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Fossil in Your Future? A Survival Plan for the Local Gas Distributor

Fortnightly Magazine - April 1 1996

of a real or perceived lack of need; most restrict the cost of gas allocated to competitive markets according to the utility's weighted average cost of gas (WACOG). Such restrictions often render the utility unable to compete.

A growing number of jurisdictions, however, are permitting LDCs to respond to market forces in assigning gas costs. In fact, a number of states (AL, AZ, MN, MS, NJ, OK, UT, WI, and WY) now permit LDCs to arrange for or allocate a particular gas cost or supply to a particular customer under various specified conditions. South Carolina's situation is mixed: Some of its LDCs operate under WACOG-related rules; others operate under rules that are more market-responsive. The most restrictive gas-cost allocation regulations, however, require LDCs to assign incremental gas costs to market-based rates (em often the highest-cost gas within the utility's supply portfolio.

Equally diverse are the treatments required for the margins or earnings associated with market-based sales rates. Fifteen jurisdictions require LDCs to treat such margins like simple core-customer tariff rates, by placing all of the benefit, or risk, of attaining rate case pro forma margins on stockholders. An equal number of jurisdictions permit mechanisms that share the benefits and/or risks of such competitive sales markets between stockholders and firm ratepayers. In most cases, however, these sharing mechanisms are asymmetric. Finally, a few jurisdictions give LDCs only minimal ability to enhance earnings through sales efforts in competitive markets. Minnesota is quite progressive in that it allows the LDC to profit on the commodity cost of gas through its internal merchant service, an agency program, as would any other gas marketer.

In general, LDCs have responded to variable and restrictive state regulation by retreating from competitive markets and setting up separate, nonregulated gas-marketing affiliates. Thirty-four states report active LDC marketing affiliates. Regulators, for their part, have responded by attempting to restrict the activities of "nonregulated" entities via regulation. Thirteen states have various restrictive policies in effect; seven others currently have such policies under review.

Rate Alternatives: A Bigger Pie

If the purpose of utility regulation is to impart normative characteristics of free competition where monopoly power precludes effective competition, the demise of regulation over the commodity aspects of natural gas in commercial and industrial (C/I) markets is long overdue. The chart below displays the impact of third-party access on the C/I market since FERC Order 436. Utility gas sales to C/I customers now account for less than one-half of C/I customer gas usage.

Indisputably, effective competition now exists in the commodity sale of natural gas to C/I end users. So by what rationale do the PUCs regulate gas cost and price in competitive C/I markets? Keep in mind that the transmission and distribution of natural gas continues to be a natural monopoly and, thus, an appropriate subject of regulation.

Furthermore, in certain jurisdictions, the current morass of market-distorting or outdated regulations may stem not so much from intransigent regulators, but from timidity, apathy, or "monopolist mindset" on the part of utilities. My efforts to find the "why" behind various outmoded regulations frequently encountered this