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Another Side to Decoupling: Share the Gain, Not the Pain

The New Jersey Board of Public Utilities finds incentive programs may be a better way.

Fortnightly Magazine - August 2007

Regulated gas utilities have become increasingly enthusiastic about rate-design “decoupling” in recent years, as soaring gas prices have threatened the companies’ delivery margins and, ultimately, their earnings. Advocates of energy efficiency, conservation, and renewable energy also are strong proponents of decoupling mechanisms.

Utilities see decoupling as a way to avoid disincentives to promote conservation and energy efficiency by removing the need to increase throughput to maintain or increase profitability. Many regulatory agencies and consumer groups, on the other hand, view decoupling proposals as attempts to further insulate gas utilities’ profit margins from the vagaries of the marketplace while placing consumers at added risk of increased gas bills.

New Jersey has found a way to achieve conservation objectives while maintaining the regulatory objective for utilities to operate efficiently, without placing additional risk on consumers. The ultimate result is to share the conservation benefits between the utility and the ratepayers.

First, we need to define the term “decoupling” as used for ratemaking purposes. Decoupling can be viewed as any mechanism that severs the relationship between changes in throughput and revenues. Aside from a customer charge, the rates for most gas utilities are set per unit of energy used. 1 If consumption rises, the revenues that flow to the gas utility also increase. Lower consumption results in less revenue received by the gas utility.

The bulk of delivery costs incurred by gas utilities, in contrast, is considered fixed rather than variable. The delivery charges of most gas utilities are set based on an assumed level of throughput. Changes from the assumed level of throughput will be reflected directly in the net revenue received by the gas utility. If costs remain the same, changes in throughput will either raise or lower the gas utility’s profit margin.

Thus, under traditional rate-design structures, gas-utility revenues increase when throughput increases and decrease when throughput declines. The level of throughput is affected both by changes in use by existing customers and the addition of new customers. 2

Types of Decoupling

One example of a partial-decoupling mechanism is the weather-normalization clause. This type of clause, which many states have used, provides for rate adjustments when temperatures deviate from a previously defined normal level. When colder than normal weather occurs, rates are adjusted downward to reflect the net revenue that would have been obtained under normal weather conditions. When warmer than normal weather occurs, rates are adjusted upward. The clause acts to reduce the volatility in the gas utility’s net revenue. The logic behind the clause is twofold: first, weather variations can result in significant changes in net revenues; second, the weather is outside the control of the utility. Decoupling proponents would expand this concept by compensating for any change in throughput, regardless of

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