DISCUSSION

In order to properly evaluate SCE's request for approval of its proposed Gas Supply Plan, the relationship between, and the scope of authority of, the Commission, DWR, and SCE must first be clearly understood. The Commission has the authority to review and approve SCE's Gas Supply Plan. DWR has the right, as the principal over SCE as its limited agent, to impose certain operational and administrative requirements associated with the tolling agreements. As noted above, the Commission has already determined in D.03-04-029 that SCE must operate within the subset approved by both the Commission and DWR.

We recognize that the SCE is bound by both the gas supply plan as well as the approval of DWR, and that DWR is at liberty to impose additional restrictions and requirements outside the scope of the gas supply plan.

With regard to conflicts, SCE stated its intent to seek guidance from the Commission and DWR as to how SCE should proceed in the event of a conflict between a Commission-approved GSP and specific DWR requirements.¹⁶ SCE requests that the Commission clarify what course of conduct SCE should take during the interim period of time before the Commission and DWR resolve any conflict that may arise. SCE suggests two possibilities:

1. SCE can perform under the conflicting DWR guidelines established in its Protocols, until the Commission resolves the conflict; or

2. SCE can refrain from acting at all until the Commission resolves the conflict, during which time DWR, as the principal, can act on its own behalf.

The Commission is not inclined to require either of the two exclusive possibilities at this time. In the event of a conflict, SCE shall consult with its PRG. If the conflict is not resolved, SCE may file an advice letter or application for expedited consideration.

DWR Protest

In its May 2, 2003 Supplemental Protest, DWR proposed a number of detailed modifications to SCE's gas supply plan. In response, SCE proposed to accept some of the DWR recommendations in its May 9, 2003 public filing while also countering certain DWR recommendations with alternative language. This sort of negotiation can be expected between principal (DWR) and agent (SCE) and may result in a number of back-and-forth exchanges on various issues. It is clear that SCE is willing to accept the DWR Protocols:

"In its comments, DWR states that it intends to develop and provide Protocols to SCE at some unspecified later date. The Protocols will serve as instructions from DWR, as principal, to SCE, as its limited agent. The DWR Protocols, which DWR may from time to time in its sole discretion revise, will control all transactions of SCE as its limited agent, and will serve as the standard against which DWR will evaluate such transactions. SCE recognizes and accepts its legal and equitable obligations to DWR when it acts as its limited agent." (SCE May 9, 2003 Public Response to DWR Supplemental Protest, page 3)

However, DWR has expressed concern that SCE's proposed GSP procurement strategies are too general and inappropriately allow SCE "maximum flexibility." Instead, DWR would prefer more specific procurement strategies. SCE responds that a Commission-approved GSP should be sufficiently broad to encompass more restrictive conditions imposed by DWR through its Protocols. We are inclined to agree on this point and prefer to avoid having to issue subsequent decisions or resolutions relaxing overly restrictive requirements that may unnecessarily conflict with DWR.

The Commission is not adopting DWR's Fuels Protocols as part of the utilities' Gas Supply Plan approval process. DWR has informed the Commission that it will provide the Commission a final copy of its Fuels Protocols once they are complete. To the extent that DWR's Fuels Protocols only authorize a subset of what the Commission has approved, the utilities must operate within the limitations of DWR's authorization.

SCE's proposed Gas Supply Plan is modified with language proposed by DWR, as accepted by SCE in its May 9, 2003 public response to DWR's Supplemental Protest at pages 17-18, and as further modified as requested by DWR in its July 3, 2003 comments on the draft resolution:

· Modify DWR's Proposed Additional Language in Comment No. 1, Subsection 1(b) as follows:

"Transactions made pursuant to the parameters set forth in the Protocols shall be reviewed by DWR for compliance with the Protocols. Further, confirmations of all gas transactions entered into on behalf of DWR shall continue to be presented to and signed by DWR."

· Delete DWR's Proposed Additional Subsection 1(g).

· Modify DWR's Proposed Additional Language in Comment No. 6 as follows:

"SCE will conduct the reconciliation of gas invoices for DWR gas activities (e.g. purchases, sales, storage and transportation. All approved invoices and necessary verification documentation shall be forwarded to DWR in accordance with the provisions of the Operating Order no later than five (5) business days prior to the due date of the invoice. Further, all rejected invoices, along with explanation as to why SCE recommends rejecting the invoice shall be sent to DWR no later than five (5) business days prior to the due date of the invoice."

CAC and ORA Protests

The Cogeneration Association of California (CAC) would have the Commission reject SCE's entire Gas Supply Plan because it was filed under seal. In its response to protests, SCE states that CAC's request "exceeds the scope of a review process for compliance advice filings [and that] a protest to a compliance filing is not the appropriate forum for consideration of complex issues concerning QF contract costs which could not legally be resolved through issuance of a resolution." SCE also contends that it "properly filed its Gas Supply Plan as a confidential document¹⁷ since the plan contains confidential information on gas procurement strategies that could be used by market participants to their advantage and to the disadvantage of ratepayers." (SCE Response to Protests, page 2).

While SDG&E filed both a confidential and a public, redacted version of its gas supply plan, SCE and PG&E filed confidential gas supply plans with the Commission.¹⁸ Although it is appropriate to file certain information under seal, it is not necessary to redact the entire plan. Accordingly, we direct SCE in this resolution to file both confidential and redacted versions of its gas supply plan in future submittals. At this point in time, we will not adopt CAC's protest.

ORA made the following recommendations in its protest, which is shown almost in its entirety in the Protests section of this resolution:

1. "Natural gas transactions should not be subject to a five-year limit. Rather, they should be limited only be (sic) the length of the relevant CDWR contract."

2. "The calculation of portfolio risk should not be limited to a two-year period. Instead, portfolio risk should be calculated over the length of the longest DWR contract."

3. "Estimates of portfolio risk should not be used to evaluate individual contracts as SCE suggests. Instead, a less prospective approach should be used." (ORA Protest, page 1)

Although SCE's response to ORA's protest was completely redacted, it can be stated that SCE is willing to accept ORA's first recommendation, but would reject the other two. ORA's first recommendation would effectively extend the term of SCE's gas supply plan well beyond its five-year term. SCE correctly noted that the liquidity for gas supply and hedging instruments is significantly less for products with a term greater than five years. Given such uncertainty, we see no compelling reason to extend the term of SCE's gas supply plan.

ORA's second recommendation, that "portfolio risk should be calculated over the length of the longest DWR contract," may not be practical for two reasons, as SCE notes in its response to protests: (1) the GSP has a five-year term, and (2) liquidity for gas supply and hedging instruments is significantly less for products with a term greater than five years. In addition, ORA does not provide a specific citation to SCE's GSP that sets forth such a two-year limit. SCE does not appear to propose it. For these reasons, we will not adopt ORA's recommendation.

ORA's third recommendation, that "a less prospective approach (something other than estimates of portfolio risk) should be used to evaluate individual contracts," is ambiguous. On this point, the ORA protest states:

"SCE proposes (page iii) that it 'will perform an analysis that demonstrates that the prospective transaction reduces the risk of the combined SCE/DWR portfolio before recommending that DWR execute that transaction.' In other words, no contract will be recommended that does not reduce portfolio risk as measured by SCE."

"SCE's portfolio risk will be estimated with some error as will the effect on overall portfolio risk of a specific contract. Thus, a contract may be rejected because it increases the estimate of portfolio risk when the contract might actually decrease portfolio risk. Even if a given contract leads to an increase (on average) of portfolio risk, it might offer excellent protection during months in which natural gas prices are high even though it might offer poor protection in other months and on average increase portfolio risk." (ORA Protest, page 1)

As SCE notes in its response to protests, although ORA expresses concern with SCE's proposal on this point, ORA offers no alternative. Given ORA's incomplete recommendation, we will not adopt it at this time.

Gas Storage

Although filed under seal, it can be stated that SCE has arranged for some gas storage capacity on behalf of DWR as its limited agent. In future filings, we would like to see detailed cost data associated with the awarded storage.

The Commission is very concerned about the upward trend in natural gas prices, and the increasing volatility in natural gas prices. One of the reasons for these high prices and increasing volatility is the low level of natural gas in storage nationally. The lack of natural gas in storage by noncore customers was one of the contributing factors to high natural gas prices in California in 2000-2001. We believe that storage should be considered for use by the state's electric utilities as a hedge against high natural gas prices, particularly during the summer. The use of storage may be beneficial not only for a particular utility's customers, but for the state as a whole. It may help to lower the volume of flowing supplies that will be purchased during the summer, and thus help keep prices in check for the state as a whole.

At this point in time, we are already well into the summer, and we do not have an adequate record to determine in this resolution what would be an appropriate amount of storage for this summer. Nor do we have adequate information to say exactly how much storage capacity should be obtained. However, we will order SCE and the other electric utilities to prepare a proposal for their next Gas Supply Plans, due August 15, 2003, for possibly obtaining natural gas storage capacity as of April 1, 2004. This should include a proposal for minimum storage targets as of May 31, 2004.

Consumer Risk Tolerance (CRT)

In D.02-12-074, the Commission introduced the concept of the Consumer Risk Tolerance (CRT). On June 19, 2003, the Commission issued D.03-06-067 which clarified the application of the CRT which gave "SCE the flexibility to enter longer term forward energy, gas, and other procurement hedges that are necessary to serve expected load, mitigate anticipated power conditions, and/or take advantage of cost-effective market opportunities" (D.03-06-067, page 17).

In its proposed gas supply plan, SCE states that it does not intend to apply the CRT to its GSP. As we understand it, PG&E and SDG&E will, in contrast, apply the CRT to their respective GSPs. We see no compelling reason to allow SCE different treatment on this point. Accordingly, the CRT is applicable to SCE's gas supply plan. More precisely, gas supply plans should meet all standards in adopted procurement plans.

With regard to SCE's gas supply plan and the CRT, we would like to see a comparison of the countervailing risks of being caught short if the market price skyrockets, and the risks of being caught long if the market price plummets. The concept of the CRT introduced by the Commission addresses only one of these risk types. The CRT is designed to ensure a highly predictable payment stream, and to protect the utility and its customers from price spikes. If this were the only concern, then the utility could meet its obligations by purchasing all of its supplies through forward contracts, with some storage to adapt to the daily and seasonal peaks and valleys in demand. However, utilities and their customers are also concerned about being stuck with a fixed long term purchase obligation in the event that the market price drops and they will be precluded from taking advantage of cheaper supplies. The GSP contains no discussion of the tradeoffs between these kinds of risks, and we would like to see this analysis better developed in future GSP filings.

Gas Supply Plans Filed

SCE filed three versions of its proposed Gas Supply Plan, all substantively the same. The most current plan was submitted on May 21, 2003. On April 21, 2003, SCE filed a "Substitute Sheet for 1701-E" which contained a slightly revised copy of the Gas Supply Plan submitted on April 18, 2003. Both copies of the Gas Supply Plan are the same, except that the April 21, 2003 copy added "confidentiality language that was inadvertently omitted from Appendix A" when first filed on April 18, 2003. Also on April 21, 2003, SCE filed "Supporting Workpapers" for AL 1701-E. The workpapers, on computer diskette, consisted of hourly forecasts of power prices and gas prices for the period May 1, 2003 through December 31, 2007. On May 21, 2003, SCE filed additional "Substitute Sheets for 1701-E" which amounted to a revised copy of the Gas Supply Plan from that submitted on April 18, 2003. The May 21, 2003 version of the Gas Supply Plan includes certain "editorial corrections to the original Appendix A" which are itemized in the transmittal letter.

It should be noted that when filing clarifications or modifications to an advice letter (as opposed to tariff sheets), utilities must submit supplemental advice letters per General Order 96-A, Part III, Section I, given that substitute sheets are specific to certain types of tariff sheet modifications, not modifications to advice letters, as specified in General Order 96-A, Part III, Section J.

Commission and DWR Consultation

DWR requests that Commission approval of SCE's Gas Supply Plan constitute "prior consultation"¹⁹ between DWR and the Commission for purposes of complying with D.02-02-051, Appendix C, the Rate Agreement, Article 1, Section 1.1, Definitions, "Priority Long Term Power Contracts²⁰ (PLTPCs)." Finding of Fact 35 of D.02-02-051 states that "DWR shall consult with the Commission prior to entering into any additional contract for the purpose of securing fuel if that contract contains such a provision." We find DWR's request reasonable and will make the requested finding.

Procurement Review Group (PRG) Review

D.03-04-029 recommended that SCE circulate a proposed Gas Supply Plan to its Procurement Review Group (PRG) for review and comment. SCE circulated unredacted copies of its proposed Gas Supply Plan, and subsequent submittals, to its PRG concurrently with its filings to the Commission.

The PRG for SCE comprises the California Energy Commission (CEC), California Utility Employees (CUE), Department of Water Resources (DWR), Energy Division, Office of Ratepayer Advocates (ORA), Natural Resources Defense Council (NRDC), and The Utility Reform Network (TURN).

The PRG met a number of times via conference call to discuss SCE's Short-Term Procurement Plans for 2003 and 2004, during which time SCE also discussed DWR contract gas supply plan issues. In particular, SCE's PRG convened on April 25, 2003.