Ratemaking Special Report
Return on Equity:
Fixing an appropriate rate of return on equity (ROE) for electric utility investors marks a fundamental...
California regulators and the utilities they oversee have been talking a lot in recent years about competition. But just being able to "talk the talk" isn't enough (em utility companies and the regulators who monitor them have got to "walk the walk." And on that score, they've just barely begun to crawl. Despite all the marketing hype, the monopoly mindset is still very apparent among industry officials and regulators.Take California's energy industry, for example. With considerable fanfare and hoopla, the California Public Utilities Commission (CPUC) announced in March 1994 that the state's electric industry would soon be "restructured" into a competitive industry in which customer choice would lead to lower-cost service. The impetus for this proposed restructuring was widespread dissatisfaction with the high cost of electricity in California. With electric rates 50 percent higher than the national average, a broad-based coalition of consumer, business, industry, and agricultural customers had already asked the CPUC to reduce rates across the board by 25 percent over the next five years. The high rates stem in large part from earlier decisions by the CPUC that enabled Southern California Edison and Pacific Gas & Electric Co. to pass on to their customers virtually all the excessive costs they incurred building nuclear power plants. (Edison, along with San Diego Gas & Electric, owns the San Onofre nuclear generating station in San Clemente; PG&E owns the Diablo Canyon nuclear power plant in San Luis Obispo.)
The CPUC's announced intent to restructure the electric industry caused utility stock prices to plummet. When the CPUC later conducted public hearings throughout the state to listen to what consumers had to say about the proposed restructuring, hundreds of investors (em most retirees (em demanded that regulators continue to protect the value of their
investment. In other words, they wanted to continue to reap substantial profits off bad investments. The investors' presence at the hearings (em which are normally poorly attended (em followed a carefully orchestrated effort by PG&E, Edison, and SDG&E.
Rewarding Bad Investments
The utilities need not have bothered. When they announced the restructuring plan, California's regulators had signaled their intent to protect the utility companies against any losses stemming from "uneconomic" or "stranded" investments, which are regulatory euphemisms for overpriced nuclear power plants. California's regulators subsequently reiterated their promise to protect investors against such losses when, in May 1995, they released two alternative revised proposals for restructuring the electric industry.
The monopoly mindset leads regulators and investors to conclude they have a right to profit from bad investments. Competitive businesses are unable to pass on such costs because their customers would quickly take their business elsewhere if they did. In competitive industries, poorly managed companies don't survive.
For example, PG&E's blunders in building Diablo Canyon are now legendary. First, the company's geologists failed to identify a major earthquake fault under the plant site. Then, construction workers read the engineering blueprints backward and incorrectly installed seismic supports. The power plant literally was built and torn down twice before PG&E got it right on the third try. In a competitive industry, colossal blunders