| Individual Customer Profitability The Prime Group has developed techniques for calculating the individual profitability of every customer that a utility serves, even customers who are not demand metered. Individual customer profitability analysis picks up where cost of service leaves off and allocates costs down to the individual customer level using the same cost of service principles that are widely accepted in the utility industry. Combined with the revenue received from each customer, it is possible to calculate the margin and the rate of return received from each customer. The results of this analysis have been surprising for many utilities. It is often assumed that if a class of customers has a given rate of return, say 8%, then all of the customers in the class are contributing equally and have the same 8% rate of return. Our analysis shows that nothing could be further from the truth. The rate of return on individual customers in residential classes frequently ranges from -10% on the low end to about 30% on the high end. For commercial and industrial customers the range is usually even wider, typically ranging from a low of 20% to a high of 50% or more. These differences in rates of return among customers within a class usually result from rates that do not accurately reflect cost causation. Thus, individual customer profitability data can be used to illustrate the impacts of rates that do not accurately reflect cost causation to decision makers, such as utility regulators, cooperative boards of directors and city councils. Until rate design is adjusted to better reflect cost causation, the individual customer profitability data also provides information that is useful in targeting a utility's marketing efforts. Marketing staffs of utilities need to focus on customers with high rates of return and work on customer retention efforts with these customers. They also need to focus on customers with negative rates of return and work on improving the profitability of these customers with negative margins. The customer profitability data can also be used to segment customer classes with respect to profitability and provide a solid, defensible basis for market segmentation. With advanced meter-reading equipment in place, The Prime Group’s profitability studies will provide extremely accurate assessments of individual customer profitability. Even without data obtained from advanced meter-reading equipment, our clients have found our profitability studies to be invaluable for demonstrating the need to move utility service rates in the direction of cost of service and for identifying the utility’s most profitable and least profitable customers. Increased input prices have made it necessary for electric, gas and water utilities to consider rate increases in order to protect their financial integrity. No one benefits from a financially weak utility. The Prime Group can assist utilities with these initiatives. Marty Blake and Steve Seelye have years of experience testifying before regulatory commissions in support of proposed rate structures, cost of service studies, revenue requirements, cost of capital, lead/lag studies and depreciation studies. |
2007 Electric Cooperative Rate Workshop The Prime Group will be hosting the 4th Annual Electric Cooperative Rate Workshop in Louisville, Kentucky on September 25 and 26, 2007. The reason that we host these conferences is to help create a community of cooperative managers and staff members who can get together once a year to discuss rate and other issues that have broad relevance to the industry. The conference is friendly and informal with ample opportunity for discussion regarding issues that cooperatives face on a day-to-day basis. The topics to be covered at the Rate Workshop will include:
Please contact Eric Blake at (502) 241-4405 for information about this year's conference or to communicate ideas about topics that should be covered at the next conference. We are also interested in getting your input about possible speakers from the cooperative community for the 2008 Electric Cooperative Rate Conference. Your comments about the rate conference are always welcome. For information and slides from last year's Electric Cooperative Rate Conference click on the following: 2006 Electric Cooperative Rate Workshop |
| Impact of Higher Interest Rates In its statement issued August 7, 2007, the Federal Reserve indicated that it would maintain the benchmark U.S. interest rate at 5.25%. Inflation continues to be a major concern of the Fed. The 10-year Treasury note has been trending up over the past twelve months. Because electric, gas and water utilities still represent the most capital intensive industries and because many utilities are currently adding large capital projects, higher interest rates could have a significant impact on earnings. The Prime Group can assist utilities in recovering increased expenses and in developing and justifying rate designs that help stabilize earnings and reduce bill volatility for customers. We can also provide expert testimony in support of the utility's proposed rate of return in rate case proceedings. Dr. Martin J. Blake frequently testifies before state and federal regulatory commissions in support of his analysis of utility cost of equity. His recent cost of capital analysis (in KYPSC Case No. 2007-00089) included a conversion for applying the return on equity estimates developed using a discounted cash flow (DCF) analysis based on market values to the book-value rate base commonly used in regulatory proceedings. It also inlcuded a rationale and methodology for using a non-utility panel for estimating the cost of money.
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Does your utility fully recover the cost of adding a new customer? We have found that inadequate line extension policies harm utility financial performance, create pressure for rate increases, and result in new customers being subsidized by existing customers. Good line extension policies are a challenge because they require a balance between the interests of new customers and those of existing customers. If the credit allowed for a line extension to a new customer is too high, the new customer receives a subsidy that paid by existing customers. If the credit allowed for a line extension to a new customer is too low, it is the new customer who is paying more than his fair share of the utilities costs. A line extension policy can be stated as a flat dollar amount, stated in terms of feet of line that are provided for free by the utility or stated in terms of a multiple of net revenue that the utility expects to receive from the new customer. We have extensive experience in discussing the different approaches with decision makers and in helping them to select the approaches that make the most sense for their particular application. In developing line and facilities extension policies, it is important to balance the interests of new and existing customers an to ensure economic development is not deterred. |
| Trackers and Cost Recovery Mechanisms There are three criteria that should be met for a cost to be considered for recovery through a tracking mechanism outside of a general rate case. The three criteria are: 1) volatility as to amount, 2) volatility with regard to timing, and 3) the cost is outside of the utility’s control. Increases in the cost of natural gas, coal and fuel oil, along with increased price volatility for these commodities, make it essential for utilities to develop efficient mechanisms for recovering changes in these costs outside of a general rate case. The cost of purchased power reflects this fuel price volatility, especially in the newly developed RTO energy markets, and is also a good candidate for recovery through a tracking mechanism. The cost of complying with changing environmental requirements and the administrative costs and cost of transmission in an RTO environment are other good examples of costs where a tracker could be effectively used. As an example, prior to the evolution of RTO energy markets, wholesale power was sold on a bundled basis that included both the cost of generation and the cost of transmission. However, in an RTO energy market, the cost of energy is unbundled from the cost of transmission. This can be problematic if customers receive the benefit of lower energy prices immediately through purchased power adjustment clauses while the utility is stuck with the transmission costs for recovery in a general rate case at a later time. A transmission cost tracker would assure that both the benefit of a lower energy price and the transmission costs necessary to achieve this benefit are both flowed through to customers on a timely basis. The Prime Group has assisted many utilities in developing purchased power adjustment clauses, fuel adjustment clauses, gas cost adjustments, environmental cost recovery mechanisms, performance-based rates, transmission cost trackers and rate incentive mechanisms.
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Section 1251 of the Energy Policy Act of 2005 requires each electric utility with sales greater than 500 million kWh to make net metering service available upon request to any electric customer that the electric utility serves. Net metering allows customers to use their own generation to offset their consumption over a billing period by allowing their electric meters to turn backwards when customers generate electricity in excess of their demand. This arrangement effectively compensates the customer at the utility’s full retail rate for the excess electric energy that the customer generates and represents a significant subsidy to customers for the excess energy that they generate. Electric service provided by utilities is composed of three major elements: 1) generation, 2) transmission and 3) distribution facilities. Generation facilities generate electric energy from fuel. Transmission facilities transmit electric energy at high voltages from where it is generated to local distribution systems. Distribution facilities are composed of the distribution substations, poles, wires, transformers, service drops, and meters necessary to take electric energy from the transmission lines and deliver it to customers. When a customer purchases electric energy from a utility, it is receiving the use of all three types of facilities, and the cost of these facilities is reflected in the retail rate. When the customer sells excess generation to the utility, the customer can only sell and properly charge for generation, as the customer does not own transmission and distribution assets. Thus, a net metering arrangement that pays customers at full retail rates for the excess energy that they generate represents a significant subsidy. The Prime Group can provide assistance in developing net metering programs that ensure that this subsidy will not adversely impact the utility’s financial performance. |
| Regional Transmission Organizations Marty Blake recently testified on behalf of the transmission owners of the Midwest Independent System Operators ("MISO") before the Federal Energy Regulatory Commission. His testimony addressed the long-term transmission pricing initiative between MISO and PJM. |
The Prime Group LLC
The Prime Group is committed to providing our electric, gas and water utility clients with leading-edge support in the areas of pricing, cost of service studies, customer profitability, financial forecasting, economic analysis, marketing, strategic planning, regulatory support and training that are essential for competitive survival and sustained success.
We have helped electric, gas and water utilities all over the United States and Canada achieve their financial and marketing objectives. Our utility rate consultants have testified before the Federal Energy Regulatory Commission (FERC) and numerous state regulatory commissions. We have submitted expert testimony regarding rate design, cost of service studies, revenue requirements, return on equity, depreciation studies, prudence investigations, territory disputes, affiliate transactions, market power studies, open access transmission tariffs, and reactive power services.
We offer personalized service. The Prime Group expert working on your project will have years of experience and will be a recognized expert in the industry. We will not turn your project over to a junior associate. Additionally, it is our policy to provide our clients with the software that we use to perform the studies. Providing the software to clients allows them to get maximum benefit out of the work product and gives them the ability to perform their own scenario analysis. It also makes it easier for clients to comply with the regulatory requirement in many states to provide softwate and analysis to intervenors.
The Prime Group takes great pride in being easy to work with while providing consulting support that is unsurpassed in the industry. We tailor our models to meet your needs rather than force your needs to meet the requirements of a standard, off the shelf model. We don’t try to be everything to everybody. We stick closely to what we are good at – performing cost of service studies, designing rates, preparing economic evaluations, performing depreciation studies, and addressing complex regulatory issues.
