V. Whether the COS Factor Should Account
for Replacement in Perpetuity

A. Positions of Parties

PG&E

PG&E states that the elements used to calculate the COS factor should be the same as those included in the net revenue calculation and, if the net revenues are calculated on a marginal cost basis, the COS factor should also be calculated on a marginal cost basis.

SCE

SCE argues against inclusion of replacement in perpetuity in the COS factor calculation because the net revenue calculation does not include replacement in perpetuity.

Sempra

Sempra recommends that the COS factor should include replacement in perpetuity. Sempra contends that its COS factor calculation does so through the inclusion of book depreciation.

Sempra states that, if the net revenue is changed as proposed by DRA and TURN, the COS factor must be changed accordingly.

DRA

DRA states that no changes to the COS factor will be necessary due to implementation of its recommendations regarding net revenues.

DRA argues that once a line extension is in place, the utility owns it and is responsible for its replacement. Therefore, if the COS factor does not assume replacement in perpetuity, the assumption is made that the customer will pay for the replacement, which is not the case. Thus, DRA recommends that replacement in perpetuity be assumed in the COS factor calculation.

TURN

TURN recommends that the COS factor should include a component for the cost of replacing line and service extension assets at any time during their expected useful lives because the utility is responsible for such replacement.

TURN argues that depreciation is not sufficient to cover replacement costs. TURN states that depreciation is intended to recover the original investment plus the cost of removal less the salvage value, does not account for inflation, and does not collect sufficient funds to pay for replacement due to failure before the end of the equipment's useful life.

TURN argues that net revenue includes costs for replacements in the GRC test years and, therefore, the argument that replacement costs should not be included in the COS factor because they are not in net revenues is incorrect.

CBIA

CBIA states that the COS factor should not include replacement in perpetuity because any replacements will go into ratebase and be recovered in rates.

B. Discussion

Once a line extension has been installed, its maintenance and replacement become the utility's responsibility. Therefore, we find it reasonable to require that replacement be included in the calculation of the COS factor. The overall life of line extension facilities is approximately 30 years, with the lives of some components being longer and some shorter. No party has suggested that the life of a residential dwelling is limited to the life of the line extension. Therefore, the utility will have to replace the line extension at the end of its useful life. No party has provided evidence as to how long a residential dwelling will last on average, but it is common knowledge that residential dwellings, although they will not last forever, can last well in excess of 60 years. As a result, for the purpose of calculating the COS factor, we will use 60 years as the period during which replacements will be performed.

As stated by TURN, the purpose of depreciation is to recover the original capital cost of facilities, adjusted for any salvage and/or removal costs, over their useful lives. It does not provide for replacement of the facilities at the end of their useful lives. Therefore, the inclusion of depreciation in the COS factor does not, as alleged by Sempra, provide for replacement in perpetuity.

Net revenue is based on average distribution revenue per residential customer. Portions of that revenue are then subtracted. Net revenue is intended to be those CPUC jurisdictional distribution revenues that will be paid to the utility and can be used to pay costs of the line extensions. Those revenues are based on current rates. The argument has been made that if the COS factor includes replacement in perpetuity, the net revenues would have to be adjusted. This argument is incorrect. Rates include costs for replacements of line extension facilities during the forecast period because they are the utility's responsibility.¹⁶ Thus, the net revenue based on those rates includes replacements. Both PG&E and Sempra represent that their COS factor calculations include replacements. However, they do not adjust their net revenue calculations due to such inclusion. Thus, we see no reason to adjust net revenues due to our inclusion of replacement in the COS factor.

Since we do not adopt DRA's and TURN's recommendations for subtracting certain marginal costs from net revenues, we need not address whether adoption of their recommendations would necessitate a change in how the COS factor is calculated.

¹⁶ The forecast period in a GRC is the test year plus generally two attrition years.