10. Assignment of Proceeding
John A. Bohn is the assigned Commissioner and Michael J. Galvin is the assigned ALJ in this proceeding.
1. Applicants are public utilities subject to the jurisdiction of this Commission.
2. SCE seeks to increase its test year 2008 ROE to 11.80% from 11.60%.
3. SDG&E seeks to increase its test year 2008 ROE to 11.60% from 10.70%.
4. PG&E seeks to increase its test year 2008 ROE to 11.70% from 11.35%.
5. SCE, SDG&E and PG&E's applications were consolidated pursuant to Rule 7.4.
6. SCE, SDG&E and PG&E propose no change to their currently authorized capital structures.
7. On September, 13, 2007, SCE, SDG&E and PG&E submitted late-filed Exhibits 64, 65, and 66 respectively, to reflect the most recent Global Insight forecasted interest rates.
8. There is no opposition to SCE, SDG&E, or PG&E's long-term debt or preferred stock costs.
9. An ROE is set at a level of return commensurate with market returns on investments having corresponding risks, and adequate to enable a utility to attract investors to finance the replacement and expansion of a utility's facilities to fulfill its public utility obligation.
10. The parties used CAPM, DCF and HRP financial models to support their respective ROE recommendations.
11. SCE and SDG&E also used a Fama French financial model to support their respective ROE recommendations.
12. SCE, SDG&E and PG&E used electric utility industry group lists from Value Line to establish proxy groups to be used in their financial models.
13. SCE, SDG&E and PG&E screened the companies in their proxy groups.
14. DRA accepted the utilities proxy groups and screens for use in its financial models.
15. FEA accepted the utilities proxy groups and screens.
16. FEA applied an additional screen that excluded companies having less than 70% of revenues from electric utility operations.
17. ATU used a single proxy group consisting of 82 companies from Value Line electric, combination and natural gas distribution utilities. They did not use any screens.
18. ATU used a different set of companies from their proxy group for use in the different financial models.
19. ATU's proxy group included approximately seven companies that did not have investment credit ratings.
20. PG&E utilized two proxy groups in its financial models, one consisting of utility companies and the other consisting of non-utility companies.
21. Long-term treasury rates were used for the risk-free rate component of the CAPM model.
22. The Fama French model is a three factor model designed to reward investors for a market factor (Beta coefficient), exposure to a size risk and exposure to a value risk.
23. Financial risk is tied to the utility's capital structure.
24. Debt equivalence has been reflected in the utilities' credit ratings since at least 1990.
25. None of the utilities proposed a major change in their capital structures.
26. Business risk pertains to uncertainties resulting from competition and the economy.
27. SDG&E seeks an ROE on its minority investment in SONGS that is equal to the company-wide ROE of SCE.
28. SDG&E's current investment in SONGS is less than $50 million and almost fully depreciated.
29. The SGRPs involving SONGS 2 and 3 are not expected to be completed and placed into rate base until 2010 and 2010 to 2011, respectively.
30. SDG&E will earn an interest allowance for its investment used during the SONGS SGRP construction.
31. SDG&E seeks an automatic equity rebalancing mechanism retroactive to May 8, 2007 to mitigate its perceived adverse effect of debt equivalence and to mitigate any credit impacts of VIEs.
32. Debt equivalence and FIN 46 costs are economic costs.
33. SDG&E doesn't know what is going to degrade and what condition is ultimately going to put the company in a position where its credit gets downgraded.
34. Approximately 60% of the utilities in SDG&E's proxy group have a lower medium grade credit rating of BBB compared to SDG&E's upper medium grade credit rating of A.
35. Ten percent of the utilities in SDG&E's proxy group have an investment grade credit rating of BBB-, only one notch above the lowest investment grade credit rating.
36. Pension fund returns are related to the market value of assets held in the pension fund while a utility's ROE is applied to a book value rate base.
37. SCE has an investment grade rating of BBB+ from S&P.
38. SDG&E has an investment grade rating of A from S&P.
39. PG&E has an investment grade rating of BBB+ from S&P.
40. Quantitative financial models are commonly used as a starting point to estimate a fair ROE.
41. Two important components of the Hope and Bluefield decisions are that the utilities have the ability to attract capital to raise money for the proper discharge of their public utility duties and to maintain creditworthiness.
42. The September 2007 AA utility bond interest rate forecast for test year 2008 is 6.15%, an eight basis point reduction in interest rate from the April 2007 forecast of 6.23% used by the utilities.
43. Rule 13.1 requires energy companies to give notice of a hearing, not less than five nor more than 30 days before the date of the hearing, to entities or persons who may be affected thereby, by posting notice in public places and by publishing notice in a newspaper or newspapers of general circulation in the area or areas concerned, of the time, date, and place of hearing.
44. SDG&E published its hearing notice required by Rule 13.1 on August 31, 2007, eight days after the August 23, 2007 compliance date and three days after the date its policy witness testified.
1. The consolidation of these applications does not mean that a uniform ROE should be applied to each of the utilities.
2. The legal standard for setting the fair ROE has been established by the United States Supreme Court in the Bluefield and Hope cases.
3. The capital structures proposed by SCE, SDG&E and PG&E should be adopted because they are balanced, attainable, and intended to maintain an investment grade rating and attract capital.
4. Companies selected for a proxy group should have basic characteristics similar to the utility that the companies are selected to proxy.
5. Companies within a proxy group should not deviate from financial model to financial model.
6. The reasonableness of ATU financial model results can not be determined.
7. The financial model results of ATU should be given minimal weight in this proceeding.
8. PG&E has not substantiated that investment risks of its proxy group of non-utility companies is comparable to its proxy group of utility companies or to PG&E.
9. The financial model results from PG&E's proxy group of non-utility companies should not be considered in this proceeding.
10. Value Line electric industry classifications should continue to be used in ROE proceedings where financial models require the use of a proxy group.
11. Companies within a proxy group should be screened to ensure that the included companies have investment grade credit ratings, a history of paying dividends and are not undergoing a restructure or merger.
12. Financial models are dependent on subjective inputs.
13. CAPM risk-free rates should be uniform and based on a simple average of Global Insight's test year forecasted 10-year and 30-year treasury rates.
14. HRP rates should be uniform and based on Global Insight's test year forecast of long-term bond rates.
15. Absent evidence justifying the use of either treasury or utility bonds over the other in the HRP, adjusted utility bond results should be used in considering a reasonable ROE range for SCE, SDG&E and PG&E.
16. Results of the Fama French model continue to appear unrealistically high in comparison to other financial model results.
17. Although the quantitative financial models are objective, the results are dependent on subjective inputs.
18. It is the application of informed judgment, not the precision of quantitative financial models, which is the key to selecting a specific ROE.
19. There is insufficient evidence to substantiate that the additional subjective factors in a Fama French model are relevant to California regulatory companies.
20. There should be no reliance on Fama French results in this proceeding.
21. Company-wide factors such as risks, capital structures, debt costs and credit ratings are considered in arriving at a fair ROE.
22. A 30 basis point downward adjustment to SDG&E's base ROE range should be made to offset its skewed financial model results that include more risky utilities.
23. SCE and PG&E's base ROE range should be increased by 50 basis points to reflect their additional business risks.
24. SDG&E's base ROE range should be increased by 10 basis points to reflect its additional business risks.
25. Investors' perceived California regulatory risk warrants a 10 basis point upward adjustment to the ROE ranges being approved.
26. SDG&E has not substantiated a need to set an ROE on its SONGS investment equal to that of the company-wide ROE of SCE.
27. The impact of SDG&E's debt equivalence and FIN 46 should be considered along with its other risks in arriving at a fair and reasonable ROE.
28. SDG&E's equity rebalancing mechanism should not be adopted.
29. Regulatory risk pertains to new risks that investors may face from future regulatory actions that we, and other regulatory agencies, may take.
30. The Employee Retirement Income Security Act dictates that pension funds must be diversified whereas a utility's ROE is based on risks specific to that utility's operations.
31. Pension fund equity return assumptions are not comparable to the ROE used in utility ratemaking.
32. The long-term debt and preferred stock costs being proposed by the utilities are consistent with the law, in the public interest, and should be adopted.
33. The latest available interest rate forecast should be used to determine embedded long-term debt and preferred stock costs in ROE proceedings.
34. A test year 2008 ROE range from 10.20% to 11.50% is just and reasonable for SCE.
35. A test year 2008 ROE range from 9.70% to 11.30% is just and reasonable for SDG&E.
36. A test year ROE range from 10.30% to 11.50% is just and reasonable for PG&E.
37. A test year 2008 ROE of 11.50% is just and reasonable for SCE.
38. A test year 2008 ROE of 11.10% is just and reasonable for SDG&E.
39. A test year 2006 ROE of 11.35% is just and reasonable for PG&E.
40. SDG&E did not comply with Rule 13.1.
41. The assigned ALJs should set a second phase of this proceeding to consider whether SDG&E should be subject to the monetary penalties set forth in Section 2107 of the Public Utilities Code for its violation of Rule 13.1.
42. The utilities' ROE applications should be granted to the extent provided for in the following order.
IT IS ORDERED that:
1. Southern California Edison Company's (SCE) cost of capital for its test year 2008 operations is as follows:
Capital Ratio |
Cost Factor |
Weighted Cost | |
Long-Term Debt |
43.00% |
6.22% |
2.68% |
Preferred Stock |
9.00 |
6.01 |
0.55 |
Common Stock |
48.00 |
11.50 |
5.52 |
Total |
100.00% |
8.75% |
2. San Diego Gas and Electric Company's (SDG&E) cost of capital for test year 2008 electric and gas operations is as follows:
Capital Ratio |
Cost Factor |
Weighted Cost | |
Long-Term Debt |
45.25% |
5.62% |
2.54 % |
Preferred Stock |
5.75 |
7.25 |
0.42 |
Common Stock |
49.00 |
11.10 |
5.44 |
Total |
100.00% |
8.40% |
3. Pacific Gas and Electric Company's (PG&E) cost of capital for its test year 2008 electric and gas operations is as follows:
Capital Ratio |
Cost Factor |
Weighted Cost | |
Long-Term Debt |
46.00% |
6.05% |
2.78% |
Preferred Stock |
2.00 |
5.68 |
0.11 |
Common Stock |
52.00 |
11.35 |
5.90 |
Total |
100.00% |
8.79% |
4. Value Line Investment Survey electric industry classification shall continue to be used in return on equity (ROE) proceedings where financial models require the use of a proxy group. Three basic screens shall be used in selecting a comparable proxy group. Those screens are to exclude companies that do not have investment grade credit ratings, exclude companies that do not have a history of paying dividends and exclude companies undergoing a restructure or merger. Additional screens may be used to the extent that justification is provided.
5. PG&E is not required to continue comparing its pension return assumptions to its ratemaking ROE in future ROE proceedings.
6. SCE, SDG&E and PG&E shall implement the revenue requirement changes authorized by this decision as set forth in Section 6 of this decision. Tariffs in those filings shall be subject to review by the Energy Division in accordance with General Order 96-B.
7. Application (A.) 07-05-003, A.07-05-007, and A.07-05-008 remain open to consider the adoption of a cost of capital mechanism to replace the utilities annual cost of capital applications.
8. The annual cost of capital applications scheduled to be filed on May 8, 2008 shall be deferred pending a final decision in this proceeding or further order of the Commission.
This order is effective today.
Dated December 20, 2007, at San Francisco, California.
MICHAEL R. PEEVEY
President
DIAN M. GRUENEICH
JOHN A. BOHN
RACHELLE B. CHONG
TIMOTHY ALAN SIMON
Commissioners
APPENDIX A
CREDIT RATIOS INCLUDING DEBT EQUIVALENCE
TEST YEAR 2008
CASH FLOW TIMES (x) INTEREST COVERAGE |
DEBT/ CAPITAL |
CASH FLOW/ DEBT | |
S&P Rating Benchmarks @ Business Profile 5 A Range BBB Range |
4.5 - 3.8 x 3.8 - 2.8 x |
42%-50% 50% - 60% |
30% - 22% 22% - 15% |
|
|||
SCE |
|||
@ Requested 11.80% ROE |
4.2x |
54.4% |
15.7% |
@ Current 11.60% ROE |
4.1x |
54.4% |
15.5% |
SDG&E |
|||
@ Requested 11.60% ROE |
4.6x |
56.3% |
20.8% |
@ Current 10.70% ROE |
4.5x |
56.5% |
20.4% |
PG&E |
|||
@ Requested 11.70% ROE |
5.6x |
53.8% |
22.1% |
@ Current 11.35% ROE |
5.6x |
53.9% |
21.9% |
Note: Bold Numbers are within S&P Business Position 5 guidelines for a BBB credit rating.
(END OF APPENDIX A)
