Productivity

SDG&E proposes productivity factors of 0.92% for electric and 0.68% for gas. SDG&E's proposed productivity factors are based on a study by Christensen Associates. The Christensen study is largely based on companies under traditional regulation. However, one of the chief objectives of PBR regulation is to simulate competition. The premise of incentive regulation is that competitive companies are more efficient and productive.

SDG&E does not propose a stretch factor, asserting that this is no longer appropriate for its proposal. SDG&E appears to implicitly assume that as long as SDG&E performs mildly better than the historical average productivity, 100% of the gain should accrue to shareholders, with no benefit to ratepayers. In the SoCalGas PBR, an additional stretch factor was adopted due to SoCalGas' declining rate base. SDG&E recommends that no productivity adder is necessary to account for declining rate base. We agree that while total rate base is declining due to decreases in generation rate base, SDG&E's rate base in electric distribution and gas department rate base is not declining, and is actually increasing.

Both ORA and UCAN agree to the base historical productivity figures, but propose that stretch factors also be applied.. (See, e.g., Exhibit 24, p. 2-1.) ORA is the only other party that presented testimony specifically on the Christensen study. While ORA recognizes that SDG&E's approach of basing the X factor on industry-wide estimates of TFP growth is consistent with past Commission decisions, ORA also found merit in the NERA study. For the purpose of establishing an appropriate productivity benchmark, we agree with ORA that it is reasonable to consider the Christensen results as the lower bound in the range of productivity, which supports the addition of a productivity stretch factor (Exhibit 24, p. 2-15).

UCAN also argues that SDG&E's proposal for a rate indexing mechanism is inconsistent with the Christensen study's productivity estimates. UCAN notes that the output measures in the study are heavily weighted to the number of customers served. We are not convinced by UCAN's arguments. The productivity estimates are independent of what type of PBR is authorized. The SDG&E productivity estimates are reasonable on their merits.

FEA recommends a total productivity factor similar to that adopted for Edison. This productivity factor was based on Edison's historical productivity factors of 0.9% for nongeneration plus a small stretch factor. In D.96-09-092, we adopted a total productivity factor of 1.2% for 1997, which then increased to 1.4% in 1998, and 1.6% thereafter. The stretch factor averages about 0.5%. We stated a precise forecast of productivity was unnecessary, because the progressive revenue sharing would allow ratepayers to keep more of the achievable productivity gain. We note that the Edison historical factor is quite close to the 0.92% productivity factor which Christensen Associates calculated for SDG&E's electric department. While SDG&E emphasizes that the Edison productivity factor was adopted because of the absence of an "industry-wide" study, this was only one of several considerations we made in determining the appropriate productivity factor for Edison.

SDG&E asserts that the consumer price index (CPI) adopted for Edison is likely higher than the inflation factor proposed here, so one should not strictly make a direct comparison to Edison's productivity factor. But as the City of San Diego reminds us, the inflation factor will be reviewed again for Edison in its midterm review. Further, we assume that the inflation factor presented by SDG&E, which was unopposed, is reasonably accurate. Therefore, its relation to the Edison inflation factor should not be a consideration in determining the productivity factor.

SDG&E's O&M productivity growth rate under its current PBR was a modified 1.5% and SDG&E easily exceeded its authorized rate of return. Based on evidence from recent years, we do not expect SDG&E's productivity to decrease significantly. We agree with ORA that it is not reasonable to adopt an average productivity target, which would allow SDG&E to rest on its laurels in terms of achieving productivity gains. (ORA reply brief, p. 12.)

SDG&E argues that if consistency with SoCalGas is desired, the implied stretch factor should be no more than 0.7%. SDG&E refers to ORA's testimony in A.97-12-020, Pacific Gas and Electric's (PG&E) general rate case (GRC) proceeding, in which ORA characterizes SDG&E as being at the "efficiency frontier." When taken in context, however, this is a technical term used by the ORA consultant on productivity benchmarking in the PG&E GRC for efficient utilities.¹¹ SDG&E also argues that the results of the PBR experiment, which showed returns well into the sharing range, have been taken into account in the cost of service agreement. Further, SDG&E argues that since it has been operating under a PBR for several years, the incentives of a continuing PBR do not present the same opportunity for stretch productivity as there would be when first embarking upon a PBR (as compared to cost of service regulation). On the other hand, we believe that a PBR system provides utilities with continuing incentives to find more and better productivity opportunities.

On the whole, a productivity factor that includes a stretch factor of 0.4% to 0.7% (for an average of 0.55%) is appropriate, reasonably consistent with the productivity factors adopted for SoCalGas, and fair in view of all the evidence. As we stated in D.97-05-054:

"It is appropriate to `set the bar high' in the expectation that SoCal will, indeed, stretch to maximize productivity. Were we to set too low a goal, SoCal's benefit could come at the expense of the ratepayers, even allowing for a sharing mechanism. There would be no advantage to adopting such a PBR over traditional ratemaking methodology. Nevertheless, we recognize that productivity improvements are not likely to occur all at once." (D.97-07-054, mimeo. at p. 29.)

It is reasonable to ramp up the stretch factor incrementally over the term of the PBR, which recognizes both that productivity improvement will not occur all at once and that SDG&E's escalation factor is lower than the CPI. We will adopt a stretch factor that increases over the term of the PBR mechanism, resulting in an X factor on the electric side of 1.32% in 2000, 1.47% in 2001, and 1.62% in 2002. On the gas side, we adopt an X factor of 1.08% in 2000, 1.23% in 2001, and 1.38% in 2002.