6. Indexing Method

SoCalGas and SDG&E propose an indexing method that converts the revenue requirements for the whole company to a dollar-amount per customer. For SoCalGas, a Margin Per Customer (MPC) method was adopted in D.97-07-054. Applicants proposed adjustment formulae to calculate the post-test year's base margin:

Test Year 2004 is the initial start-point in time and the subsequent post-test years, 2005 forward, are the target years. Thus, in the first formula, "t" is the next forecast year, 2005, and "t-1" is Test Year 2004.20 For example, for 2005 if we start with Test Year 2004 as the first base year, and we assume that the revenue requirement is $1.0 billion for 5 million customers, it would equal a 2004 MPC of $200 per customer per year.21 For 2005, using formula (i) above: if inflation is 4%, and the X-factor is 1%, the 2005 MPC would be $206.22 If we further forecast that there will be 5.2 million customers and an allowable Z-factor of $10 million, the final 2005 Base Margin using formula (ii) would be $1.081 billion, an $81 million increase over the prior year.23

The NRDC supported the SoCalGas and SDG&E use of the MPC.24

By contrast, a revenue method would annually adjust the base margin by some factor without a separate direct consideration of customer growth. Any change in customers would be subsumed in the total revenue change so that revenues could rise (due to the index employed) even if there was a quantifiable loss of customers. This is effectively ORA's and Aglet's position because they opposed the MPC approach, discussed further, below.

The most important issue for the indexing method is to correctly identify the most appropriate index to reasonably adjust the post-test year revenue requirements. There are two different options posed by applicants and the intervenors. SoCalGas and SDG&E propose the use of utility-specific indices, a Gas Utility Input Price Index (Gas Index) and Electric Distribution Price Index (Electric Index) that the companies assert are based on the last-adopted indexing plan for SDG&E.25 In fact, the details become complicated for there are separate index components for labor and non-labor and three parts to the capital expenditures component, as well as a weighing of the individual components for the overall Gas Index. The Electric Index is even more complicated with five separate non-labor components, a labor component, and a similar three-part capital expenditure component. Both companies propose that the final weighting should be based on the Phase 1 decision's adopted labor, non-labor and capital expenditures. This would ensure that the three cost components are escalated at an appropriate rate. SDG&E has a further series of indices for SONGS costs separate from electric distribution. SoCalGas and SDG&E demonstrated that these indices are constructed using costs that are appropriate to consider when adjusting rates for gas and electric utility operations.

ORA, TURN and Aglet (with some differences among themselves) generally oppose the Gas Index and Electric Index (collectively, Indices) and propose that the post-test year adjustment should be based on the Consumers Price Index (CPI).26

ORA proposes a "straight" CPI adjustment without allowing for productivity or change in number of customers, which would result in applying a relatively straightforward formula:

Rt. = Rt-1 *(CPI ± Z-factor)27

TURN proposes no indexing if the next test year is 2006, or a CPI method without indexing an adjustment for miscellaneous revenues.28

Aglet argues strongly against both the Gas and Electric Indices and contends that the CPI is preferable. Aglet acknowledges ORA's simplicity theme and makes five other points: first, consumers understand the CPI; it is easily verified; it is not revised; it is less volatile than the Gas and Electric Indices; and, finally, that the CPI shows no bias.

The Base Margin Settlement would ask the Commission to adopt the CPI instead of the Gas and Electric Indices, but it also introduces a limitation. The parties would include a floor and ceiling in the index by setting maximum and minimum adjustments29 that change annually, differ between SoCalGas and SDG&E, and treat the SoCalGas gas department and the SDG&E gas department differently. We recognize that in order to reach a settlement, parties sometimes compromise a litigated position. We find that the parties have reached a reasonable compromise in light of the record.

Under reasonably foreseeable levels of inflation, the Settlement Agreement will reproduce a level of authorized revenue for each of SoCalGas and SDG&E in each of the three post-test years that is between the level that would have been produced given Applicants' litigation position and the lowest levels produced by the position of any interested party. We find this feature, limits on the adjustment, to be a reasonable outcome in the best interests of the ratepayers. Our objective is to ensure that SoCalGas and SDG&E have adequate revenues to provide safe and reliable service and, in return, that ratepayers can expect those revenues to be used for the safe and reliable operations of SoCalGas and SDG&E.

There seemed to be some confusion about the meaning of a "revision" to an index and when or if a revision should be used. We must understand whether or not indices are revised from forecast to actual values for calculating a specific year's rate impacts, and then how subsequent years' rate impacts are calculated using an appropriate index value. For example, 2005 is the first post-test year for SoCalGas and SDG&E. It is clear from the record that to adjust the test year 2004 to set new rates30 for 2005, applicants propose that we use the most recent 2005 forecast indices available at the time we adopt rates for 2005. Applicants do not propose that 2005 rates would be `trued-up" at the end of 2005 by substituting actual 2005 indices for the 2005 forecast. Once adopted, 2005 rates should be final.

When the forecast is made for the second post-test year - 2006 - the issue to clarify is whether the new base for 2006 begins with the authorized 2005 values as calculated on forecast indices, or whether the base is the test year (2004) first adjusted by the actual 2005 indices and then adjusted by the 2006 forecast indices. Based on the transcript regarding the Market Index Capital Adjustment Mechanism (MICAM), SoCalGas and SDG&E propose the latter method, i.e., 2006 would be calculated by using actual 2005 indices instead of the 2005 forecast indices applied to the 2004 starting point. The 2005 starting point for calculating and adopting 2006 rates is therefore different than the authorized 2005 base margin.

If the base year is not adjusted to the actual indices' values before calculating the next period's rates, we would subject both the ratepayers and the utilities to a compounding of any forecast error for the base year. Assume that inflation for 2005 is forecast to be 4% but proves to be either 2% or 6%. Fairness dictates that the actual inflation rate should be applied to recalculate the correct 2005 base margin before forecasting 2006 base margin. Over time, we drive retail rates away from the reality of SoCalGas and SDG&E's actual costs unless we correct the index to actual values before forecasting the next year's base margin. Therefore the only revision we will adopt is to recalibrate each base year to actual index values in order to calculate the next year's base margin. The Base Margin Settlement builds in a permanent forecasting error by explicitly not adjusting the index to actual for subsequent years. We do not adopt this approach because rates are divorced from costs and there is no stated or apparent tradeoff in benefits.

There are several differences from the litigated positions and the final positions in the settlement: the proposal of minimum floors and maximum ceilings to the base margin adjustment, the use of the CPI, and not adjusting the base, MPCt-1 when setting MPC.

We recognize that settlements represent a compromise between parties' litigated positions rather than an agreement to any party's specific position. This Settlement is supported by parties representing all various affected interests in this proceeding and represents a fair and reasonable compromise of the issues. We find that the settlements' use of the CPI are reasonable indicators of inflation for SoCalGas and SDG&E for the post-test year period until the next GRC.

19 Note: "t" = the target or current post-test year, e.g., 2005 is the first post-test year; "t-1" is the previous year; the "X-Factor" is the productivity offset factor for year-t; and "Z-Factors" are defined as events unanticipated when the base rates were adopted but recoverable from customers (both X and Z factors are discussed in detail later in the decision). See Ex. 151, p. JVL-14.

20 SoCalGas and SDG&E used an unfortunate labeling convention. The formula ratchets forward every year so that 2006 will become the next "t" year, etc., until the next GRC but the labeling in the formula counts backward rather than forward from the test year, thus "t" and "t-1" change each year. Labeling "t" as 2004 and counting forward as "t+1", etc., would have shown the progression in time from the test year.

21 $1,000,000,000/5,000,000 = $200.

22 $200(1 + 0.04 - 0.01) = $206. (Note that SoCalGas and SDG&E request
X-factors of 1.16% for gas and 0.47% for electric. Using 1.0% here is a simplifying illustration of the formula.)

23 ($206 * 5.2 million) + $10 million = $1.071 billion + 0.010 billion = $1.081 billion.

24 Ex. 950, p. 9.

25 See Ex. 155, p. DTB-3, ff, and Ex 156, p. DTB-3, ff.

26 Ex. 333, pp. 1-4 to 1-6; Ex. 561, pp. 2-4; and Ex. 800, pp. 4-9.

27 Note: Rt. = the Base margin in the current or target year, and Rt-1 = the prior year. See Ex., p. 1-4.

28 Ex. 561, pp. 2-4.

29 Base Margin Settlement, p. 10.

30 Transcript, p. 2696, lines 1 - 15.

Previous PageTop Of PageNext PageGo To First Page