9. The Cost of Long Term Debt
Ratemaking long term debt costs typically are based on actual, or embedded debt costs. Future interest rates must be anticipated to reflect projected changes in a utility's cost caused by the issuance and retirement of long term debt during the year. This is because the rate of return is established on a forecast basis.
We recognize that actual interest rates do vary and that our task is to determine "reasonable" debt cost rather than actual cost based on an arbitrary selection of a past figure.16 In this regard, we conclude that the latest available interest rate forecast should be used to determine the forecast of additional debt included in the embedded debt for the forecast period. (See recently, D.07-12-049, and 38 CPUC2d 233, where 18 years ago, the Commission definitively discussed the need for, and use of, a reliable forecast of future interest costs.)
We have a limited record on the cost of debt, essentially only DRA's recommendation of 7.48% based on the detailed study from A.09-05-001 et al. (DRA Opening Brief at 27 citing Ex. DRA-1 at 6.) To adopt an imputed cost of debt for Great Oaks, we round DRA's recommendation to 7.50% and note that this result is comfortably within the range of the embedded costs of debt for the Class A companies in A.09-05-001 et al. More specifically, we separately take note that the reported rates for corporate bonds rated Baa by Moody's, as reported in the Federal Register Statistical Release H.1517 for September 15, 2010 showed that interest rates were approximately 5.6% to 5.8% in August and September, and were higher (6.0% to 6.2%) in June and July. Thus, the adopted forecast of 7.50% is approximately 130 to 190 basis points higher. In December of 2004, 2005, and 2006, the rates were in the low 6.0% to 6.2% range. Thus, over time debt has been available, even at a premium over the Baa rates, which would be substantially cheaper for ratepayers than the required return on equity, when fully loaded for the income tax effects.
In the next cost of capital proceeding Great Oaks may either present testimony on its actual cost of debt (if it issues long term debt) or offer evidence on a reasonable imputed cost at that time.18 For this proceeding, we conclude that 7.50% is a fair and reasonable proxy for the market cost of debt.
16 38 CPUC2d 233 at 242 and 243 (1990).
17 http://www.federalreserve.gov/releases/h15/.
18 The examination of Great Oaks' witness eventually disclosed that the company has had discussions with several lenders about the approximate cost of borrowing, but did not elicit any actual information provided by the lenders.
