Decision 99-06-057 June 10, 1999

BEFORE THE PUBLIC UTILITIES COMMISSION OF THE STATE OF CALIFORNIA

Application of San Diego Gas and Electric Company (U 902-M) for Authority (i) to Increase its Authorized Return on Common Equity, (ii) to Adjust its Existing Ratemaking Capital Structure, (iii) to Adjust its Authorized Embedded Costs of Debt and Preferred Stock, (iv) to Decrease its Overall Rate of Return, and (v) to Revise its Electric Distribution and Gas Rates Accordingly, and for Related Substantive and Procedural Relief.	Application 98-05-019 (Filed May 8, 1998)
Application of Pacific Gas and Electric Company for Authority (i) to Establish its Authorized Rates of Return on Common Equity for Electric Distribution and Gas Distribution, and (ii) Establish its Unbundled Rates of Return for Calendar Year 1999 for Electric Distribution and Gas Distribution. (Electric and Gas) (U-39-M)	Application 98-05-021 (Filed May 8, 1998)
Application of Southern California Edison Company for Consideration of Unbundled Rate of Return on Common Equity, Capital Structure, Cost Factors for Embedded Debt and Preferred Stock, and Overall Rate of Return for Utility Operations. (Electric) (U 338-E)	Application 98-05-024 (Filed May 8, 1998)

(See Appendix A for List of Appearances)

OPINION

Summary

This proceeding addresses rate of return issues for the stand-alone electric distribution and gas operations of PG&E, SDG&E, and Edison. We hold that for the electric utilities the divestiture of generation and the FERC's regulation of transmission have not altered traditional methods of determining return on equity. We find that there is no need to have either a discount or a premium adjustment to the UDC return on equity. We find that Edison's 1996 PBR decision does not preclude its rate of return from being determined in this proceeding, however, we decline to modify Edison's return on equity at this time. We find the return on equity for PG&E and SDG&E to be 10.60%.

We find the rate of return for the electric utilities to be:

PG&E

	Cap Structure	Cost	Wgt Cost
Debt	46.20%	7.09%	3.28%
Pref	5.80%	6.55%	0.38%
Equity	48.00%	10.60%	5.09%
Total	100.00%		8.75%

SDG&E

	Cap Structure	Cost	Wgt Cost
Debt	45.25%	6.87%	3.11%
Pref	5.75%	7.76%	0.45%
Equity	49.00%	10.60%	5.19%
Total	100.00%		8.75%
Edison
	Cap Structure	Cost	Wgt Cost
Debt	47.00%	7.64%	3.59%
Pref	5.00%	6.62%	0.33%
Equity	48.00%	11.60%	5.57%
Total	100.00%		9.49%

For PG&E this represents a reduction in return on equity of 60 basis points; for SDG&E the reduction is 100 basis points.

For the gas distribution operations of PG&E and SDG&E we find that the return on equity is the same as the return on equity for the electric operations, i.e., 10.6%. We further find that the debt and preferred stock structures of the utilities are the same for gas and electric.

The estimated annual revenue requirement reductions for the utilities are:

Electric Gas
PG&E	($46,280,000)	($14,500,000)
SDG&E	($14,585,000)	($4,779,000)

Public hearing was held before ALJ Robert Barnett. There were 14 hearing days; the assigned Commissioner was present for 2 days. Oral argument before the Commission en banc was held April 19, 1999. Consistent with SB 960, this decision is issued less than 18 months from the dates the applications were filed.

Introduction

This proceeding is the first to address rate of return issues for the stand-alone electric and gas distribution operations of Pacific Gas and Electric Company (PG&E), San Diego Gas & Electric Company (SDG&E), and Southern California Edison Company (Edison). With the unbundling of electric generation, transmission, and distribution operations, the only portion of the formerly vertically integrated electric utility remaining under the Commission's normal utility rate regulation is electric distribution operations.¹ In past cost of capital (COC) cases, the Commission authorized one rate of return for all the assets of the entire integrated utility. Unbundling requires us to take a new look at rate of return. For instance, in PG&E's 1997 COC decision, the Commission indicated that it would address the unbundling of cost of capital by directing the utilities to "propose unbundling of long-term debt, preferred stock, and the shareholders' equity to correspond to the business realities of 1998 when largely regulated distribution assets must be separated from largely deregulated generation assets." (D.97-12-089, mimeo., at 16.) PG&E and SDG&E have responded with a showing which addresses cost of capital issues for their electric distribution operations on a stand-alone basis. They also have presented testimony for stand-alone gas distribution. Edison's showing is somewhat different and we will address certain matters specific to Edison separate from other discussion.

I. Does Edison's Performance Based Ratemaking (PBR) Mechanism Preclude Consideration of Changes to its Rate of Return?

Edison argues that we should reject intervenors proposals to adjust its return on equity on essentially legal grounds, that our adoption of a cost of capital trigger mechanism in 1996 precludes us from considering changes to Edison's rate of return.

The Commission adopted Edison's PBR mechanism in D.96-09-092, which included a cost of capital trigger mechanism. Subsequently, in 1997, the Commission issued its decision on the functional allocation of costs which unbundled the rates of Edison, PG&E, and SDG&E . Among the issues addressed by the Commission in the ratesetting decision was whether the cost of capital should be unbundled (D.97-08-056). The Commission ordered the utilities to file applications in the 1999 cost of capital proceeding to consider unbundling cost of capital. Edison filed a petition seeking to defer consideration in light of the recently adopted cost of capital trigger mechanism. The Commission invited Edison to make its point in this proceeding.

TURN and ORA finds Edison's argument to be devoid of merit. They say that the Commission's PBR decision for Edison makes clear that Edison's return on equity would later need to be reexamined and perhaps changed to reflect separate returns for generation, transmission, and distribution. The decision states:

"As a part of our unbundling proceeding in electric restructuring and with coordination in the cost of capital proceeding, we intend to order separate and distinct authorized equity returns for the generation, transmission and distribution operations." (D.96-09-092, p. 42.)

The Commission made its statement in D.96-09-092 to notify Edison that its return on equity would be reexamined in connection with unbundling. Later, in D.97-08-056 the Commission specifically ordered all three utilities, including Edison, to file for unbundled returns in the current cost of capital proceeding. The Commission directed this action almost a year after Edison's PBR. ORA asserts that if the Commission had intended to preclude reexamination of Edison's return on equity, the Commission would never have directed as it did in D.97-08-056.

ORA believes that Edison itself evidently took the view until recently that its return on equity should be reexamined in this proceeding. There is no reference in D.97-08-056 (directing the current proceeding) that Edison believed its PBR precluded an Edison cost of capital showing. In fact, D.97-08-056 states that Edison concurred with proposals for an unbundled cost of capital proceeding (D.97-08-056, pp. 18 and 19). Edison's argument that the Commission has already set an unbundled rate of return for its distribution system is nonsense, in ORA's opinion.

ORA points out that Edison's last formal cost of capital proceeding was A.96-05-032, and that the decision (D.96-11-060) set the authorized ROE of 11.6% for all Edison operations except nuclear generation. In other words, D.96-11-060 set a return for Edison's integrated operations, not its unbundled distribution operation. Furthermore, the 11.6% return was set before the unbundling proceeding even began.

We agree with TURN and ORA. Edison's statement in its brief (O.B. p. 3-4) that this Commission "explicitly stated the trigger mechanism would replace participation in the annual cost of capital proceeding" is without foundation. Edison cites Ordering Paragraph 17 of D.96-09-092, but that paragraph states in its entirety "Edison shall use its Trigger mechanism to update the authorized return on equity for the purpose of updating the net revenue sharing benchmark and for revenue requirement recovery." What D.96-09-092 does say is:

"As a part of our unbundling proceeding in electric restructuring and with coordination in the cost of capital proceeding, we intend to order separate and distinct authorized equity returns for the generation, transmission and distribution operations." (D.96-09-092, p. 42.)

Finally, in D.97-08-056 we ordered PG&E, SDG&E , and Edison to file for unbundled returns in this proceeding. There is no contradiction between our decisions. The Edison PBR decision was issued in September 1996. This decision is being issued in 1999. At the time D.96-09-092 was issued, we could not know when this cost of capital proceeding would be completed. It is clear that the Commission intended this proceeding to be used to assess whether changes to the cost of capital were required as a result of unbundling of utility operations. Edison's request that we reject the proposals to modify Edison's ROE outright is denied. Instead, we will first review whether the record supports any sort of risk premium adjustment as a result of unbundling before concluding whether to disturb Edison's cost of capital trigger mechanism.