9. Assignment of Proceeding

John A. Bohn is the assigned Commissioner and Thomas R. Pulsifer is the assigned ALJ.

1. Financial hedging is a form of price insurance that, when managed properly, can provide a degree of protection to core customers from excessive natural gas price volatility.

2. By moderating the volatility in gas prices, financial hedging can help promote the goal of reliable gas supplies at a reasonable cost, consistent with the Commission's Energy Action Plan.

3. Managing a successful hedging strategy for the benefit of core customers is a complex undertaking. Insufficient hedging may expose customers to risks of price spikes, whereas excessive hedging may not be cost-effective relative to any perceived benefits realized.

4. Rather than a Commission-mandated program for hedging, the most effective regulatory treatment of hedging is to leave hedging strategies to the expertise of the utility, but also incorporate a system of incentives to hold the utility financially accountable for its decisions.

5. The extent to which a hedging program should be implemented depends, in part, on core customer risk preferences, and the cost and terms of hedges in relation to the degree of price volatility protection desired by customers.

6. Parties did not provide empirical evidence in this proceeding to quantify core customers' risk preferences in relation to the cost of hedging.

7. Prior to 2005, utility costs and offsetting benefits from financial hedges were shared between customers and investors, along with commodity costs, as part of the utility gas procurement incentive mechanism.

8. Beginning in 2005, the gas utilities substantially increased their use of hedging in response to severe natural gas supply disruptions which had a major adverse impact on natural gas markets, contributing to significant volatility in the price of natural gas.

9. The Commission adopted modifications to the utilities' gas cost incentive mechanisms beginning in 2005, to exclude all losses and gains relating to winter hedging, in order to encourage a significant expansion in the utilities' winter-season hedging compared with prior years. Consequently, core customers were assigned 100% of both the risks and payouts associated with winter hedges.

10. By assigning all risks and benefits of winter hedging to core customers, the Commission sought to eliminate disincentives for the utility to hedge in view of investor risk. Insufficient hedging could leave core customers unprotected against potential price spikes.

11. The Commission has continued to exclude all winter hedging costs and payouts from the utility gas cost procurement incentive mechanisms, recognizing that the merits of continuing such treatment as a policy matter would be examined in this rulemaking.

12. With all costs and benefits of hedging excluded from the gas cost incentive mechanisms, the utility receives no financial reward for superior performance of its hedge program, and incurs no financial loss as a result of ineffective management of its hedge program.

13. Insulating utility investors from all risks of winter hedging programs without accountability does not promote the proper incentives for vigorous and innovative management of hedging.

14. The goal of hedging is to limit the volatility of wholesale gas cost procured by the utility, which is different than the goal of minimizing overall gas commodity costs. These goals are complimentary, and can be harmonized over time to seek to minimize overall gas costs consistent with properly defined customer risk preferences.

15. Although the results of hedging are to a significant extent, outside of utility management control, the utility can control certain aspects of its hedging strategy, such as assessing overall risk preferences, selecting appropriate hedging instruments, integrating hedging with other means of mitigating risk, and adjusting its hedging positions in response to changing conditions.

16. To the extent that hedging results are partially within management control, the sharing of risks and rewards from hedging can help to enhance the utility's motivation to manage its hedging program in a cost-effective manner.

17. The potential complexity involved in the proper design, tracking, and verification of a separate index mechanism outweighs any advantages in improving the utility's hedging performance. For the Commission to engage in the sort of detailed oversight entailed in designing and monitoring such a mechanism would not be an efficient use of resources.

18. PG&E entered into a Settlement Agreement with DRA and TURN, with the provisions incorporated in Appendix A of this decision. The Settlement would place a portion of hedging transactions at risk through inclusion in the CPIM, with the remaining hedging costs or gains assigned to core customers.

19. The Settlement Agreement maintains the integrity of the CPIM while providing an incentive to minimize costs.

20. The Settlement is reasonable in light of the record as a whole, resulting in an outcome that holds the utility financially responsible for the consequences of its hedging activities, but limits the extent of investor risk exposure.

1. The Proposed Settlement entered into by PG&E, DRA, and TURN is reasonable in light of the whole record, consistent with the law, and in the public interest.

2. The Settlement is consistent with the relevant goals, constraints, and considerations that guide Commission policies relating to cost recovery and incentive treatment for hedging.

3. Although the Proposed Settlement was contested, no objections were raised which justify a denial of the settlement.

4. The sharing of hedging gains and losses as proposed in the PG&E Settlement provides a reasonable balance between the goals of holding the utility financially responsible for its hedging activities while limiting potential investor risks to avoid creating a disincentive to hedge at levels appropriate to protect ratepayers.

5. The utility should not be placed in a position where the purchasing of hedging instruments to protect core customers could result in large financial penalties for utility shareholders. Correspondingly, the utility should not be insulated from all financial consequences of its hedging program.

6. Since the Proposed Settlement only applies to PG&E, the Settlement does not provide a basis for adopting conditions on the treatment of hedging costs for any other utility.

7. The record in the proceeding, apart from the Settlement, supports certain common principles that apply to SoCalGas as well as to PG&E, and similar general considerations apply to both PG&E and SoCalGas with respect to incentives for hedging.

8. The record in this proceeding supports holding SoCalGas/SDG&E financially responsible for some share of winter hedging transactions while placing reasonable limits on the maximum risk exposure.

9. Placing SoCalGas/SDG&E at risk by inclusion of 25% of all winter hedging transactions within the GCIM would provide an incentive to manage hedging in a cost-effective manner, while avoiding excessive investor risks that could otherwise create a disincentive to hedge at an appropriate level.

10. The existing SWG incentive program does not warrant any change at this time since the SWG's GCIM is relatively new, and SWG currently only utilizes long-term contracts to mitigate price swings. A change in the incentive risk sharing percentage would not have a significant effect on SWG current practices to manage price risk.

11. The concept of an optional fixed price tariff raises more questions than it resolves, and the potential difficulties with implementing such an option outweigh its potential advantages.

12. The new provisions for the treatment of hedging transactions adopted in this decision shall take effect immediately.

ORDER

IT IS ORDERED that:

1. The Proposed Settlement, incorporated as set forth in Appendix A of this decision, is hereby approved. The motion to file under seal the confidential version of the Proposed Settlement is granted. The provisions of the Settlement shall apply solely to Pacific Gas and Electric Company.

2. Pacific Gas and Electric Company shall modify its treatment of net realized gains and losses in accordance with the provisions of the adopted Settlement.

3. The requirement for Pacific Gas and Electric Company to seek formal Commission authority for annual hedge plans is discontinued, but Pacific Gas and Electric Company shall continue to apprise the Division of Ratepayer Advocates and The Utility Reform Network of its hedge plans in accordance with Section C.3 of the Settlement.

4. The treatment of the net hedging gains, losses, and benefits attributable to the Southern California Gas Company/San Diego Gas & Electric Company winter hedging program is hereby modified as follows: A ratio of 25% of all winter hedging net gains and losses attributable to that winter hedging program shall be included within the Gas Cost Incentive Mechanism. The remaining 75% of winter hedging gains and losses attributable to the winter hedging program shall be directly allocated to core customers. The remaining structure of the Gas Cost Incentive Mechanism will continue in place.

5. Southern California Gas Company/San Diego Gas & Electric Company will no longer be required to seek formal Commission approval of annual hedge plans, but must continue to follow existing requirements to apprise Division of Ratepayer Advocates, The Utility Reform Network, and the Energy Division of its hedging activities.

6. All future winter hedging transactions executed by Southern California Gas Company/San Diego Gas & Electric Company shall be subject to Division of Ratepayer Advocates monitoring and review within the Gas Cost Incentive Mechanism through the same process applied to other transactions under the Gas Cost Incentive Mechanism, consistent with existing Division of Ratepayer Advocate audit and report procedures. Southern California Gas Company shall cooperate fully with the Division of Ratepayer Advocate's review process.

7. No change shall be made in the existing treatment of the Southwest Gas Corporation program to control the volatility of natural gas costs.

8. The proposals of Shell Energy North America for modifications in the program for natural gas hedging shall not be adopted.

9. Rulemaking 08-06-025 is closed.

This order is effective today.

Dated January 21, 2010, in San Francisco, California.

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