A Summary of Revenue Decoupling Evaluations Dan Hansen Christensen Associates Energy Consulting July

2 Outline  Decoupling overview  Description of mechanisms studied  Risk issues  Weather risk  Economic and price risk  Should allowed ROE be reduced  Changes in utility behavior  Effect on customer satisfaction

July Purpose of Revenue Decoupling  Traditional regulated rates recover fixed costs through volumetric rates  Provides utility with:  An incentive to increase usage  A disincentive to promote conservation and energy efficiency  Problem: revenues and sales are directly related  Solution? “Decouple” revenues from sales

July Purpose of Revenue Decoupling (2)  Revenue decoupling removes the link between sales and revenues, thus making the utility indifferent to the effects of conservation  Decoupling does not provide an incentive for the utility to promote conservation  Utility revenues are typically “recoupled” to some other factor(s), such as the number of customers

July Basic Decoupling Concept  Basic concept of revenue decoupling (RD): RD Deferral = Allowed Revenue – Actual Revenue  A positive number means the utility under- recovered, and will lead to a future rate increase  A negative number means the utility over- recovered, and will lead to a future rate decrease

July Basic Decoupling Concept (2)  Typically every 6 or 12 months, the RD deferral is rolled into rates as follows: Rate change from RD = RD Deferral / E(Usage)

July Description of Mechanisms Studied

July Independent Evaluations of Decoupling Mechanisms  NW Natural Gas  Completed in  Distribution Margin Normalization (DMN).  New Jersey Natural Gas & South Jersey Gas  Completed in  Conservation Incentive Program (CIP).  Portland General Electric  Completed in  Sales Normalization Adjustment (SNA).

July Decoupling Mechanisms: NW Natural  Revenue per customer decoupling (RPCD).  Removes effects of weather from deferrals.  Separate WARM insulates NW Natural from weather.  Initially capped deferrals at 90% of the non- weather difference between allowed and actual revenue.  Removed following our report’s recommendation.  Low-income bill assistance and weatherization funding also approved.  Service quality standards imposed.

July Decoupling Mechanisms: New Jersey Natural Gas and South Jersey Gas  RPCD.  Includes weather effects.  Separate weather normalization adjustment.  ROE test: can’t recover more than allowed ROE due to deferrals (excess can’t be recovered later).  Basic Gas Supply Service (BGSS) test.  Non-weather component of deferral must be off- set by BGSS savings.  Commit shareholder funds to conservation.  Large customer count adjustment.

July Decoupling Mechanisms: Portland General Electric  RPCD for residential and small commercial.  Lost revenue adjustment for larger commercial customers.  Largest customers (over 1 aMW) excluded entirely.  Excludes effect of weather.  Reduced ROE by 10 basis points.  Decoupling includes fixed generation costs.  A proposal has been made to bifurcate the mechanism such that G&T allowed revenue would be fixed and D allowed revenue would remain linked to the number of customers.

July Decoupling and Risk

July Decoupling and Risk Shifting: Weather Risk  Does decoupling shift weather risk from the utility to its ratepayers?  No. A reduction in risk for one party does not necessarily mean that risk is shifted to another party.

July Decoupling and Risk Shifting: Coin Flipping  Suppose I flip a coin  Heads = I pay you $20  Tails = You pay me $20  This game exposes me to coin flipping risk. I gain or lose $20 every time we play.  If I decide to stop playing the game, I eliminate my coin flipping risk.  Did I shift the risk to you? No, your risk is eliminated as well.  This can happen when the risk is negatively correlated across parties (e.g., when something makes me better off, it makes you worse off).

July Decoupling and Risk Shifting: Coin Flipping (2)  This example is similar to the effect of weather on utility revenues (e.g., heads = hot summer and tails = cold summer).  Reducing utility weather risk can also reduce ratepayer weather risk.  Complications: decoupling deferrals affect rates paid next year, so weather risk is only eliminated over time and at the class level.  Weather risk can be reduced at the customer level through weather normalization mechanisms, as are found in the natural gas industry.

July Decoupling and Risk Shifting: Economic and Price Risk  Decoupling may shift two types of risk from the utility to ratepayers:  Economic risk: recession may cause customers to use less energy, which decreases the current bill but increases future rates.  Price risk: high commodity prices may cause customers to use less energy.  In an RPCD, these risk shifts can only occur when economic conditions and/or prices affect use per customer (UPC).

July Decoupling and Risk Shifting: Economic and Price Risk (2)  In each study, I conducted a statistical analysis of UPC as a function of:  Weather  Economic conditions  Price  Time trend  Findings:  Very strong relationship between UPC and weather across all utilities and customer groups.  Very limited evidence of price response.  Somewhat limited evidence of a relationship between UPC and economic conditions. – Stronger for commercial than residential customers. – Stronger in PGE study, which contained much more severe recession than other studies.

July Decoupling and Risk Shifting: Conclusions  Argument that decoupling shifts risk from utilities to ratepayers may be exaggerated.  Doesn’t occur for weather.  Limited evidence of shifting price risk.  Some evidence of shifting economic risk. – Could be mitigated by capping decoupling adjustments.

July Decoupling and Risk: Reduce Allowed ROE?  In the PGE study, we conducted a statistical analysis of the effect of decoupling on the variability of utility returns.  Used FERC Form 1 data from 1993 through 2011 for 44 utilities.  Approximated utility rate of return as annual operating income divided by book assets.  Calculated the 3-year standard deviations of this measure as the dependent variable (also examined 5-year SDs).

July Decoupling and Risk: Reduce Allowed ROE? (2)  Estimated a panel regression model to determine whether decoupling is associated with less variable returns.  Did not find any statistically significant effects.  Caveats:  Did not distinguish types of decoupling mechanisms.  Relatively short time period, many decoupled utilities did not have it in place for very long.  Effect may be small compared to “noise” in the data.

July Decoupling and Risk: Utility Credit Reports  Also examined PGE credit reports.  Mostly favorable toward decoupling, but effects are limited.  Does not cover all customers.  Not as important as the fuel cost adjustment mechanism approved shortly before decoupling.  Appears to have contributed to improved credit rating.

July Effect of Decoupling on Utility Behavior

July Changes in Behavior: Employee Messaging  NJ Natural and SJ Gas trained all employees on how CIP changed corporate incentives.  Tent cards, posters, laminated cards, intra- office messages emphasizing change in incentives.  Description of CIP programs being introduced.  Expectation that all employees help spread conservation messages.  E-tips provided to employees before public.

July Changes in Behavior: Employee Incentives  NJ Natural and SJ Gas:  Replaced incentives based on burner tip counts with incentives based on enrolling new customers.  CSRs provided incentives for including CIP messaging in calls. – $50 drawings for 8% increasing to 15% – Changed union contract to include bonuses for 20%+  NW Natural had incentives based on conservation objectives, customer satisfaction, and cooperation with ETO.  PGE: no compensation changes reported.

July Changes in Behavior: Staffing  NW Natural reallocated staff away from sales positions and toward customer service (some of this was due to time study, the remainder could perhaps be attributed to decoupling).  PGE hired several employees to work on conservation and energy efficiency.

July Changes in Behavior: Home Analyzers  All utilities implemented on-line systems to allow customers to audit their usage.  Provides recommendations based on customer-specific circumstances.  Can serve as a referral mechanism to specific conservation programs.  Provides CSRs with a tool to help with high bill complaints. Helps the utility work with customers.

July Changes in Behavior: Customer Messaging  NJNG:  Prior to CIP, 75% of articles in NJ Living Times devoted to load growth (gas grills, patio heaters, gas fireplaces).  After CIP, 0%.  SJG:  When working with potential conversion customers, previously provided materials on gas fireplaces, snow melt systems, patio heaters, gas grills, garage heaters, gas lighting, pool and spa heaters.  Stopped that practice once CIP was implemented.

July Changes in Behavior: Customer Messaging (2)  NW Natural shifted from promotional advertising toward conservation messaging.  NJNG field staff  Carried larger pads with conservation tips to distribute, but often left in the truck due to size.  Feedback from field staff led to smaller materials and door hangers being provided.

July Changes in Behavior: Customer Messaging (3)  NJNG has a difficult mass media market in which to operate, so they focused on grass roots efforts.  Community Rewards: $5 to the school for every referral to the Conserve to Preserve Dashboard (very cost effective compared to mass mailers).  Outreach to realtors to increase program awareness.

July Changes in Behavior: Customer Messaging (4)  SJG used more mass media than NJNG.  CEO message: “Your partner in energy efficiency, comfort, and savings.”  CEO emphasized that decoupling is important to larger corporate mission, as unregulated divisions sell energy-efficient technologies.

July Changes in Behavior: Home Analyzers, Effects

July Changes in Behavior: High Efficiency Furnace (HEF) Programs  NW Natural:  Improved program by working more directly with distributors.  Interviews with distributors indicated increased sales of HEF to NW Natural customers compared to customers of other utilities.  New Jersey:  Emphasized HEF for new conversions.  Pre-CIP HEF rates = 30 to 35%  Post-CIP = 50%

July Changes in Behavior: Third-Party Provider of EE  Oregon has a third-party provider of energy efficiency programs, the Energy Trust of Oregon (ETO).  I interviewed the Executive Director of the ETO (Margie Harris) as part of both the NW Natural and PGE evaluations.  She conveyed the importance of utility cooperation in meeting ETO objectives.  She was not opposed to decoupling, but could not say definitively whether it affected utility behavior regarding conservation (relative to other factors such as legislation or least-cost planning as part of the IRP).

July Effect of Decoupling on Customer Satisfaction

July Effect on Customer Satisfaction: NW Natural  No complaints regarding DMN registered with OPUC (DMN deferrals are not itemized on the bill).  Internal customer service ratings were quite stable before and after DMN.

July Effect on Customer Satisfaction: NW Natural JD Power Rank Among 55 Utilities Question Ability of utility to help reduce bill2614 Familiarity w/ programs to help use less gas 66 Overall customer satisfaction index109 Customer service index45

July Effect on Customer Satisfaction: New Jersey  President of the New Jersey Board of Public Utilities Jeanne M. Fox: “I believe that the high level of customer satisfaction for South Jersey Gas and New Jersey Natural Gas is largely attributable to their respective customer incentive programs.”

July Effect on Customer Satisfaction: PGE, Customer Complaints  Three complaints registered with OPUC:  Don’t want to pay for energy they don’t use.  Unethical to charge customers for conservation given PGE’s corporate waste.  A clarification of the program, not a complaint.

July Effect on Customer Satisfaction: PGE, JD Power Survey

July Other Effects of Decoupling?  No evidence of reduced service quality (i.e., outages).  Possible distributional effects.  Customers who do not conserve may experience bill increases.  Small effect with decoupling compared to Straight Fixed Variable rates.  Not quantified in the evaluations.

July Questions?  If you have questions, please contact Dan Hansen at