1. Natural Gas Utility Distribution Pipeline Infrastructure Replacement Programs R ATE R ECOVERY I SSUES NASUCA Mid-Year Meeting Charlestown, South Carolina Prepared by:Alexander J. CochisPresented to: June 2012

2. Capital Expenditures and Cost Recovery  Base rate recovery using a representative test year: the old fashioned way –Depreciation Expense –Revenue from load growth –Regulatory lag »Administratively efficient »Unobtrusive to management (can plan on) –Prudence can be reviewed in rate case –Used and useful standard protected public 2

3. Recovery Under Cost Trackers  Theoretical Rationale for Cost pass-throughs –Objective costs »External to the Company –Volatile in nature –Material to financial operation –Improves administrative efficiency by avoiding rate cases  Fuel supply costs the classic example –Around for decades 3

4. Cap-X Cost Recovery Under Trackers  Distribution System Capital costs –Costs somewhat subjective »Most or all reflect utility or affiliate costs –These investments are well planned over five or ten year horizons –Material costs in capital intensive industry –Administratively cumbersome »Annual filings or true-ups can be like a mini-rate case 4

5. So why use Cap-X Trackers now?  Public Policy Shift –Decoupling to promote energy efficiency »Offset to diverted load growth revenues once used to help fund Cap-X  Better access to capital for shareholders –(Are benefits passed through to customers?)  Legislation and Reliability Concerns –“Aging” infrastructure plans 5

6. Crucial Terms  Incremental cost identification –Interaction between base rates and capital tracker »Activities (costs) reflected in Base rates must not be also collected in the Cap-X tracker; »Capitalized labor particularly an issue –Does each Cap-X activity have a cost consequence? »I. e., just because an employee worked on a project, does that mean overall labor costs went up? »Unlikely that existing utility work-force 100% utilized –Does Cap-X formula allow “adders” that may not be incremental costs? 6

7. The Company’s Relationship to the Cap-X program  Program acts like an unregulated affiliate within the Company –Company “charges” the program like a lawyer might charge a client –But arrangement lacks service company cost allocation protections » Service companies total costs divided among participants on some basis; »Service company costs can be tested –Costs can be collected more than once if not thoroughly reviewed 7

8. The Example of Capitalized Labor Test YearRate Year without Cap-X tracker Rate Year with Base Rate and Cap-X tracker Capitalized Labor8090 Expensed Labor201020 Total100 110 8 ► Total labor expense the same in test year and rate year but the capitalized ratio changes due to increased Cap-X activity ► Base rates do not reconcile to reflect the reduction in expensed labor ► Capitalized Labor increase passed on through the rate mechanism

9. Up-Rating  Cap-X programs increase system capacity under guise of “replacing” aging facilities –Different from “Like-for-like” replacement –Is the program replacing plant or adding capacity?  Cap-X tracker cost recovery usually designed for “Non- revenue generating plant” –Is the plant Used and useful? –Should some plant be called “plant held for future use”?  Balance between customers and shareholders –Inefficient to require near term replacement of pipe for reasonably forecasted growth 9

10. Cost of Capital  Better Risk Profile for Company with More Assured Recovery –Cost preapproval of Cap-X plan reduces utility risk –What is the realistic chance of a denial of installed projects? –Reduced regulatory lag  Project financing benefits –Will the Company get better financing with a Cap-X tracker cost recovery mechanism ? –Benefits passed on to customers? –Reductions to cost of capital could be reflected in rate case, but Cap-X trackers reduce frequency of rate cases 10

11. End of Presentation    End of Presentation    La Capra Associates One Washington Mall, 9 th Floor Boston, MA 02108 617.778.2590 www.lacapra.com Contact Information: 11