Gordon Kaiser, an energy Arbitrator and Counsel, and former Vice Chair of the Ontario Energy Board, began his presentation to the APPrO 2015 conference with a provocative premise: Stranded asset costs and customer generation are the new reality for Ontario electricity distributors. He noted that when addressing these topics, key considerations relate to the impact of technological and regulatory change on the electricity sector. Mr. Kaiser believes Ontario’s electricity distributors need to prepare for considerable change and likely disruption in the coming years.
Mr. Kaiser highlighted a number of indicative legal precedents in the area of stranded asset costs. In 2006, the Supreme Court of Canada ruled that ATCO Gas’s shareholders were entitled to 100% of the profits from the sale of an unused building located in downtown Calgary. Originally, the Alberta Energy and Utilities Board (now the Alberta Utilities Commission) ruled the profits must be equally divided between shareholders and ratepayers. ATCO’s appeal of the Alberta Energy and Utilities Board decision eventually led to the Supreme Court ruling.
This ruling confirmed that utility shareholders can expect to receive the full benefit of assets sales. It also confirmed that utility shareholders should expect to be exposed to the full value of losses on asset values.
The Alberta Court of Appeal rendered the following opinion: “as a property owner, the utility can expect compensation from customers in respect of its assets only for so long as they are used and usable. Accordingly, the assets that are stranded by virtue of extraordinary retirements must be removed from the rate base regardless of whether they’ve been fully depreciated.”
The Alberta Utilities Commission declared “The commission has no jurisdiction to include in rate base assets which were not being used or required to be used in providing service to the public. The commission has a responsibility to determine that the rate base including the assets are still relevant and if they’re not they should be removed.”
In another relevant case, TransCanada PipeLines requested permission to write off under-used assets and charge the cost to ratepayers. In 2013 the National Energy Board decided the loss of asset value was the result of normal business risk for which the utility has always received a premium on their rate of return and that therefore the loss was solely the shareholders’ responsibility.
Mr. Kaiser believes these and other decisions have huge implications for electricity distributors. New technologies will likely cause distributor assets to be retired before they have been fully depreciated. According to the above decisions, utility shareholders would be on the hook for the losses associated with these stranded assets.
Mr. Kaiser sees distributed generation as the most likely cause of new stranded assets in the near term. Larger scale consumers like hospitals, universities, and communities will begin to build their own generation, reducing the demand for distribution services. Mr. Kaiser cites natural gas fired combined heat and power (CHP) as a particularly compelling technology, especially since natural gas price forecasts are stable in the short term while the price of electricity is expected to rise.
Mr. Kaiser also believes forthcoming regulatory changes will affect the range of players competing in conventional energy sector business areas. He noted that on October 23rd, the California Public Utility Commission decided Southern California Gas Company (SoCal Gas) could receive a tariff to provide CHP services to specific customers on or near their premises. These assets could be added to their rate base. The decision was made to support the development of CHP assets under 20MW. Mr. Kaiser foresees gas companies as one of the new entrants into future distributed generation markets.
“Major disruption is coming and there will be a lot of stranded assets,” he says. “Who picks up the pieces?” There are big choices to face. To what extent should shareholders take hits to their asset bases, and to what extent should government agree to socialize transition costs? “The battle over rate design questions could be very unpopular.”
Utilities will react to the new circumstances, Mr. Kaiser suggested. They will adjust their business plans to take account of court decisions like these. Observers may look forward to regulatory applications to raise the approved ROE based on growing industry risk and increased depreciation rates based on shorter asset lives.
Mr. Kaiser concluded his presentation by offering the following predictions:
1. By 2020, 20% of electricity in Toronto will be locally generated and distributed
2. By 2020, stranded assets will equal 20% of rate base
3. By 2020, LDCs will be unable to directly or indirectly pass the cost of stranded assets on to ratepayers
4. Electricity LDCs will actively seek new growth markets to preserve revenue and customer-specific generation will offer the most promise
5. Customers will move to new lower cost local generation with or without assistance from their local LDC or regulator
6. Local generation will become a highly competitive market and will include incumbent electric LDCs and gas LDCs
7. Cogeneration systems will migrate from customer premises to communities of interest with hospitals and universities acting as prime movers.
Clearly, the prospects for a significantly changed electricity system in the near future are very real.
For more information, readers may wish to review Mr. Kaiser’s full paper “Stranded Asset Costs and Customer Generation: The New Reality for Canadian Electric Distributors,” available from APPrO.
Mr Kaiser’s profile is available at www.gordonkaiser.ca.
See also the following related story:
New technology facing multiple challenges: The regulatory response to disruption risk