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Regulatory Reform in Ontario

Successes, shortcomings and unfinished business.

Fortnightly Magazine - November 2009

distributors were therefore in the second cohort.

A different stretch factor is assigned to each cohort, with relatively more efficient cohorts having a lower stretch factor. The final approved stretch factors are 0.2 percent for the most efficient cohort; 0.4 percent for the intermediate cohort; and 0.6 percent for the least efficient cohort.

The PBR framework also creates three modules that distributors may access. The most important is the incremental capital module, which companies can petition to use if their investment requirements during the term of the PBR plan can’t be financed by the revenues generated under the indexing mechanism. The incremental capital module allows distributors to petition for additional rate relief to recover the costs of identified, non-discretionary capital investments. 8 The second module is a PBR “off ramp,” designed to protect ratepayers and shareholders from exceptionally high or low earnings outcomes under the PBR plan. The off-ramp module can be accessed by either company managers or the OEB, and triggers a review of the terms of the PBR plan if a company’s earnings are more than 300 basis points above or below its allowed ROE. The third module is an exogenous cost factor. This is a standard feature of most PBR plans, and it may be accessed by either distributors or the OEB to recover the costs of unexpected tax, policy or analogous changes that have impacted distributors’ unit cost but aren’t otherwise reflected in the indexing mechanism.

Far from being viewed as a failure, the approved 3rdGenIRM is widely seen as a success by stakeholders, OEB and its staff. Both the working group process and technical conferences led to a great deal of support for the PBR model. The core-module framework also is viewed as a practical, innovative means of balancing a stable regulatory mechanism with the desire for flexibility. These are significant steps forward, since circumstances such as the rate freeze prevented either the first- or second-generation IRM applications from providing a sustainable basis for PBR. While there were inevitably differences between customers and companies on some issues (especially on the values of the productivity and productivity stretch factors, and the design of the incremental capital module), these were less pronounced than the ratemaking disputes in most North American regulatory proceedings. 9

In addition, stakeholders and the OEB agreed that the most significant shortcoming in 3rdGenIRM was the lack of a reliable time series of capital data for Ontario distributors. These data are necessary to develop a longer and more robust set of industry TFP measures. Better capital data also can facilitate more comprehensive benchmarking models that can be used to set future stretch factors. The proceeding ended with a clear understanding of these data limitations, the value of remedying them, and the efforts needed to address the problem. The 3rdGenIRM therefore was effective not only in establishing an appropriate PBR model, but also for pointing the way forward on how best to enhance and refine the PBR framework.

A Menu Approach

In their May 2009 article, Cronin and Motluck criticize the standard approach for developing the terms