Download Determinants of the Cost of Electricity Service in PCE Eligible

DeterminantsoftheCostofElectricityService inPCEEligibleCommunities
Preparedfor
AlaskaAffordableEnergyStrategy
NeilMcMahon,ProjectManager
Preparedby
MarkFoster
MarkA.Foster&Associates
Incollaborationwith RalphTownsend,ProfessorofEconomics
InstituteofSocialandEconomicResearch
UniversityofAlaskaAnchorage
January20,2017
AllISERpublicationsaresolelytheworkoftheindividualauthors.Thisreportanditsfindingsshouldbeattributed
totheauthors,nottoISER,theUniversityofAlaskaAnchorage,ortheresearchsponsors.
1
TableofContents
ExecutiveSummary.....................................................................................................................................3
I. Background............................................................................................................................................5
II.Impactofalternativeutilityorganizationalstructuresoncosts..............................................................5
II.A. Compareproductivitybetweenorganizationalstructures...........................................................5
II.B. AttractingprivatecapitaltotheAlaskaelectricutilitysector....................................................15
II.C. Bestpracticesinutilitymanagement.........................................................................................19
III. PostagestampratedesignissuesforPCEcommunities....................................................................20
IV. EnergySubsidyAdministration..........................................................................................................24
V. Summary............................................................................................................................................26
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DeterminantsoftheCostofElectricityService
inPCEEligibleCommunities
ExecutiveSummary
ThisreportisoneoftwocompanionreportsISERpreparedfortheAlaskaEnergyAuthority.Theother
report,“TrueCostofElectricityinRuralAlaskaandTrueCostofBulkFuelinRuralAlaska,”isdated
October26,2016. ThatreportestimatesthefullcostsofprovidingelectricityinruralAlaska,including
thecostsofsubsidiesprovidedtolowerthepriceconsumerspay.Thissecondreportassesseshowthe
costsofelectricgenerationinPowerCostEqualization(PCE)communitiesareormightbeaffectedby
threefactorsthatarenotrelatedtothedifferencesinelectricitygenerationcosts.Thosethreefactors
aretheorganizationalstructuresofutilities,postagestampratedesign,andmanagerialinformation
availableonenergysubsidyprograms.
1. OrganizationalStructuresofUtilities
ElectricutilitiesinPCEcommunitiesareorganizedascooperatives,arerunbylocalvillagesand
municipalities,orareinvestor-ownedutilities. Thescaleoftheseutilitiesvarieswidely,andincludes
regionalutilitiesthatmanageseparateelectricgridsinmultiplecommunities. Areviewofthose
organizationalstructuresindicatesthat:
1.1. Therearesignificantdifferencesindistribution,customerservice,andgeneraland
administrativecosts(DCG&A)acrossutilities. Thesedifferencesarecorrelatedwiththeutility
sizeandorganizationalstructure,withthesmallestutilitieshavingsignificantlyhigherDCG&A
costsperkWh.
1.2. Smalllocalutilitiesthathavemergedwithlargerregionalutilitieshavebenefitedfromreduced
costsandprofessionalmanagement. Incentivestoencouragesmalllocalutilitiestojoin
larger,moreefficientregionalutilitiesshouldbeconsidered.
1.3. Thecostofborrowingforlargelocalandregionalelectriccoopsremainslowcomparedwith
thatforstand-alonelocalvillages,municipalities,andinvestor-ownedutilities.
1.4. Thestategovernmentshouldconsiderallowingareturnonequityasanallowableexpense
withinthePCEcostofservice[AS42.45.110(a)]toenableutilitiestobuildequity,enhancedebt
coverageandfacilitatetheexpandeduseofprivatecapital,andreducedependencyonlimited
publiccapitalresources. Thisprivatecapitalmaytaketheformofinvestorcapitalfor
investor-ownedutilitiesormembercapitalforcooperatives.
2. PostageStampRateDesigns
2.1. Postagestampratedesigns—asinglerateforelectricityforsomesetofcustomers—canhelp
reducecostsandimproveaffordabilityinsmaller,remotecommunitiesthroughanimplicitcost
subsidizationfromcustomersinlargercommunities. 3
2.2. Thesubsidiesinpostagestampratesmaydecreaseincentivesforutilitiestomanagetheir
costs,becausehighercostsmaybesubsidizedbypostagestamprate-making.
2.3. Theincreaseincostinsubsidy-providingcommunitiesrisksinefficientbypassbylarge
commercialorgovernmentusers. Thiscouldincreasethetotalcostofelectricserviceand
leavetheremainingcustomerswithhigherratesanddiminishedaffordability. Separating
communitiesintorategroupsaccordingtotheircoststructuremaymitigate,butnoteliminate,
theriskofself-generatorsbypassingthelocalelectricutility. 3. EfficiencyinGovernanceofEnergySubsidySystems
3.1. ToassesswhetherthePCEprogramisachievingitsgoals,transparentinformationaboutthe
allocationofthesubsidiesandabouttheoperationofthesubsidizedutilitiesisrequired. The
companionreporttothisoneidentifiedsomeissuesaboutreliabilityofinformationgenerated
underthecurrentreportingsystem. Improvementsinthereportingrequirementscould
addresstheseissues. Acommonissueisinconsistencyinaccountingforcapitalthatstateand
federalagenciescontributetoutilities. Thosecapitalcontributionsincludebothgrantsor
low-interestloanstofinancecapitalprojectsaswellassourcesofshort-termgovernment
financing,suchasannualfuelloans,emergencyloans,andwrite-offsofoperatingloansfor
troubledutilities. Ifcapitalinvestmentsforgenerationwereseparatedfromothercapital,
investmentstoreducefuelcosts(suchaswindpower)couldbeassessedmoredirectly.
3.2. ThePCEprogramisoneofseveralprogramsthatsubsidizeenergycostsinruralAlaska,andan
understandingoftheinteractionamongtheseprogramsisrequired. Anannualcompilationof
allstateandfederalheatingandelectricalsubsidysupportsystemsbycommunitywould
enablebetterunderstandingofbothindividualprogramimpactandalsothecollective
programmaticimpactofthesubsidiesonenergyaffordability.
3.3. Informationonsystemreliability,usuallymeasuredasoutagehours,isrequiredtofullyassess
utilityperformance.
3.4. Currently,thereisnoinformationonhowwellthePCEprogramandotherenergysubsidy
programsinruralAlaskatargetfamiliesandcommunitiesthatfacethegreatestenergy
affordabilitychallenges. BecauseoflimitationsonincomedatainsmallruralAlaska
communities,assessinghowwellsubsidiesaretargetedmaybechallenging. However,inlight
ofgeneralinformationthatenergysubsidiesareofteninefficientatpovertyreduction,thisisan
importantquestion.
3.5. TheenvironmentalimpactofenergysubsidiesforruralAlaska,includingthePCEprogram,
throughCO2emissionsandPM2.5emissions,hasnotbeenassessed.
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DeterminantsoftheCostofElectricityService
inPCEEligibleCommunities
I. Background
AlaskahasprovidedsignificantfundstohelpreducetheburdenofenergycostsinruralAlaska. Under
thePowerCostEqualization(PCE)program,thecostofthefirst500kWhofelectricusagebyresidential
customersmaybesubsidizedbythefundsfromthePCEEndowment,ifcertaincriteriaaremet. In
2014,thePCEprogramprovided$39.6millionindisbursementstoutilitiesthatservedover82,000
customersin190communities. ParticularlyinthecontextofAlaska’scurrentbudgetchallenges,there
maybereasontoassesshowefficientlyprogramssuchasPCEareachievingtheirstatedpurposes. Thisreportprovidesevidencethatcontributestosuchanassessmentbyexaminingthreespecificissues: •
•
•
Howalternativeorganizationalstructuresaffectthecostsofelectricservices
Potentialimpactsofcross-subsidiesthrough“postagestamp”ratedesigns
Qualityoftheevidenceavailableonefficiencyofsubsidyprograms
II.Impactofalternativeutilityorganizationalstructuresoncosts
ThePCEprovidesfundstocertainhigh-costutilities.Thesesutilitieshavesignificantdifferencesin
organizationalstructure.Somearecooperatives,somearemunicipalorvillageagencies,andsomeare
investor-ownedutilities(IOUs.)Theseutilitiesvarywidelyinsize.Intwocases,AlaskaPowerCompany
(APC)andAlaskaVillageElectricCooperative(AVEC),asingleentityrunsmultipleutilitiesthatarenot
interconnected.Inthisreport,wecallcompaniesorcooperativesthatmanagemultiplelocalutilities
thatarenotinterconnectedintoasinglegrid“regional”utilities.Thecostofelectricservicevarieswidely
inruralAlaskaamongthesedifferentutilities,andthissectionattemptstodetermineifthereareany
differencesincoststhatseemtobecorrelatedwithdifferencesinorganizationalstructure. II.A. Compareproductivitybetweenorganizationalstructures
ThissectionusesthemostrecentlyavailablecostdatafromPCEannualreports,auditedfinancials,and
ratecasestocomparecosts. Thisanalysisfocusesparticularlyonthesumofdistributioncosts,
customerservicecosts,andgeneralandadministrativecosts(DCG&A)perkWh. Thesearearguably
themostdirectlycomparablecostsacrossdifferentutilities. Thetwoothersignificantcomponentsof
costsarepowerproductioncostsandcapitalcosts. Powerproductioncostsandcapitalcostsdepend
heavilyontheavailablegenerationalternatives. Forexample,autilitywithsignificanthydroelectric
generationcapacitycouldhavemuchlowerfuelcosts. Subsidiesforinvestmentsingenerating
facilitiesandrelatedinfrastructure(suchasfuelstoragesubsidies)cansignificantlyaffectcapitalcosts. 5
Figure1plotstheexpensesfordistribution,customerservice,andgeneralandadministrative(DCG&A)
fortheutilitiesthatqualifiedforPCEpaymentsin2012-16againstutilitysize,asmeasuredbykWh
generation. ItisclearthatDCG&Aexpensesvarysignificantlyacrossutilities. Thesedataindicate
that:
•
TheDCG&Aexpenseforcommunitieswithmorethan6millionkWhperyearhavemedianand
meanvaluesintherangeof$.06-$.07/kWh. DCG&Acostsrangefromalowof$.02/kWhtoahigh
of$.135/kWh.
•
TheDCG&Aexpenseforcommunitieswithlessthan6millionkWhperyeararewidelydispersed
between$.06/kWhand$.40/kWh. Themedianvalueis$.088/kWhandthemeanis$.125/kWh.
•
Themostefficientsmallutilities(lessthan6millionkWhperyear)canprovideDCG&Aatacostin
therangeof$.06/kWh. Thisincludessomecommunitiesthatprovidelessthan1millionkWhper
year.
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7
Figure2focusesonthosecommunitiesthatgeneratelessthan6millionkWhperyear. Whenfocusing
onthesecommunities,wecanseethefollowingdistinction:
•
Bothregionalcoopsandregionalinvestor-ownedutilitiesthatservesmallcommunitieshaveDCG&A
expensesintherangeof$.06/kWhto$.08/kWh. •
City/boroughutilities,villageutilities,localcoops,andlocalIOUstendtohavehigherDCG&A
expenses,withameanof$.17/kWhandamedianof$.14/kWh.
Figure3comparesproductivitybetweenandwithinorganizationalstructures,regardlessofthelevelof
generation. Thenumberofcommunitiesservedbyeachcategoryisindicatedby“n=”. Figure3
indicates:
•
RegionalcoopshavethelowestmedianDCG&Aexpenseof$.065/kWh. RegionalIOUshave
DCG&Aexpensesof$.077/kWh. Theutilitiesservedbyregionalcoopsprovideanaverageof2.0
millionkWhperyearineachcommunity. RegionalIOUsprovideanaverageof2.5millionkWhper
yearineachcommunityserved.
•
Localcommunitycoopstendtoservelargercommunities(12millionkWhperyearaverage.)They
haveahighermedianexpense($.083/kWh)comparedtoregionalIOUs($.077/kWh)butalower
kWhweightedaverage($.074/kWh)thantheregionalIOUs($.079/kWh.)
•
Theotherorganizationalstructureshavemarkedlyhighermediancoststoserveruralcommunities.
Theircostsrangefrom$.11/kWhforcity/boroughsto$.16/kWhto$.18/kWhforstand-alone
villagesandinvestor-ownedutilities.
Largerregionalcoopsandlargerregionalinvestor-ownedutilitiestendtobemoreefficientatserving
smallandlargerruralcommunities,ascomparedtootherorganizationalstructures. Themostefficient
largeregionalcoop,AVEC,includesalargeregionalhub(Bethel)anddozensofsmallervillages. The
consolidationofsmallregionalcoops,investor-ownedutilities,andstand-alonecoopsintoregional
organizationalstructurewouldappeartooffersignificantopportunitiestoreducethecostof
distribution,customerservice,andgeneralandadministrativefunctions.
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Figure4examinestherelationshipbetweenproductivity(measuredasDCG&AcostsperkWh)and
organizationtypeofutility. NotethattheverticalscaleforFigure4representsthesizeoftheutility,
andthehorizontalaxisare“bins”basedonDCG&AcostperkWh. Thehighproductivity(lowDCG&AcostperkWh)utilitiesareCordovaElectricCoopandNomeJoint
Utilities,at$.02/kWh. CordovaandNomearerelativelylargeregionalhubswithannualkWhsaleson
theorderoftentimesthatofmid-sizevillages. Thenextcostcluster,withDCG&Acostsinthe
$.05/kWhto$.06/kWhbinsinclude:
•
•
•
•
•
•
•
I.N.N.(Iliamna,Newhalen,Nondalton)–localcoop
Manokotak-village
AVEC(AlaskaVillageElectricCooperative)–regionalcoop
APC(AlaskaPowerCompany)–regionalinvestor-ownedutility(IOU)
Kotzebue–localcoop
Buckland,KingCove,Unalaska-municipal
Gustavus–localinvestor-ownedutility(IOU)
I.N.N.,whichwe’vecharacterizedasalocalcoop(duetotherelativeproximityofitssmallnumberof
communities)with3millionkWhreportsDCG&Aexpensesof$.058/kWh. AVEC,whichservesalarge
regionalhub(Bethel)anddozensofsmalltomid-sizevillages,isrelativelyefficientwithDCG&Acostsin
the$.06-$.07/kWhrange.
Table1presentsaspreadsheetthatexaminestheimpactofAVEC’sacquisitionoftheBethelutilityin
2014. Thatacquisitionledtoan18%reductioninDCG&A/kWh. AVEC’sexperiencesuggeststhat
regionalizationcanyieldsignificanteconomiesofscaleinDCG&Afunctions. Aftertheacquisitionof
Bethelin2014,AVECDCG&A/kWhfelltothepointthatitis6%belowthatofAPCinFY2015. APCmay
seeanalogousproductivityimprovementsfollowingtheintegrationofGustavusintoitsfamilyof
communitiesserved.
ThisanalysisprovidesanimportantinsightintothecostsofelectricityinruralAlaska. Thecommon
wisdomisthatthesedifferencesaredrivenmostlybydifferencesinthecostsoffuelandinthescaleof
generation. Thisanalysisshowsthatnon-generationcostsare,infact,amajorexplanationforthecost
differences. ThisanalysisstronglysuggeststhattotalDCG&AexpensesperkWhforruralAlaskacould
besignificantlyreducedthroughconsolidationamongthesmallestutilities. TheissueofhighDCG&A
costsforsomeutilitiesmightalsobeaddressedinthesubsidydeterminationprocessbysettingaper
kWhcaponthoseexpensesordifferentiallyreimbursingDCG&Acostsabovesomelevel. Figure5
groupssmallutilitiesbytheirDCG&AcostsperkWh,inone-centincrements,andusesthedatafrom
Figure4toestimatethepossiblecostsavingsthatmightberealizedwereallofthelocalstand-alone
utilities(village,investor-owned,andmunicipal)withDCG&Acostsabove$.07/kWhabletoachieve
$.07/kWhbyjoiningalargeregionalcoop. Theestimatedannualcostsavingsapproaches$15million
peryear,whichislargerelativetothe2014totalPCEsubsidiesofabout$40million.
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Table1.ReviewofDriversofAVECandAPCCostProductivity
(fromAnnualPCECost-Supportfilings)
Description
TotalPowerProductionExpense
DistributionExpense(O&M)
CustomerAccountExpense
GeneralandAdministrative
FY2012
FY2013
FY2014
$9,431,983 $1,235,348 $1,468,554 $3,240,615 $9,575,802 $1,251,252 $1,610,242 $2,899,721 $8,595,848 $1,164,608 $1,690,780 $3,078,979 AllowableFixedCosts
TotalCosts
$4,458,137 $19,834,637 $3,974,548 $19,311,565 $4,387,123 $18,917,338 Distribution,CustomerAccountandG&A
$5,944,517 $5,761,215 $5,934,367 TotalkWhSales(unadjusted)
74,080,714 73,721,925 104,428,156 Distribution,CustomerAccountandG&AperkWh
$0.0802 $0.0781 $0.0568 TotalCostperkWh
Distribution,CustomerAccountandG&A
PowerProductionandFixedCostExpenseperkWh
$0.268 $0.080 $0.187 ComparetoAPC:
APCDCG&AperkWh2015(U-14-002)
AVECDCG&AperkWh2016
Percentdifference,AVECcomparetoAPC
13
FY2015
Percentchange,
2012-2015
$11,234,966 $1,343,691 $2,693,370 $3,349,366 $4,987,352 $23,608,745 $7,386,427 112,845,034 $0.0655 -18.4%
IncludesBethel IncludesBethel partyear
fullyear
$0.262 $0.181 $0.209 $0.078 $0.057 $0.065 $0.184 $0.124 $0.144 $0.0696 $0.0655 -5.9% 14
II.B. AttractingprivatecapitaltotheAlaskaelectricutilitysector
Asdiscussedabove,regionalutilities—andespeciallylargeregionalcooperativesthatprovideserviceto
arangeofruralcommunities—havelowerDCG&AcostsperkWh. Thissectionanalysestheextentto
whichtheselarger,regionalutilitiesarealsoabletoachievealowercostofcapital.
TheanalysisofthecostofcapitalforruralAlaskautilitiesiscomplicatedbythelargestateandfederal
grantsofcapitalforinfrastructuremadetomanyofthesecommunities. Moreover,stateandfederal
programsalsoabsorbsomeoftheoperationalrisksassociatedwithsmallruralutilitiesthroughvarious
typesoffinancialrescueoftroubledutilities. Butevenwiththepossibilityofoutsidefinancialrescue,utilitiesinsmallvillagespresentsignificantrisk
andcashflowvolatility. Thistranslatesintosignificantchallengestoattractingprivatecapital,sothe
equityreturnsrequiredtoattractprivateinvestmentinsmallstand-aloneutilitiesmayexceed20%. Smallutilitiesarealsomuchlessabletoaccessdebtmarkets. Alargeregionalcoopcanachievemuch
morestablefinancialperformanceandcanbeexpectedsaveasmuchas12%(1200basispoints)onthe
costofcapital. Thislowercapitalcostreflectsanestimated4.5%(450basispoint)reductioninthecost
ofequityandamuchheavierrelianceonlowercostdebtfinancing. Thispresentsasignificant
opportunityforsmallercommunitiestoimprovetheiraccesstoprivatecapitalbyjoininglargerregional
governanceandmanagementstructures. Rate-makingforinvestor-ownedutilitiesincludesanallowanceforthecostofcapital,includingboth
interestcostsandareturnonequity. ElectricutilitiesoutsideruralAlaskatypicallyhavemadelarge,
long-terminvestmentsingeneration,transmission,anddistribution. Theyarethereforevery
capital-intensive,andthecostofcapitalcanapproachorexceed50%ofrates. Becauseofthestate
andfederalcapitalgrantstoutilitiesinruralAlaska,thecostofcapitalisasmallershareoftotalcosts. Probablybecauseoftheimportanceofexternally-providedcapitalinruralAlaska,thestatestatutethat
definesPCEsubsidycalculations[AS42.45.110(a)]doesnotallowareturnonequity. Totheextent
thatPCEsubsidiesdeterminethefinancialconditionofruralutilities,notincludingareturnonequity
discouragesprivateinvestmentandgenerallyaffectsdecisionsaboutfinancing. Allowingareturnon
equityinthePCEprogramwouldencourageutilitiestoimprovedebtservicecoverageratiosandto
buildequitythatcanlowerborrowingcosts. Suchchangeswouldimprovetherisk/rewardprofilefor
utilityservicetosmallandmid-sizedruralcommunitiesandtherebyimprovetheirattractivenessto
privatecapital.
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CostofCapitalEstimates
WedevelopestimatesofthecostofcapitalforruralAlaskautilitiesusingthemethodologyofDuffand
Phelps(2016ValuationHandbook-GuidetoCostofCapital.) Wecomparethecostofequityforsmall,
localutilitiestoregionalutilitiesacrossorganizationaltypes. Themergerofsmallstand-alonevillage
utilitieswithalargeregionalcoopyieldsanestimated450-basispoint(4.5percent)reductioninthe
estimatedcostofequity(seeFigure6). Ona$1millioninvestment,acommunityservedbyaregional
coopwouldsave$830,000over20yearsonreturnonequity,ascomparedwithacommunityservedby
asmallstand-aloneutility.
Figure6showsthedatausedtoestimatethis450-basispointdifferenceinthecostofequity.We
createdproformafinancialsforsevenrepresentativetypesofutilities. Theproformasetsoffinancials
forthemostandleastexpensiveutilities,avillagescaleutility,andalargeregionalcooperativeutility,
respectively,areshowninTable2. Thecalculationsshowa450-basispointdifferenceinthecostof
equitybetweenthesmallestandlargestutility. ThedottedlineinFigure6estimatestherelationship
betweenthecostofequityandutilitysizeacrossthespectrumofruralutilities.
Figure6. CostofEquityEstimatevs.AnnualSalesforRuralAlaskaScaleElectricUtilities
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Table2.IllustrativeExamplesofDuff&Phelps2016ValuationHandbookCostofEquityEstimates
usingBuild-UpMethod1extendedtoruralAlaskascaleelectricutilities
Utilitiescanfinancetheircapitalthroughequity(i.e.,ownerinvestments)ordebt(suchasbonds.) In
largeutilities,therecanbemultipletypesofequity(suchascommonandpreferredstock)andmultiple
formsofdebt(suchasbankloans,governmentloans,andbonds.) Forpresentpurposes,itissufficient
toconsidersimplythetwobasicsourcesofcapital,debtandequity.
Thetotalcostofcapitalistheweightedsumofthecostofequityandthecostofdebt:
Totalcostofcapital=(%equity)x(costofequity)+(%debt)x(costofdebt)
Equitycostsbysizeofutilitywereestimatedabove. Thecostofdebtandthedebtandequity
percentageswerecompiledfrommostrecentRegulatoryCommissionfilings(2015,2016),includingPCE
annualreports,annualauditedfinancials,simplifiedratefilings(forcoops),andratecases(for
investor-ownedutilities). TheresultsofthosecalculationsarepresentedinFigure7. 17
Figure7. WeightedAverageCostofCapital–RuralAlaskaElectricUtilities
Thecombinationofgreaterrelianceondebtfinancingandthelowercostofequityforthelarger
regionalcoopprovidessignificantcostofcapitalsavingsascomparedwithotherorganizational
structuresthatservesmalltomid-sizedruralcommunities.
TounderstandFigure7,letuslookspecificallyatthevillagescaleutilitiesandthelargeregionalcoop. Oursampleoffivesmallvillage-scaleutilitieswastakenfromthemiddleofthesmallvillagesize
distributionasmeasuredbykWhperyearinsales. Noneoftheutilitieshadlong-termdebt. A
numberofsmallvillageutilitiesdidcarryoutstandingbalancesontheirfuelloansfromtheStateof
Alaska,butthisshort-termfinancingisnotthesameaslong-termdebt. Therefore,oursampleofsmall
utilitiesis100%equityfinanced. Thiswouldnotbeunusualformanysmallbusinesses,whichdonot
haveaccesstobondfinancingandwhoseriskistoohighforbankfinancing. Toapplythecostof
capitalequation,assumeabankloanrateof5%. With100%equityfinancing,thecostofcapitalis:
Smallutilitycostofcapital=100%*20.9%+0%*5%=20.9%
Forthelargeregionalcoop,theestimatedcostofdebtfinancingis4%andthecompanyisfinancedas
66%debtand33%equity. Thisyieldsatotalweightedcostofcapitalof8.09%.
Regionalutilitycostofcapital=67%*4%+33%*16.4=8.09%
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II.C. Bestpracticesinutilitymanagement
Thisfinalsub-sectionaboutcostsofdifferenttypesofutilityorganizationinruralAlaskaaddressesthe
issueofinternalgovernance. Byinternalgovernance,wemeanissuessuchasprofessional
managementandoversightbyindependentgovernanceboards. Theseissuesarebothmoredifficult
tomeasurethansimplythecostofserviceorthecostofcapitalandalsoareintertwinedwiththosetwo
issues. Amoreprofessionaltechnicalmanagementcanmakeoperationaldecisionsthatreducecosts
andmoreprofessionalfinancialmanagementcanmakedecisionsthatreducethecostoffinancing.
Theissueoftheeffectofenergysubsidiesoneconomicperformancehasgeneratedsignificantinterest,
includinga2013reportbytheWorldBank(L.A.Andrés,J.L.Guasch,andJ.Schwartz[editors].2013.
UncoveringtheDriversofUtilityPerformance.) Thatreportidentifiedfour“bestpractices”that
promoteefficientutilityperformance:
1.
2.
3.
4.
Anindependent,performance-drivenboardofdirectors
Professionalstaff
Transparentmeasuresofprice,performance,andmanagement
Clearmechanismsforevaluatingperformance
TheWorldBankanalysisdoessuggestsomestepsthatAlaskamighttaketopromotebestpractices. Forexample,AlaskacouldrequireperiodicRegulatoryCommissionofAlaska(RCA)reviewofwhether
utilitieshaveachievedaminimumlevelofcompliancewithbestpracticeasathresholdforthePCE
subsidyeligibility. Statutoryauthorityandrulemakingwouldberequiredtoestablishtheminimum
criteriaforbestpractice. SuchcriteriawouldprobablygobeyondsimplytheWorldBankDriversof
UtilityPerformance. Forexample,aminimumworkingcapitalrequirement,suchas45daysofcash
balances,mightbeappropriatetoavoidutilitiesthatareconstantlyonthefinancialbrink. An
alternativetoastrictlyregulatoryapproachmightbetoprovideincentivepaymentsfromthePCE
EndowmentforPCEcommunitiesthathaveadopted“exceptional”levelsacrossallbestpractices. Again,thiswouldlikelyrequirestatutoryauthorityandrulemakingtoestablishanddefine“exceptional“
levelsofbestmanagementpractice.
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III. PostagestampratedesignissuesforPCEcommunities
Overview
ThePCEprogrammakesenergymoreaffordableinhigh-costareas. Dependingonhowtheenergy
subsidiesarefunded,theycanhaveimpactsonthetotalcostofenergyservices. Whenelectricservice
issubsidizedbyPCE,thelowercostofelectricityencouragesconsumerstousemoreelectricity. Toa
greatextent,thisisanintentionaleffect.Aslongasthesubsidyforthelowerratescomesfromsome
typeofgovernmentprogram,suchasthePCEEndowment,thisistheonlyeffectoncustomerdecisions. Butifthesourceoffundsforthesubsidywereinpartfromothercustomers,thentheimplicit
cross-subsidyalsocreatesincentivesforthosewithhigherratestoreducepurchasesofutilityelectricity.
EvenwiththePCEprogram,thereremainwidedifferencesinthecostsofelectricityacrossruralAlaska. Oneproposaltoreducethesedifferencesistocreateasinglerateforelectricityforsomesetof
customers. Theseuniformratesareoftencalled“postagestamprates”,whichborrowsthepostoffice
analogythatfirst-classratesareuniformregardlessofwhereyoulive. Postagestampratesmightbe
appliedattwodifferentlevels. First,allcustomersofacertainclassforautilitymightbechargedthe
samerate. Thus,forregionalutilitiessuchasAVECandAPC,theremightbeapostagestampratefor
allresidentialcustomers. Or,atahigherlevel,theremightbeasingleresidentialrateforallofrural
Alaska. Anotherwaytothinkofpostagestampratesisthatcostsareshared(oraveraged)oversome
setofcustomers. Incentivesunderpostagestamprates
Postagestampratesareimplicitlyasubsidytohigher-costcustomersfromlower-costcustomers. The
centralissueishowthissubsidyisfinanced. Therearethreebroadalternativestofinancepostage
stamprates: 1. ByaredistributionofexistingPCEsubsidies 2. Byraisingratesforthesameclassofcustomers(usually,residentialcustomers)inoneutility
orserviceareainordertolowerratesforcustomersinthesameclassatanotherutilityor
servicearea. Whenthiscross-subsidizationoccurswithinasingleutility,suchasamong
differentvillagesinaregionalutility,thiscross-subsidizationwilloccurasinternalfinancial
flows. Whenthecross-subsidizationoccursacrossdifferentutilities,somekindofpayment
fromthelow-costutilitytothehigh-costutilityisrequired. Thisistypicallyaccomplishedby
somekindofgovernment-runpoolthatmanagesthecollectionsandpayments.
3. Byraisingratesofoneclassofcustomers(e.g.,commercial)tolowertheratesforanother
classofcustomers(e.g.,residential.) Aswithapproach(2),thiscross-subsidizationmaybe
withinasingleutilityoracrossutilitiesbysomekindofpooling.
20
Somecombinationofthethreesourcesoffinancingcouldalsobeused. Allapproachescreate
incentivesthatshouldbeunderstood.
Anyofthethreeapproachescanresultinweakerincentivesforeachutilitytocontrolcosts. Ifhigh
costutilitiesgeteitherhigherPCEsubsidiesorpaymentsfromsomekindofpoolingofrevenues,then
theutilityhasweakerincentivestoreducecosts. GiventheevidenceabovethatDCG&Acostsvary
widelyevenamongsimilar-sizeutilities,thereshouldbesomeconcernthatpostagestamprateswill
servetosupportlowproductivityutilitiesattheexpenseofhighproductivityutilities.
Thecross-subsidizationinapproaches(2)and(3)resultsinsomecustomerspayinghigherrates(relative
totheunsubsidizedcase)andsomecustomerspayinglowerrates. Thosecustomerspayinghigher
ratesthereforehavegreaterincentivestoconserveontheuseofelectricityandthosecustomerspaying
lowerrateshaveincentivestouserelativelymoreelectricity. Fromautilityregulationperspective,the
questionishowstrongaretheincentivestoaltertheuseofelectricity. Muchofthatdependsonthe
alternativesavailabletocustomers. Forexample,ifresidentialcustomershaveaccesstonaturalgas,
thenhigherelectricrateswillencouragethemtoswitchtonaturalgasforcooking,heatingwater,and
dryingclothes. Conversely,lowelectricratescanencouragetheresidentialuseofelectricityforspace
heating. Commercialcustomers,ingeneral,havemorechoiceswhenfacedwithhigherelectricutility
costs. Thequestionofwhathappenstotheoveralllevelofuseofelectricityisimportantbecause
electricutilitiesoftenhavelargefixedcostsforgenerationanddistributionthatdonotvary(ordonot
varymuch)whentheamountofelectricityusedchanges. Decreasesinelectricityuseduetohigher
ratesmayresultinhighercostsperkWhfortheutility.
Thisreductioninuseofutility-generatedelectricitycanbeespeciallyproblematicifsomecommercial
customerscangeneratetheirownelectricityatlowercost. Inthiscase,theymaychoosetoleavethe
electricgridtoself-generate,whichiscalled“by-pass.” Thisby-passwilltypicallyresultinhighertotal
costsforthesystem.
Tounderstandthiseffect,considerasimpleexample.Assume:
n CommunityAhaselectriccostsof$.30/kWhandgenerates10,000megawatt-hoursofpower
peryear,foratotalcostof$3million.
n CommunityBhaselectriccostsof$.10/kWhandalsogenerates10,000megawatt-hoursof
powerperyearforatotalcostof$1million.
n CommunityBhasasinglelargecustomerthatuses5,000megawatt-hoursofpowerperyear
fromtheutility,butcouldself-generateat$.15/kWh.
n Forsimplicity,assumethatthecostsperkWhdonotvarywithoutputforeitherutility.
Thetotalcostforthesetwocommunitiesis$4million. Ifapostagestamprateof$.20/kWhwere
imposed,thenthelargecustomerwouldchoosetoself-generateatacostof$750,000. Thatwould
leave$3.5millionincostsfortheutilities,$3millionincommunityAand$500,000incommunityB. Thepostagestampratewouldhavetoincreaseto$.233/kWh. Thetotalcostofgeneratingthe20
megawatthourshasincreasedto$4.25million,duetotheincentiveforinefficientby-pass.
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By-passisnotatheoreticalconceptinruralAlaska. Thecostsforself-generationforlargecommercial
entitiesandevensomegovernmentfacilitiescaneasilybelowerthantheutilitycosts. Thisisbecause
(a)theself-generatorisoftenusingsimilargeneratingequipment,particularlyincommunitiesthat
generateusingdiesel,and(b)theself-generatordoesnothavetomaintaindistributionlinesandsome
overheadservices(suchasbilling.) Thespecificdesignofapostagestampratewilldeterminethedegreetowhichby-passinincentivized. IfthePCEprogramonlyprovidessubsidiestoresidentialcustomersandonlyincreasesratesforother
residentialcustomers,thenincentivesforcommercialby-passareminimal. Eachutilitywillhavean
incentivetosetcommercialratestoavoidby-pass.Toavoidby-pass,theutilitiesmustbewillingand
abletoloweritsratestoitslongrunmarginalcostofprovidingservicetothecommercialuser. Alaska Power Company as illustrative postage stamp rate design example
Tounderstandhowapostagestampratemightworkinsomeregion,onecouldconsiderthecaseofthe
APCcommunities.
ApostagestamprateattheAPCaveragerateof$.12/kWhfavorshigh-costfrontierareas,suchas
Naukati,WhalePass,Allakaket,Bettles,Eagle,Northway,Slana,Chistochina,andMentasta,whichpay
$.22/kWhto$.27/kWh. ThiswillimplicitlyrequiresubsidiesfromtherestoftheAPCcommunities
(Craig,Hydaburg,Hollis,KasaanandThorneBay),andraisestheirratesby33%,fromthecurrent
$.09/kWhto$.12/kWh. Thatwouldincreasetheriskthatlargelocalcustomers,suchasfishprocessing
plants,willchoosetoself-generate. Thiscould,inturn,raisethepostagestamprateabove$.12/kWh.
Figure8looksingreaterdetailatthecostsforgroupsofAPCcommunities. Thecommunitiesare
dividedbytheirsourceofgeneration,whichisamajordeterminantofdifferencesincosts. Foreach
groupofcommunities,thetotalcostsarebrokendownintoDCG&Acostandpowerproduction
expense. Thatbreakdownhighlightsthatthebookedcostoflocalpowerproductiondiffersbyafactor
ofalmostthree,whiletheDCG&Acostsvaryonlyfrom$.07/kWhto$.09/kWh. Thedifferencein
powerproductioncostsisrelatedto: •
•
•
•
Differencesinaccesstolocalresourcesotherthandiesel. Notably,APCgenerationhas
migratedfrom20%hydroto70%-80%hydroover15years.
Theproportionoftheother-than-dieselresourcethathasbeenfinancedbycontributedcapital
fromfederalandstategrantsandlowinterestloans.
Scaleeconomiesofpowerproductionsystems. ManyAPCcommunitiesareservedbylarger
scaledieselgenerationsystemsandcentralhydroresourcesthatprovidepowertoalocalisland
grid(e.g.,PrinceofWalesIsland.) ForthoseAPCcommunitiesthataresmallerandmore
widelydispersedandthatdependonlocaldieselpowerproduction,thepowerproductioncost
profilesareatorwellabovetheaggregateaverageofAVEC.
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Figure8: RegionalRateGroupvs.PostageStampRates
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IV.EnergySubsidyAdministration
UsingdirectenergysubsidiestotargetcertaindisadvantagedpopulationsisrelativelylimitedintheU.S. AnobviousexceptionwouldbetheLow-IncomeHomeEnergyAssistanceProgram(LIHEAP.) Direct
energysubsidiesaremorecommoninternationally. Ontheotherhand,utilityrate-makingintheU.S.
haslonginvolvedvariouskindsofcross-subsidiesinratedesign,includinglifelineelectricityratesand
“increasingblockrates”thatchargelowratesforthefirstseveralhundredkWhusedpermonth. The
PCEsubsidyisdecidedbytheRegulatoryCommissionofAlaskaandthenfinancedfromthePCE
Endowment. Itistheinteractionbetweenthesubsidyelementsandtheutilityregulatoryelements
thatmakespostagestampratesrelevanttoPCEpolicy.
Directenergysubsidiesontheinternationallevelhavebeenbroadlycriticized. Tworecentexamples
arereportsbytheInternationalMonetaryFund(D.Coady,I.W.H.Parry,L.Sears,andB.Shang. 2015.
“HowLargeAreGlobalSubsidies?”InternationalMonetaryFundWorkingPaper15/105)andbythe
InternationalEnergyAgency(InternationalEnergyAgency.2015.EnergyandClimateChange. AWorld
EnergyOutlookSpecialReport.) Thosetworeviewsfindthatenergysubsidiesarelarge(morethan6%
ofglobalGDP)andthattheyareusuallypoorlytargeted.Lessthan10%ofthebenefitsaccruetopoor
householdsthatfacechallengesinpayingforenergy. Thesereviewsconcludethatthemoneycouldbe
betterspentonroads,hospitals,andschools,ifthegoalisreallytoimprovethewelfareofthelowest
incomegroups.Anotherrecentstudyconcludedthat36%ofCO2emissionswhereassociatedwith
energysubsidies(R.Stefanski.2014.“DirtyLittleSecrets:InferringFossil-FuelSubsidiesfromPatternsin
EmissionsSubsidies.” OxfordCentrefortheAnalysisofResourceRichEconomiesResearchPaper134.)
Developmentaidagencies,suchastheWorldBankandtheInternationalMonetaryFund,frequently
attempttomakeenergy-subsidyreformacomponentoffinancialrecoverypackages,butthesereforms
arenotoriouslydifficultforgovernmentstoenact. Underlyingthecriticismsofenergy-subsidysystemsaretwoarguments: First,theproducersofenergy
varywidelyintheirefficiency. Subsidiesallowinefficientproducerstoavoidconsumercriticism,
becausesubsidieshidetheinefficiency. Earliersectionsofthisreportsuggestthatutilitiesinrural
Alaskadovarywidelyintheirefficiencyinthedeliveryofdistribution,customerservice,andgeneraland
administrativefunctions. Second,consumersofenergyhavemanyoptionsintheuseofenergy,and
subsidiescreateinefficientincentivesforthoseconsumers. Subsidiesencourageconsumerstouse
highercost(butsubsidized)sources;subsidiesreducethepay-offtoenergy-savinginvestmentssuchas
insulationormoreefficienthomeheatingsystems;andsubsidiesencouragegreateruseofenergy. Theadministrationofanenergysubsidyprogramfacestworelatedpolicyissues. First,whatisthe
natureofthetrade-offsbetweenachievingthegoalsofloweringenergycostsforsometarget
populationandtheincentivesthatarecreatedforinefficiencyinproductionandconsumptionof
energy? Thisisaninevitabletrade-offinanyenergysubsidyprogram. Butthesecondquestionis
whetheritispossibletore-designtheenergysubsidyprogramtoachievethegoalsofloweringenergy
costsforthetargetpopulationwithlowerfiscalcosts,withgreaterefficiencyintheproductionanduse
ofenergy,andperhapsalsowithlowerenvironmentalimpact.
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InformationtoassessefficiencyofPCE
ThissectionexaminesthestepsAlaskacouldtaketobetterassesstheefficiencyoftheboththePCE
programandalsothecombinedefficiencyofenergysubsidyprograms,includingthePCE,thataffect
ruralAlaska. TransparencyintheinformationaboutthePCEprogramandotherenergysubsidy
programsisthemainissue.Wesuggestfivestandardsoftransparencyintheseprograms.
1. Informationonenergysubsidiesandonthecostsofutilitiesreceivingenergysubsidiesshouldbe
transparent.
TheAEAannualreportonPCEsupport,withdatabyutilityoncostandpricesupport,providesthe
dataonwhichanyassessmentofthePCEmustrely. AcompanionISERreportonthecostof
electricityinruralAlaskademonstratedthat,inanumberofcases,theinformationfiledwithRCA
(forsubsidydetermination)isnotconsistentwithinformationintheAEAannualreports. Part(but
notall)oftheissueisdifferencesinaccountingforgrantsandlow-interestloansforinfrastructure. TherearealsoissuesabouthowwelleithertheRCAorAEAdataissuitedtoquestionslikethe
efficiencyoffuel-savinginvestments. Sourcesofpowerotherthandieseltypicallyinvolvelarger
capitalcosts,andassessingtheefficiencyofsuchinvestmentsrequiresapresent-valuecomparison
ofthehigherinvestmentcostsandfuturereductionsingenerationcosts. Whiletheannualcostsof
powerproductionarereported,thecostsofcapitalforpowergenerationaregenerallynot
separatedfromothercapitalexpenditures. Separatingcapitalcostsintogeneratingand
non-generatingassetswouldbeveryuseful.
2. Informationonenergysubsidiesshouldbeintegratedacrossprograms.
ThePCEprogramisnottheonlyenergysubsidyprogramforruralAlaska. TheLIHEAPprogramalso
subsidizesenergycosts,andvariousstateandfederalprogramssubsidizecapitalcosts. Thereare
twodifferentissuesabouthowtheseprogramsinteract. Ontheconsumerside,thereisthe
questionofhowwellthevariousenergysubsidyprogramsinteracttocovervulnerablepopulations
withoutprovidingduplicativesubsidies. Ontheproducerside,thereisthequestionofhowthe
variousstateandfederalgrantsandlow-interestloansinteractwiththePCEsubsidy-determination
processandwiththerate-makingprocessforinvestor-ownedutilities. LIHEAP,theAlaskaHousing
FinanceCorporation,andUSDARuralUtilityServicesshouldconsiderworkingwithAEAtoproduce
anAlaskaEnergySubsidyProgramscomprehensivereportthatcollatesdataonthevarioussubsidies
byprogram,bycommunity,byutility,andbyimpactonhouseholdaffordability. 3. InformationonqualityofservicebyutilitiesreceivingPCEshouldbetransparent. Animportantelementofelectricserviceprovisionisreliability. Reliabilityisnotonlya
convenienceissue,butalsoasafetyissue(e.g.,forcustomersusinghomehealthequipment.)The
AEAannualreportonPCEcouldconsideraddingcustomeroutagedata. Fornon-reportingutilities,
AEAcouldconsidersamplingtoestablishproxyvaluesonquality. 4. Energysubsidiesshouldbeassessedtodeterminehowwelltheyaretargetedtothosehouseholds
andcommunitiesthathaveenergyaffordabilitychallenges.
Measuringthetargetingofenergysubsidieshasinherentchallengesinlightofthewell-known
challengesinmeasuringmedianhouseholdincomeforsmallremoteruralcommunitiesinAlaska. Ratherthantryingtomeasureincomeeachyear,itmaymakesensetousetheAmerican
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CommunitySurvey5-yearMedianHouseholdIncomeortheproportionofhouseholdsthatare
eligibleforthefederalfreeandreducedlunchprogram. TheAEAannualreportonPCEcould
measuresubsidyefficiencybythepercentofPCEsupportattributabletothecostofreducing
electricitypaymentstosometargetfractionofmedianhouseholdincome(suchas2percent)for
eachcommunityserved.
Whileitisimportanttorecognizetheinherentchallengesinsuchmeasurements,thatshouldnotbe
anexcuseforavoidingtheissueofhowwellenergysubsidiesaretargeted. Theinternational
evidenceindicatesthatenergysubsidiesoftenfailtoachieveequitygoals. Weshouldwantto
knowifthecurrentPCEsubsidy-determinationprocessfavorsrelativelypoorerorrelativelyricher
communities.
5. Energysubsidiesshouldmeasuretheextenttowhichtheysupport/encourageenergytechnologies
associatedwithhighCO2(globalhealth)andhighPM2.5emissions(localhealth.)
TheAEAAnnualReportonPCEcouldincludeestimatesofCO2andPM2.5emissionsperkWhandin
total. Theeffectsofothersubsidyprograms(LIHEAP,AHFC,andDOA-RUS)onCO2andPM2.5
emissionscouldalsobereported.
V. Summary Theexecutivesummaryatthebeginningofthisreportprovidesadetailedsummary.Herewenotethree
over-archingpointsthatemergefromthisanalysis:
1. Differencesindistribution,customerservice,andgeneralandadministrativeexpensesexplaina
surprisinglargeshareofdifferencesinthecostofelectricserviceinruralAlaska. Itispossible
toachievegreatereconomiesinthosecoststhroughbetterincentivesandthrough
consolidationintheindustry. Consolidationwouldalsohavebeneficialeffectsforthecostof
capital.
2. UsingpostagestampratestoreducethevariationinelectricratesinruralAlaskahastworisks. First,itdilutestheincentivesforefficiencyinproduction. Second,carefulratedesignis
requiredtoavoidcausingusersabletogeneratetheirownelectricitytobypasstheutilities.
3. Transparencyinboththeoperationofindividualutilitiesandintheoperationofenergy-subsidy
programsisessentialifwewanttoreducethecostsofprovidingelectricserviceinruralAlaska.
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