9. Standard Practice Manual-Related Anomalies
The Standard Practice Manual (SPM) contains the Commission's methodology for evaluating energy efficiency investments using various tests of cost-effectiveness.57 The policy rules adopted by D.05-04-051 (Rules) require that the energy efficiency portfolios as a whole pass both the total resource cost (TRC) test and the program administrator cost (PAC) tests of cost-effectiveness contained in the SPM. Individual program selections are also made by program administrators based on the results of these two cost-effectiveness tests, as well as other evaluation criteria. In addition, per D.05-04-051, the performance basis for the risk/reward incentive mechanism being developed in R.06-04-010 will be based on these two tests, for the majority of energy efficiency activities.
The Rules describe the TRC test as the measurement of net resource benefits from the perspective of all ratepayers produced "by combining the net benefits of the programs to participants and non-participants." The benefits are the costs of the supply-side resources avoided or deferred. The TRC costs encompass the costs of the measures/equipment installed and the costs incurred by the program administrator.58 Under the PAC test, the program benefits are the same as the TRC test, but costs are defined differently to include the costs incurred by the program administrator (including financial incentives or rebates paid to participants). The PAC test does not include the costs incurred by the participating customer.59
Three anomalies were identified in the E3 calculators used for the utility June 1, 2005 filings with respect to the SPM tests, as discussed further below.
9.1. Treatment of Load Increases
The SPM states that load increases should be treated as a cost in the calculation of the TRC and PAC net benefits (or benefit-cost ratios). The E3 calculator treats a load reduction as a positive benefit, and a load increase as a negative benefit.
As pointed out in the Final Report, this treatment does not affect the calculation of net benefits under the SPM tests, and would not affect the benefit-cost ratios to any significant degree (i.e., it would not make a program with a benefit-cost ratio greater than one have a ration less than one, or vice versa). We concur with the consensus position of the workshop participants that that this is a minor inconsistency and does not merit changes to the E3 calculator
9.2. Overhead Double Counting
The reporting requirements developed by Energy Division require that utilities report program overhead costs as part of the administrative cost category, even in cases where contractors are performing the installation work.60 The workshop discussion and parties' comments indicate that this could lead to a double counting of overhead costs in the SPM tests, because some of those costs may already be included in the labor component of the incremental measure cost. PG&E and other parties recommend that Energy Division modify the requirement to include all disaggregated overhead costs in reported administrative costs in order to avoid this double-counting problem. The Final Report explains why this approach would be preferable to modifying the E3 calculator to allow the removal of overhead costs from tens of thousands of measure line items in the calculators.61
The workshop participants propose an action item on this issue that we find to be reasonable: The utilities should work on a joint request to the assigned ALJ (in R.06-04-010) and Energy Division to fix this problem by modifying the reporting requirements.
9.3. Direct Install Costs in the TRC Test
During the review of the utilities' June 1, 2005 portfolio plans, Energy Division's consultant (TecMarket Works) pointed out an anomaly for selected programs where the TRC was greater than the PAC. Given the definition of these tests (see above), the opposite should always be true because the PAC test does not include the costs incurred by participating customers, while the TRC test does includes these costs. In all other respects the two tests are identical under our Rules.
TecMarket Works determined upon review that "the condition is E3-based and is associated with program conditions that occur when an incentive equals the full cost of the measure."62 TecMarket Works concluded that "this calculation approach appears to be different than the calculation approach described in the Standard Practice Manual" and that "there is a need to confirm with the [utilities] the calculation approach that should be used to assess the portfolios and make that approach consistent in the E3 calculator and in the Standard Practice Manual."63
This issue was discussed during the workshop process and addressed in DRA's written comments. Parties now appear to agree that this was not an error in the E3 calculator, but rather an issue with how costs are defined in direct installation-type programs and in particular, how those costs are defined when the sum of direct install costs plus rebates/incentives exceed the incremental measure cost.
In its written comments, DRA characterizes this anomaly as one arising from the SPM definition of the costs that comprise the TRC test. According to DRA, the TRC test "excludes as a cost ratepayer dollars paid to a program participant."64 Based on this understanding of the TRC test, DRA goes on to describe the following scenario for programs where participating customers incur no out-of-pocket expenditures:
"If a program implementer makes a lump sum incentive payment to contractors that covers all costs associated with a retrofit at no cost to the customer, that lump sum incentive payment will not be included as a cost into the TRC. Under such a scenario, the TRC would be greater than the PAC, because the TRC would exclude as a cost ratepayer dollars paid to a program participant and there are zero net participant costs, whereas the PAC would include ratepayer dollars paid to a program participant as a cost to the administrator. The resulting TRC net resource benefits would also exclude incentive payments as part of the program costs and therefore would be superficially high for such `no cost' retrofit programs."65
DRA urges the Commission to consider instituting a cap on participant incentive amounts. In DRA's view, such a cap would serve to discourage program implementers or utility program administrators from shifting program funding into "no cost" retrofit programs to increase TRC net resource benefits. DRA also recommends that the input fields for the E3 calculator be revised to separately capture the incremental equipment cost of the energy efficiency measure as well as the installation costs.
Based on the record in this proceeding, we find that the treatment of costs in the TRC test has caused some anomalies in E3 model calculations that can, and should, be corrected for future applications of the TRC test and the E3 calculator. However, we do not agree with DRA's framing of the problem as a definitional issue that arises from the SPM.
The SPM is very clear on what the TRC represents, as are our Rules. The TRC test of cost-effectiveness includes all costs associated with the energy efficiency activity, whether paid for out-of-pocket by program participants or by non-participants through the authorized revenue requirements that fund the programs. Therefore, the only costs that should be excluded in the TRC test are those that would otherwise result in the double counting of those costs. There should never be a situation in which the TRC is higher than the PAC, if the SPM formulas are applied in concert with the definition of these tests.
When the SPM formula for the TRC test is applied in a manner consistent with the definition of this test, it is very clear how the cost side of the equation should be implemented. First, all "program administrator program costs" should be included in the TRC test, irrespective of whether those costs represent expenditures for cash rebates/incentives to participants, administrative costs, contracts with implementers to install the measures, or other purposes related to program implementation. This cost component represents the utility revenue requirement to fund the program, and none of those revenue requirements should be excluded in either the TRC or PAC tests of cost-effectiveness.66
Next, the SPM describes the "participant costs" to be added to the cost side of the TRC equation. This cost component starts with the measure/equipment installation costs, irrespective of whether those costs are paid for by the participant or through the program administrator program costs in part or in full. If the SPM stopped here, however, there would be some double-counting of costs in the equation. This is because a portion of the measure/equipment installation costs is generally included under program administrator program costs, because cash rebates/incentives are paid out of utility revenue requirements to the program participant to encourage participation. Therefore, the SPM equation for the TRC tests directs that any "incentive payments" or "cost reimbursements" to the participating customer be subtracted from the measure/equipment installation costs included in the participant cost component.67
DRA's scenarios presume that if the participant pays no out-of-pocket costs under a direct-install program, then all of the costs associated with the equipment/measure installations simply disappear from the TRC cost-side of the equation. That should not be the case.68 These costs should still be reflected (as revenue requirements) under "program administrators program costs." However, as explained above, it would be appropriate to subtract the amount of "incentive payments" or "cost reimbursements" from the measure/equipment installation costs that appear in the participant cost component in order to avoid double counting them in the TRC test.
DRA also claims that when the customer rebate exceeds the equipment/measure installation costs, this creates "a distorted relationship between the TRC and the PAC benefit-cost ratios."69 This should also not be the case if the SPM cost components are inputted into the E3 calculator in a manner consistent with the definition of the TRC test. Again, the TRC test reflects all participant and non-participant costs, meaning that the full cost of customer rebates must show up somewhere in the TRC cost-side of the equation. Therefore, the only logical application of the SPM formula that is consistent with this definition is to (1) include the full cost of customer rebates and/or direct install costs paid for out of utility revenue requirements in "program administrator program costs" and (2) subtract those amounts from the measure/equipment installation costs, but only up to the total level of those costs (i.e., no negative participant costs should appear in the formula). This way, one avoids double counting customer rebates/direct install expenditures in the SPM formula, but still ensures that all participant and non-participant costs of the program are reflected in the TRC test.
In our view, these clarifications speak to the need to ensure that the TRC cost components are properly entered into the E3 calculator (or in other platforms for calculating and reporting cost-effectiveness results), rather than the need to cap incentive payments, as DRA proposes. As discussed in Section 10.2, we request that Joint Staff, the utilities and their program advisory/peer review groups explore ways in which this can be best accomplished. There may also be refinements to the E3 calculator that can serve to flag input inconsistencies (e.g., negative participant costs), that can assist in the quality control of input data. These refinements should be considered and presented during the E3 calculator updating process, discussed in Section 11 below.
We emphasize that today's discussion of the TRC test does not speak to the design of programs (or is intended to cap incentives in any manner). It is merely intended to speak to the issue of how costs should be inputted into the E3 calculator, or any other calculation platform for the SPM tests, for the purpose of producing the SPM tests of cost-effectiveness.
57 The SPM is posted on the Commission's website at: http://www.cpuc.ca.gov/static/energy/electric/energy+efficiency/rulemaking/eeevaluation.htm.
58 D.05-04-051, Attachment 3, Rule IV.2. As noted in footnote 7 of the Rules, the TRC test looks at the "incremental" measure cost (not the full cost) when an energy-efficient appliance or measure promoted through the program represents a replacement "on burn out" of the participant's existing appliance/measure. In other words, for these "replace on burn out" installations, the measure cost is the additional (incremental) cost of the equipment/measure relative to the standard (less efficient) appliance/measure that would have been installed, without the financial incentive or outreach program. Full measure/equipment costs are only used in instances where the program causes the participant(s) to do what they would not have done anyway (or at least not in the near future, e.g., 5 years), such as replace a working air conditioner with a more efficient one.
59 Ibid. Rule IV.3.
60 See Administrative Law Judge's Ruling on Reporting Requirements, issued February 21, 2006 in R.01-08-028, Appendix: Allowable Costs.
61 See Final Report, p. 34.
62 TecMarket Works Report, p. 34.
63 TecMarket Works Report, p. 14.
64 Comments of DRA in Response to the ALJ's Ruling Soliciting Preworkshop Comments on the Draft Report on the 2006 Update to Avoided Costs and E3 Calculator, March 9, 2006 (DRA Pre-Workshop Comments), p. 7. See also: Comments of DRA in Response to the ALJ's Ruling Soliciting Postworkshop Comments on the E3 Report on 2006 Update to Avoided Cost and E3 Calculator, March 27, 2006 (DRA Post-Workshop Comments), p. 9.
65 Id. See also: Comments of DRA in Response to the ALJ's Ruling Soliciting Postworkshop Comments on the E3 Report on 2006 Update to Avoided Cost and E3 Calculator, March 27, 2006 (DRA Post-Workshop Comments), p. 9.
66 As discussed above, program administrator program costs are identical in the TRC and PAC tests (and are the only costs for the PAC test). We note that the PAC test used to be called the "utility cost" or "UC" test, so named to evaluate the cost-effectiveness of energy efficiency from a utility revenue requirements perspective. The UC test became the PAC test during the late 1990s when the future role of the utilities in energy efficiency administration was in question. However, neither the meaning of the test nor the definition of this cost component in the SPM has changed.
67 The SPM also directs that tax credits received by the participant be subtracted from the equipment/measure costs, since such credits would reduce the participants' out-of-pocket expenditures. However, this component of the equation does not result in the anomalies identified in the E3 calculator results, since it is always a relatively small percentage of the measure/equipment installation costs (if at all available to participants).
68 Further, we note that this is not the case when the TRC test is performed for Low-Income Energy Efficiency programs, where participants generally incur no out-of-pocket expenditures for the installation of energy efficiency measures.
69 Comments of DRA in Response to the ALJ's Ruling Soliciting Postworkshop Comments on the E3 Report on 2006 Update to Avoided Cost and E3 Calculator, March 27, 2006, p. 9.
