the residual value the generating facilities are expected to hold after 12 years, which would accrue to NEES. The transition charge is fixed at 3 cents per kilowatt-hour (¢/Kwh) for 1998 to 2000, declining to about 0.9¢/Kwh by 2010.
Rates for transmission and distribution would be governed by a price cap that holds them constant in real terms through 1999. However, the effects of extraordinary circumstances would be neutralized by a floor and ceiling. If return on equity (ROE) drops below 6 percent, a surcharge equal to the earnings shortfall would apply in the following year. Similarly, if ROE exceeds 11 percent, customers would be credited one-half the earnings in excess of 11 percent and all earnings in excess of 12.5 percent. After 1999 these rates would be subject to normal ratemaking.
Potential Financial Impact
The proposed legislation would protect NEES's earnings from most of the risks of restructuring. First, the transmission and distribution price cap would be adjusted for inflation, allowing NEES to capture all of the benefits of its productivity gains through 1999, and giving the utility incentive to innovate. Second, the transition charge provides for recovery of and a return on all nonoperating generating expense (depreciation and capital costs), albeit at a low current return of about 8 percent, as an offset to the residual value of the generating plant.
This leaves NEES at risk only for its O&M generating expense, which actually offers significant profit opportunities. Regulation would allow NEES to recover its O&M expenses without profit, no matter how high or low they were. Under the proposal, NEES would sell its power in the market, and earn a profit or sustain a loss depending on its O&M expenses. For those plants with unit O&M costs below the wholesale price, NEES would earn a profit. Where unit costs exceed the wholesale price, NEES would sustain a loss that could be limited to its fixed O&M expenses by stopping production. In the absence of fixed O&M expenses, stopping production would eliminate the loss.
NEES produces about 22 percent of its power with nuclear and hydro plants, whose combined unit O&M cost is 1.7¢/Kwh. NEES would earn a profit from these plants even at current wholesale prices of only 2.2 to 2.5¢/Kwh. Whether it would make a profit from all units combined would depend on its ability to eliminate losses from its higher-cost fossil fuel plants. However, once the current excess capacity passes, the wholesale price should firm, giving NEES excellent profit opportunities from generation.
The longer-term earnings impact of the proposal will also depend in large part on how well NEES is able to redeploy the stranded costs it recovers. On a system basis, NEES would recover about $1.2 billion in stranded investment and $0.6 billion in regulatory assets. If NEES earns a higher return on these funds than it would have earned under regulation, the redeployment would benefit earnings.
Potential Rate Impact
While the proposal's long-term impact on electric rates could be large, rates will probably not decline much for a number of years. For instance, if the