2. Background and Procedural History

In 1990, this Commission adopted experimental shareholder incentive mechanisms for the energy efficiency programs administered by the utilities.³ In the following years, we determined that the experimental mechanisms were successful and that the shareholder incentives should be continued on a uniform basis for all four utilities. We directed that future shareholder incentives be tied to the results of measurement and evaluation studies, and proceeded to establish clearly defined protocols for verifying the performance of energy efficiency programs.⁴

By Decision (D.) 93-05-063 and D.94-10-059, we established a uniform shared-savings shareholder incentive mechanism for energy efficiency equal to 30 percent of the portfolio net resource benefits (savings benefits minus costs), once a minimum threshold of performance was achieved. Under the adopted approach, the net resource benefits and associated earnings are projected at the start of each program year, but the utilities collect their earnings in four equal installments over a 10-year measurement period. For each installment, both the projection of net resource benefits and associated earnings are adjusted to reflect ex post (post-installation) measurement results. Each time, a new lifecycle savings estimate is produced to use in calculating net resource benefits, and the utility is only paid an amount that will bring its shared savings earnings up to the appropriate cumulative 30% share of the updated net resource benefits.

More specifically, projections of net resource benefits and associated earnings for a particular program year are adjusted for the first earnings claim by verifying ex post the actual number and type of energy efficiency measures installed, as well as actual program costs. The first (one-fourth) installment of earnings is based on those results. For the utility's second earnings claim, the net resource benefits and associated incentive amounts are adjusted to reflect the true-up of the energy savings estimates based on ex post (post-installation) load impact studies. The savings estimates (and associated earnings) for a particular program year are further adjusted during the third and fourth earnings claims based on the results of longer-term measure retention and energy savings persistence studies. In essence, any revisions are retroactive, and earnings are "trued up" to account for over- or under-claiming of earnings in previous claims for a particular program year.

For example, suppose a utility with a performance earnings basis (based on net resource benefits) of $100 million in the first earnings claim has that amount adjusted to $80 million in the second earnings claim, and then back to the original $100 million in the third earnings claim. This could happen if the first-year load impact study revealed per measure savings less than projected, but the savings retention/persistence assumptions, including expected measure useful life, underestimated those parameters by a commensurate amount. According to the protocols, the utility would earn 25 percent on the first earnings claim, then 50 and 75 percent on previously uncollected amounts for the second and third earnings claims, respectively. Therefore, in this example, the utility's first, second and third earnings claims would amount to $25, $15 and $35 million, respectively. Assuming no change in the results from the final retention/persistence study, the fourth claim would amount to $25 million, for a total of $100 million in earnings over the 10-year measurement period for energy efficiency activities undertaken in that prior program year.

Since 1990, we have also experimented with incentive mechanisms designed to encourage the utility to offer energy efficiency information and direct assistance equitably and without discrimination. As a result, we have expanded funding for Low-Income Energy Efficiency (LIEE) programs and rewarded utilities in modest amounts for administering them. Performance adder mechanisms were put in place by D.90-08-068 to apply to programs funded primarily for equity reasons, such as LIEE, or in which the link between programs and savings is difficult to measure. These mechanisms are similar to a "management fee" incentive. They generally calculate earnings by multiplying the amount of recorded program expenditures by some percentage, usually five percent.⁵

In 1997, the Commission shifted its energy efficiency emphasis from resource procurement to transforming the energy efficiency market and creating a self-sustaining energy efficiency services market. More specifically, by D.97-12-103, we determined that the utility energy efficiency programs would shift toward longer-term market transformation goals, and shareholder incentives for the 1998 program year would be based on agreed-upon milestones that were adopted in the decision. Similar milestone incentives were adopted for program years 1999 (Resolution E-3592), 2000 (D.00-07-017) and 2001 (D.01-01-060). Earnings under these milestone incentive mechanisms were generally paid out in a single installment following program implementation.

By D.01-11-066, as confirmed in D.02-03-056, we effectively ended the provision of utility energy efficiency shareholder incentives for non-low income programs beginning with the 2002 program year. The utilities continue to earn a financial incentive on the implementation of LIEE program activities, although the management fee structure and level has been modified in recent years.

We established the Annual Earnings Assessment Proceeding (AEAP) as the forum for evaluating the utilities' earnings claims for energy efficiency and LIEE programs, with the following review procedures: (1) the utilities file the results of their measurement and verification studies and associated earnings claims, (2) ORA and its consultant(s) independently review those results, and (3) Energy Division's independent consultant(s) reviews the claims, focusing on disputed issues between ORA and the utilities. Program funds have been allocated to ORA and Energy Division for the purpose of hiring technical consultants to perform this independent review.

In accordance with Commission decisions, the utilities file their AEAP applications on the first working day of May, commencing in 1994 through the present. For the 1994-1999 AEAPs, the utilities received timely decisions acting on and approving the requested shareholder incentives.⁶ However, when the electric crisis emerged in full force in 2000, the Commission focused its resources and proceedings on issues related directly to addressing that crisis. This delayed both the scheduling of evidentiary hearings on AEAP matters as well as the allocation of staff and consultant resources to verify the utilities' earnings claims through savings measurement studies or review of milestone achievements.

Review of the utilities' pre-1998 earnings claims was also delayed pending Commission consideration of whether to reopen the rulemaking/investigation that established the 30% shared-savings mechanism. By D.03-10-057, we determined that the type of extraordinary circumstances that would warrant a reopening of that proceeding and a modification/rescission of the adopted incentive mechanism did not exist in this instance. Based on the best estimates of savings to date, we also concluded that (1) the energy efficiency programs implemented (or initiated) during 1995-1997 have paid for themselves and will yield substantial net benefits to ratepayers after the payout of shareholder incentives, and (2) the costs avoided by the pre-1998 energy efficiency programs under a restructured industry are higher than expected when these programs were initiated, to the benefit of ratepayers.⁷

By ruling dated May 6, 2005, the 2000, 2001, 2002, 2003 and 2004 AEAPs were consolidated into a single docket, which we refer to as the "pending AEAPs" in this decision.

The procedural history of the pending AEAPs is presented below:

· On October 13, 2000 ORA submits a partial report on the utilities' 2000 AEAP incentive claims that addresses the pre-1998 energy efficiency program claims. Because of time and personnel constraints, ORA's report does not address the earnings claims for program year 1999 energy efficiency milestone accomplishments or the LIEE earnings claims for 1998 and 1999. On October, 18, 2000, in consultation with the Assigned Commission, assigned Administrative Law Judge (ALJ) Bytoff postpones the 2000 AEAP proceeding until further notice.

· By ruling dated May 9, 2001, the Chief ALJ consolidates the 2000 and 2001 AEAP applications. A Prehearing Conference (PHC) is held on June 8, 2001. At the PHC, ORA reports that its' consultants have begun working on the review of completed first-year load impact studies and verification activities. ALJ Bytoff establishes a schedule for the filing of testimony and Case Management Statement. On July 25, 2001, the consolidated 2000/2001 AEAP is reassigned to ALJ Walwyn.

· Intervenor testimony is filed by ORA and the California Energy Commission (CEC) on September 4, 2001 addressing the specific earnings claims for the 2000/2001 AEAP.⁸ All disputed issues are subsequently resolved among the utilities, ORA and CEC in the October 15, 2001 Case Management Statement.

· ALJ Walwyn holds a further PHC on November 23, 2001 and requests supplemental information regarding:

o How each of the milestones for energy efficiency for program years 1999 and 2000 was verified, what documentation is available, and whether an independent (ORA/CEC) review of milestone achievements was conducted.

o What verification activities and reports were conducted by ORA for the pre-1998 earnings claims.

o Further explanation on the large size of PG&E's third year earnings claim for program year 1995, and

o How adjustments in earnings for commitments that are forecasted, but do not materialize, should be addressed.

· ALJ Walwyn holds a further PHC on November 20, 2001 and requests additional information to assist the Commission in understanding how program earnings relate to program accomplishments over time. The utilities file supplemental tables and written summaries on December 18, 2001 and January 18, 2002.

· In consultation with Assigned Commissioner Lynch, ALJ Walwyn issues a ruling on March 13, 2003 requesting comments on whether the Commission should reopen Rulemaking (R.) 91-08-003/Investigation (I.) 91-08-002 to modify the shared savings incentive mechanism adopted in D.94-10-059 for the pre-1998 shareholder incentives being addressed in the pending and future AEAPs.

· On February 7, 2003, the pending AEAPs are reassigned to ALJ Gottstein, who consolidates the 2000, 2001 and 2002 AEAPs and holds a further PHC on February 27, 2003. The March 19, 2003 scoping memo identifies several procedural steps for resolving the pending AEAP issues.

· Per the scoping memo, and as authorized in D.03-04-055, Energy Division issues request for proposals (RFPs) to 1) evaluate underlying retention and persistence studies for pre-1998 claims and to 2) evaluate the milestone accomplishments for program years 1999-2002.

· On August 21, 2003, the Commission issues D.03-08-028 addressing LIEE earnings claims. The Commission authorizes partial awards for the pending claims. Energy Division is directed to verify LIEE installations for 2000 and expenditure data for 1999, 2000 and 2001 for further Commission consideration.

· On October 16, 2003, the Commission issues D.03-10-057 concluding that the shared-savings incentive mechanism adopted in D.94-10-059 should not be reconsidered, and R.91-08-003/I.91-08-002 should not be reopened for that purpose.

· On June 30, 2004, Energy Division's consultant team, headed by Skumatz Economic Research Associates, Inc. (SERA) completes an assessment of the retention and persistence studies supporting the pending 3^rd and 4^th year AEAP earnings claims for pre-1998 programs. On September 22, 2004, the consultant team completes its draft review of the technical degradation factors also used to support the pre-1998 earnings claims.

· On September 24, 2004, Energy Division's consultant team submits its final review of the milestone achievements for the utilities' 1999-2002 energy efficiency programs.

· A further PHC is held on September 24, 2004 to address procedural steps for considering the consultant team's findings. ALJ Gottstein adopts a two-phase approach to evidentiary hearings: Phase 1 to address the pre-1998 earnings claims, and Phase 2 to address milestone-related earnings claims for 1999-2001 programs. Evidentiary hearings on pre-1998 earnings claims (Phase 1) are scheduled to begin on December 13, 2004.

· Energy Division holds a public workshop with SERA to address parties' questions regarding consultant team's assessment of pre-1998 earnings claims, and to incorporate pending data requests into the team's final report on technical degradation factors. This workshop is held on October 12, 2005. Final reports on retention/persistence studies, including technical degradation factors, are submitted on October 20, 2004.

· As directed by ALJ Gottstein, the utilities jointly supplement their 2000-2002 AEAP earnings claims applications on October 25, 2005 to reflect their pending pre-1998 earnings claims in a consistent format, including a consistent calculation of interest.⁹ On November 8, 2004, the utilities file supplemental testimony on pre-1998 claims that specifically address the consultant team's reports.

· ORA files intervenor testimony on November 22, 2004, recommending that the Commission authorize for recovery the earnings claims associated with pre-1998 programs identified by the utilities in their November 8, 2004 testimony.

· ALJ Gottstein takes the Phase 1 hearings off calendar based on the lack of factual disputes in the testimony and in light of pending settlement discussions between ORA and the utilities.

· On December 30, 2004, ORA, SoCalGas and SDG&E file a joint motion for adoption of a settlement agreement regarding the earnings claims of SoCalGas and SDG&E in the pending AEAPs.

· On April 4, 2005, ORA and PG&E file a joint motion for adoption of a settlement agreement regarding the earnings claims of PG&E in the pending AEAPs.

· On June 20, 2005, ORA and SCE file a joint motion for adoption of a settlement agreement regarding the earnings claims of SCE in the pending AEAPs.

As indicated in the chronology above, the Commission's review of earnings claims associated with the pending AEAPs have been delayed due to (1) limited resources in the wake of the electric crisis, (2) the Commission's inquiry into whether to reopen and reconsider the pre-1998 shared-savings mechanism, and (3) the necessary process undertaken to supplement the record with Energy Division's verification of retention and persistence study results, technical degradation factor assumptions and program milestone accomplishments. As discussed below, we consider this information along with the testimony and comments submitted in this proceeding in evaluating the reasonableness of the settlement agreements before us today.

As a context for our discussion of the settlement agreements, we describe in Attachment 2 how the pre-1998 shared savings mechanism functions based on the results of ex post verification and measurement studies, and present a numerical illustration of how it works for a specific program. Attachment 3 provides a description of the specific incentive mechanisms that have applied to LIEE programs since 1999, and Attachment 4 presents background and a description of the 1999-2001 milestone incentive mechanisms.