March 15 , 2002
Recovering Local Distribution Costs
In electric power, telecommunications, water, and natural gas, the costs of local distribution make up a significant share of the cost of providing services. For any network or system, the cost of distribution facilities is largely or entirely independent on usage; i.e., such costs are largely invariant to the number of phone calls, kilowatts, British thermal units (BTUs), or gallons that customers use. How these costs are recovered is of critical importance, especially as utilities face increased competitive pressures.ACCESS:
A SERVICE IN ITS OWN RIGHT
Access to any system or network represents a service in its own right. If I own a vacation cabin with telephone, electric, water, and gas services available, I may never use any of these services over the course of a year. However, simply having the option to use these services is of value to me. For each of the utilities, providing me with the option to use these services imposes a substantial cost as well.
In real estate, financial markets, and contracts in general, options are well developed and are
generally recognized to have a separately identifiable price and cost. For example, most businesses leasing office space will also purchase the option to expand to larger quarters if the need arises. For utility customers as well as businesses leasing space, the option to use facilities has a value. Similarly, having the facilities to provide this option has a separately identifiable cost.
Customer Perceptions. Nevertheless, one can easily confuse the perspectives of the customer and the utility, and in so doing, conclude that the costs of the local distribution network/system represent costs incurred by the local exchange telephone carrier (LEC) that are "common" to its production of multiple services (see sidebar for discussion of the term "common costs"), when in fact they generally are not.
Local distribution costs are not common production costs to a portfolio of LEC services simply because the LEC's customers view the services in that portfolio as complements to one another. Instead, local distribution costs are incremental or marginal to the provision of access to the utility system or network.
Think of a telephone company's business customer who offers two products (em fresh fruit sold locally, and canned fruit sold nationally. All of the firm's local telephone calls support its fresh fruit business; its long-distance calls are made specifically for its canned fruit product. The firm pays a monthly fee of $25 for subscriber (end-user) access to the telephone system/network and pays separate charges for local and long-distance calls. This firm may properly consider the $25 monthly subscriber access fee as a cost common to the provision of its two products, fresh and canned fruit. However, a customer's use of local distribution facilities has no bearing on whether the costs of providing the facilities are common to multiple services or directly attributable to a single service for the utility. The utility's cost in providing a service does not become a cost common to several utility services simply because utility customers happen to use one service for their own multiple activities. This distinction (em between