8. Ratemaking Treatment

This section addresses the reasonableness of the ratemaking proposal to recover the reasonable costs of the 2003 Wildfires. Included in this section are two of UCAN's proposals.

a. Allocation of Support Costs to Expense and Capital

UCAN argues that SDG&E inappropriately categorized various support costs totaling about $7.2 million as expense rather than allocating the costs between expense and capital expenditures includable in rate base. UCAN uses an allocation factor of labor costs and calculates that 15.8% should be expensed and 84.2% should be capitalized.³⁹ According to UCAN, SDG&E used the too literal assumption that meals and lodging are consumed and should be expensed. UCAN objects to SDG&E's accounting interpretation that environmental support costs ($1.2 million of the total) were not incurred as a part of new construction. UCAN also argues that some environmental costs were clearly for pole replacement and reconductoring projects, but for simplicity it did not compute a separate environmental allocation. UCAN proposes to allocate these costs in proportion to direct labor. The effect of UCAN's recommendations is to allocate a larger share of the support costs to capital which results in rate recovery through depreciation over a longer period of time.

SDG&E's proposes to expense these overheads because these costs were "consumed" concurrently⁴⁰ and should not be capitalized as a part of the costs of installing new long-lived assets. SDG&E did not capitalize these costs because as a general rule, they argue that costs with future economic value or alternative uses should be capitalized.⁴¹ SDG&E's witness testified that this approach is generally consistent with GAAP, the Code of Federal Regulations and SDG&E's current accounting practices, and is supported by ORA.⁴²

SDG&E does not agree with UCAN's proposal to capitalize more of these costs rather than expensing them. SDG&E argues that the record shows that not only would this approach be inconsistent with established practices, it would not be in the best interests of customers to unnecessarily extend the recovery of these expenses for 30-40 years while SDG&E earns a return on these consumable, non-construction costs.⁴³

Discussion

Our well-established ratemaking practice is consistent with the matching principle or concept in accounting. That principle requires costs incurred for current service to be "expensed" in a single year and all of those costs that are necessary to provide service over many years to be "capitalized" and recovered over the useful life of the underlying asset. In this proceeding, many physical assets, poles, wire, transformers, etc., that were destroyed by the Wildfires were capitalized when they were originally placed in service.

The overhead costs at issue in this proceeding include the crew support costs that were incurred to provide food and shelter to the crews during the firestorm restoration efforts. SDG&E has applied its general rule that since these expenses do not have a future economic value or an alternative use, they should not capitalized. Moreover, SDG&E argues that these costs were not project-specific or incidental; they were part of a greater effort to restore service to those customers in SDG&E's service territory who were victims of this extraordinary and tragic event. As discussed under the management of the project, we found SDG&E to be reasonable in its many decisions, big and small, on how to reasonably restore service. While it can be argued that this finding does not automatically extend to the ratemaking consequences, we give it great weight in our consideration in this instance

We agree with SDG&E's interpretation to expense all support costs, including meals and accommodations. If SDG&E were to capitalize these costs as UCAN suggests, the incremental CPUC-jurisdictional capital expenditures attributable to the firestorms would increase by approximately 25%, resulting in overvalued assets without any real increase in their use value or life

With respect to the environmental costs, UCAN argues that SDG&E failed to allocate appropriate environmental support costs to capital projects. The record shows that SDG&E recorded $1.320 million in environmental costs to operating and maintenance expense and only $0.003 million to capital. SDG&E only capitalized $3,000 for environmental costs out of the total $25,605,000 that is capitalized by SDG&E.⁴⁴ The environmental services costs incurred in connection with the firestorm were primarily for operational erosion control assessments and hazardous material clean up, as well as for equipment and supplies required to determine the firestorm natural resource damages. UCAN suggests using the labor cost allocation as a proxy to allocate the environmental costs. We agree that SDG&E's allocation of all support costs, including environmental costs, almost exclusively to operating and maintenance expense reflects a reasonable allocation of costs between expense and capital.

UCAN's ostensible enthusiasm for capitalizing these support costs appears to be motivated by a desire to reduce the short-term impact on customers' rates by requiring SDG&E to collect these costs over a much longer period. UCAN is shortsighted in this regard, however, and ignores the long-term costs of such an approach. Since these support costs have no future economic value, it is simply not in the interests of ratepayers to extend the recovery of these expenses while SDG&E would earn a return on consumable, non-construction costs over the life of the capital assets replaced during the firestorm (30-40 years). As a matter of general principle, while reducing rates now may lead to immediate rate reductions, the public interest is served by taking a longer term view. Capitalizing more current costs adds to rate base for future recovery and is more costly.

b. Amortization of the Wildfire Account

SDG&E requests a 12-month amortization for the expense portion of the Wildfire Account beginning January 1, 2005. UCAN proposes that the amortization should be doubled to 2 years, citing the impact of rate changes likely in A.02-12-028 for a test year 2004 as well as any attrition allowance for 2005. There are other likely rate impacts too.⁴⁵

Discussion

In fact this decision will not be implemented in time to begin amortization on January 1, 2005. A reasonable compromise is readily available to us to begin amortization on October 1, 2005 for 18 months through December 31, 2006. This will conveniently allow amortization to begin shortly after this decision is adopted and its end will coincide with the next base margin adjustment likely to occur on January 1, 2007.⁴⁶

³⁹ Ex. 151, pp. 8-9, relied on Ex. 4, Exhibit G-9, G-12 and H-13 for the support costs, and Ex. 3, Exhibit D-1 for the labor costs to calculate the split.

⁴⁰ Ex. SDG&E-4, p. CAS-3, lines 10-18.

⁴¹ Ex. SDG&E-6, p. 3.

⁴² Ex. SDG&E-6, p. 3-5; Bower/ORA, Tr. 146-148.

⁴³ Ex. SDG&E-6, p. 5.

⁴⁴ Ex. SDG&E-4, attached Exhibit J, pp. 1 through 3. Incremental environmental costs as included by SDG&E in the Wildfires Account.

⁴⁵ SDG&E noted in the evidentiary hearing that in another proceeding there is a proposal to substantially increase SDG&E's allocation of costs for energy contracts held by the Department of Water Resources.

⁴⁶ See D.04-12-015, p. 10 orders an application for test year 2004. Phase 2 is pending on A.02-12-028 addressing post-test year 2004 ratemaking. Annual adjustments have been consistently allowed in the past.