Understanding the Public Service Commission: Part 2

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In Part 1 of this series, we gave an overview of the Montana Public Service Commission (PSC), including a brief history and a description of key elements of its role and structure. In Part 2, we focus on the PSC’s role in energy related issues, and specifically on three important electricity related responsibilities: creating customer classes and setting rates; overseeing long-term planning processes; and setting contract terms for Qualifying Facilities.

Creating Customer Classes and Setting Rates

The PSC is charged with creating customer classes for investor owned utilities, and setting the electricity rates (i.e. prices) for those classes. Since utility customers use electricity and the grid differently, they may be grouped into different classes so they can be charged differently. Per Montana law, “Classifications may take into account the quantity [of electricity] used, the time when used, and any other reasonable consideration.” (MCA 69-3-306).

The PSC sets the monthly base charges (the amount paid regardless of how much energy a customer uses), the volumetric rates (the amount paid per kilowatt-hour of electricity used), and any other special charges such as “demand charges”. The process of setting rates is complex and must take into account a long list of factors. The PSC describes the process on its website:

The PSC’s rate-setting process is like the banker’s loan process, although the PSC certainly doesn’t lend money. Before the PSC sets a utility’s rates, it analyzes the company’s financial statements for accuracy, examines its operating practices to ensure efficiency, and reviews known future events that may affect the business.

There is a major difference between the PSC and the banker, however. The banker would be pleased if a loan applicant could make very high profits. By law, the PSC must allow only those profits that are just and reasonable. In other words, the PSC must allow utilities an opportunity to earn just enough profit so that utility owners will have the incentive to provide adequate service to customers. No more, no less. It is this public interest protection that makes the PSC unique. (Montana PSC)

When setting rates, the PSC must take into account the utility’s total costs for doing business. The costs include everything from personnel, administrative costs, and paper and pencils to things like service vehicles, fuel for those vehicles, poles and wires, and supply resources. Rates are then designed to expect the utility to be able to recover their costs, along with the reasonable profit mentioned in the PSC description above.

Setting rates is done through a general rate case, which is a legal proceeding akin to a court case. A rate case is usually initiated by a utility itself, and can take up to 9 months to complete. Other entities – such as a public utility commission or advocacy groups – can initiate a rate case, but it is very rare. The entity that initiates the rate case must be able to justify why the rates should be changed using data and other information. This responsibility is called the “burden of proof.” This can be very challenging to do, which is why it is rare that a non-utility entity will initiate the rate case.

Most often, rate cases result in an increase in rates. Since rates are designed to take into account all costs associated with a utility’s business, then any increase in those costs could be reason enough to increase rates. For example, if the utility invests in additional infrastructure (like poles and wires) or expands its operations to bring on new staff to provide customer services then they may need to increase rates to cover those costs.

It’s important to note that it is possible for rates to decrease as well. This is much less common, but it is possible. The same reasoning for an increase holds true for a decrease: if the utility’s total costs associated with provided services to customers decreases, then so should the rates. Examples of factors resulting in a decrease in rates are: a decrease in operational expenses; technology improvements leading to efficiencies and/or lower than expected prices for equipment and infrastructure; or selling off an asset earlier than expected.

Rate cases are most often initiated in one of two ways. The first is that a state has laws that require periodic rate cases. The second is that a utility initiates a rate case itself, which is the most common reason for rate cases. Rate cases typically have a number of parties involved that are represented by attorneys. These include the utility, PSC staff, consumer advocates, large industrial or commercial customers, low income customer advocates, conservation organizations, and state agencies. Ratepayers may also participate, although this is generally accomplished by submitting public comment instead of full involvement in the hearings. We will further discuss involvement in rate cases in Part 3.

Overseeing Long-Term Supply Resource Planning

The PSC oversees the long-term supply resource planning processes for investor owned utilities in the state (i.e. NorthWestern Energy, “NWE”, and Montana-Dakota Utilities, “MDU”). Both investor-owned utilities (IOU’s) must submit a long-term plan that details what supply resources it plans on acquiring in order to meet the demand of its customers. A supply resource is a facility (such as a wind farm, solar farm, natural gas plant, hydro-dam, etc.) that generates electricity for the utility to provide to its customers.

Due to Montana’s experiment with deregulation of the utility sector, and the subsequent re-regulation of utilities, NWE and MDU are governed under different sections of Montana law. The planning processes are therefore slightly different and the plans have different names. For NWE, the plan is called an “Electric Supply Resource Procurement Plan” and for MDU it’s called an “Integrated Least-Cost Resource Plan.” While there are key differences, it’s important to note that the processes are more similar than they are different. For detailed information on the history of resource planning and the impact of deregulation and re-regulation, we recommend reading Montana Legislative Services’ “Least-Cost Integrated Resource and Electricity Supply Resource Planning” that was prepared for the Energy and Telecommunications Interim Committee in January 2018. As described on page 2 of that report:

Both planning processes emphasize long-term planning that results in the lowest-cost, most reliable, and most efficient mix of generation resources. Both planning processes focus on:

  • the fundamental relationship between resource planning and procurement and ratemaking;
  • the role of environmental and societal externalities in resource portfolios;
  • the use of competitive resource solicitations;
  • an evaluation of market uncertainty and risk;
  • an assessment of the optimal mix of supply and demand; and
  • public involvement and stakeholder input.

Both long-term plans must be submitted every two years for the PSC to review. In addition, there is an important technical advisory and public input requirement for both plans, which the PSC also monitors. By law, both plans must include a review process from stakeholders prior to submitting the plan to the PSC. In NorthWestern Energy’s case, these stakeholders make up the Electric Technical Advisory Committee (ETAC). For Montana-Dakota Utilities, it is the Public Advisory Group (PAG). The goals of both committees are very similar: review the plan during and after its creation, and provide general and technical stakeholder input to the utility. These committees are typically comprised of stakeholders such as PSC staff, consumer advocates, conservation advocates, economists, regulatory experts, and more. After the plans are submitted, the PSC is responsible for conducting a public input process in which the plans are made available for public review and comment. After this, the PSC reviews them and, by law, must provide their own comments. However, any comments provided do not automatically approve or deny the resource acquisition itself. That happens through an entirely different process.

If a utility would like to acquire a new resource, the PSC will assess their justifications for acquiring that resources and decide whether the justification is reasonable. This is based on a number of different factors, including: energy demand forecasts, alternative options for meeting energy demand, environmental impacts, impacts on consumers, and more.

If the PSC determines a resource acquisition is prudent, it can approve the acquisition and the utility then has the ability to “rate base” the cost. This means that the utility will be allowed to recover the cost of the purchase or investment by including those costs over a period of time in the utility rates that the customers pay. A rate based cost means a utility will not only recover the cost of the purchase, but it will also earn a reasonable profit. Nationally, the average for a reasonable profit for utilities is around 10%. The idea behind this is that the PSC should be authorizing a rate of return that allows the utility to retain shareholders and attract investors. However, it should not be so high that it is a burden on their customers. This pre-approval process happens before the utility acquires the resource, which benefits the utility by removing much of the financial risk from the purchase.

If the PSC determines a resource acquisition is not prudent, it can deny the utility’s ability to rate base the resource. This is to ensure that the utility is purchasing supply resources that are capable of providing energy that the utility needs, and that the need is truly there. If the PSC denies the ability to rate base an acquisition, the utility would need to decide whether or not to move forward with acquiring that resource.

The PSC has a critical role in determining if the resources a utility wants to acquire fit the planning guidelines established, and align with stakeholder and public input. Renewable energy resources are now cost competitive with other supply resources, and it will ultimately be up to the PSC to ensure the utility is considering those resources in the long-term planning processes.

Setting Contract Terms for Qualifying Facilities

In 1978, Congress passed the “Public Utilities Regulatory Policy Act” (PURPA). Amidst the energy crisis of that decade, PURPA was designed to help reduce dependence on foreign oil by promoting energy conservation and domestic alternative energy development. In order to achieve this latter goal, states were directed to create special classes of generating facilities that would receive specific rates and contract lengths. These generating facilities are called “Qualifying Facilities”, or “QF’s”. In order for a project to qualify as a QF, it must meet certain criteria. It must be of a certain generation source (hydro, wind, solar, biomass, waste, or geothermal) or must be a co-generation facility (e.g. one that produces both electricity and thermal heat). QF’s must also be less than 80 megawatts. Lastly, QF’s must be owned by a non-utility entity.

Importantly, PURPA requires that regulated utilities purchase energy from these facilities, either at a negotiated rate or at a rate set by the State’s regulatory commission (e.g. the PSC). According to PURPA, the compensation rates set for QF’s must be equivalent to the utility’s “avoided cost,” or the costs the utility would have incurred would it have either purchased or generated that same energy itself. There are multiple methodologies of calculating the avoided cost. Generally, some of the various considerations that factor into the “avoided cost” value can include: a utility’s demand for energy at different times of day and different times of year, cost or savings from line losses and other grid considerations, avoided environmental compliance costs, savings from deferred additions of other supply resources or infrastructure, and the price of energy on the open market. (The federal definition of avoided cost is available online).

According to Montana statute, a QF may receive a contract in two ways. The first option is that the QF project developer and the utility may negotiate contract terms themselves. If the parties can reach an agreement then a power purchase agreement is signed and the process is done. However, if the two parties cannot agree on contract terms, then they may go to the PSC to set the terms. The second option is for QF’s that are 3 megawatts or smaller. These projects may elect to take a “standard offer” which is periodically set by the PSC and available to any project up to 3 megawatts. The PSC can also set different standard offer contract terms depending on the type of generating facility (e.g. wind, solar, etc.)

The rates and contracts lengths are an essential part of determining a project’s feasibility. These terms will impact a developer’s ability to bring financing institutions to the table to help get the project off the ground. Since the PSC has the responsibility of setting those rates and contract lengths, it has a critical role in the development of these projects. Recent commission actions in this area have created significant controversy. Renewable energy developers and advocates argue that the commission has set terms that are not conducive to QF development, and therefore violate PURPA. These discussions are on-going, and are being covered by media around the state, and have even garnered national attention.

What’s next?

We highlighted three important electricity related roles pertaining to renewable energy issues in Montana. As we discussed in Part 1, the PSC does much more than what we are focusing on in this series. We encourage those interested to continue their own research to learn more.

In the third and final installment of this series, we discuss the impacts of the cost-benefit study on distributed generation, what happens after the study gets filed with the PSC, and how you can get involved to ensure Montana remains supportive of renewable energy. Stay tuned, and be sure to read Part 1!

Sources for this series are listed here. The purpose of these articles is to help inform the public about the purpose and function of the Montana Public Service Commission. MREA does not and is not endorsing any candidate(s) running for election.