. which customers (and classes of customers) will be eligible?) Will this be voluntary or mandatory? What contract requirements (including length of participation) will be required? What, if anything, will be required for customers to withdraw from the program?
3. Determination of the curtailment process. What will determine the identification of a "critical" peak period? Will this be discretionary, or will it be tied to an external event (such as temperature)? How will customers be notified? How much notice will they be given? How many such periods will be allowable?
4. Determination of the appropriate incentive. What is the appropriate basis for the critical peak price (and associated non-critical discount)? Should these be tied to market prices, avoided costs, or something else? Will customers receive any initial assurances or guarantees of savings? How many "events" are allowable, and how long may they last?

Each of these design elements involves consideration of planning, economic, marketing and regulatory issues. Our approach has been to establish a broad framework that assures that all of the relevant issues are considered. We quantify impacts and results of available alternatives to ensure informed decision making.

Water Utility Services

PEG Research personnel have done a number of projects in the water utility industry. Senior Advisor John Chamberlin has assisted the East Bay Municipal Utility District (EBMUD) in a number of water rate proceedings. His work for the approximately 1 million customer utility included the development of base water rates for all customers, analysis and development of incentive rates designed to encourage more efficient water use, and related cost of service analyses. Dr. Chamberlin supported this work with testimony before the Board, and at a variety of public hearings. John supported the Metropolitan Water District (supplying water to most Southern California cities) in the development of a multi billion dollar long term resource plan that considered a variety of non-traditional resources including extensive water conservation programs. He also assisted MWD in the development and support of a variety of new pricing options.

Other Utility Services

PEG personnel have addressed a wide variety of additional issues in utility regulation. Here is a partial listing.

• Gas and power purchase contracts
• Hydroelectric relicensing
• Natural gas storage

Civil Litigation

PEG has provided litigation support in several fields, including antitrust, intellectual property, taxation, health, and the environment. The Pasadena office has taken the lead in this field. Our effectiveness in litigation is enhanced by our expertise in such varied industries as agriculture, automobiles, computers, electronics, electric power, food processing, metals, natural gas, oil pipelines, petroleum, petrochemicals, pharmaceuticals, pesticides, postal services, retailing, real estate, cable, and telecommunications.

We strive to ensure that we have no stake in the matters for which we are retained. This enables us to apply objective ideas and analyses to the issue at hand. We have not limited our practice to working for only plaintiffs or defendants. For example, we have worked for defendants against claims brought by the government in tax and other courts, and we have worked for the government in antitrust matters and cases involving a bank's failure to properly escheat unclaimed bond funds to the state government. We have worked for environmental groups and have defended industrial clients against inappropriate environmental damage claims brought by both private and public plaintiffs. We have developed damage analyses for plaintiffs in patent infringement and other intellectual property cases. We have also provided defense testimony in intellectual property cases, exposing flawed damage analyses presented by opposing experts. PEG also has extensive expertise in designing surveys and critiquing surveys used in a wide variety of litigation and management consulting situations.

The use of econometric methods in litigation support is a PEG specialty. Partner Jeff Dubin is an Adjunct Full Professor of Economics at UCLA's Anderson School of Business where he teaches econometrics.

Antitrust and Market Power

PEG has provided expert testimony and analysis in a variety of antitrust and market power cases. We have addressed a wide-ranging set of issues, including but not limited to allegations regarding monopolizing open heart surgery in a Wisconsin hospital, price fixing allegations on a natural gas pipeline, unfair marketing allegations involving an electric utility merger, market power analyses for oil pipelines, natural gas pipelines, and energy marketers, price consequences of mergers (cardio ultrasound equipment and bakeries), and price fixing in the corn-syrup manufacturing industry.

Contract Disputes

PEG personnel have provided expert analysis and testimony in a wide range of contract disputes, providing independent analyses for both plaintiffs and defendants.

Copyright and Patent Infringement

PEG personnel have provided expert analysis in many copyright and patent infringement cases. We have ascertained damages in disputes ranging from the similarity in greeting card design to instant cameras to micro motors used in automobiles and small appliances.

Environment

PEG has extensive experience in natural resource damage assessments. Our personnel have worked in more than a dozen cases critiquing government sponsored contingent valuation models (CVM), hedonic property analyses, and stigma effects, travel cost models, habitat equivalency analyses (HEA), and more. PEG also performs alternative damage assessments, and designs counter surveys. Our work for clients has drawn on the academic research of Drs. Cicchetti and Dubin.

Preservation and Development

PEG personnel have been involved in several high profile disputes over preservation vs. development. These have ranged from issues concerning placement of telephone wires across historical sites to the development of new ski areas to the optimal sitting of the Trans Alaska Pipeline.