(November 2009)Regulators are in the unenviable position of determining an allowance for ROE that’s fair to consumers and investors in a volatile economy. The cases that stand out this year...
The Coming Conflict
Predicting discord in power plant property tax assessments.
taxing authority. What generators ultimately pay in property taxes also is governed by their assessments. When conditions dictate, generators can appeal assessments with the goal of lowering property tax bills.
Tax Assessments and Methodologies
Property assessments typically are based on fair market value determinations using generally accepted appraisal methodologies. Most nationally and internationally recognized appraisal standards recognize three basic approaches to determining fair market value: the reproduction or replacement cost approach, the sales comparison approach, and the income capitalization approach.
While the assessment standards for each authority are governed by property tax laws, the overwhelming majority of states establish clear guidelines indicating that a specific approach or combination of approaches may be used to determine an asset’s fair market value. Among the 50 states, 43 explicitly allow consideration of the income approach when performing fair market value determinations for property tax assessments. 3 Three states, Arkansas, Wyoming and Indiana, have broadly-defined appraisal guidelines that lack an explicit reference to specific methodologies. Only Maine and Nevada appear to limit fair market value methodologies to the cost approach (see Figure 2) .
For income-producing assets such as electric generators, value is derived from the asset’s future cash flows. By definition, the income approach requires a determination of future cash flows that, for electric generators, draws from market projections of fuel prices, market capacity profiles, generation queues, expected demand trends, market structure, anticipated technological advancements, and expected regulatory changes. In short, the income approach allows an appraiser to extract a present value for an asset based on its participation in tomorrow’s power market. Consequently, the income capitalization approach is the dominant approach recognized for valuing electric generators, and power market expectations are key inputs.
Changes in Gross Margins
To quantify changes in market expectations over time, it’s important to use projections based on a consistent modeling framework, such as the projections and analyses generated by the National Energy Modeling System (NEMS). NEMS is a large-scale energy-economic equilibrium model that computes equilibrium fuel prices and quantities for the entire U.S. energy sector. The U.S. Department of Energy’s Energy Information Administration (EIA) publishes the NEMS forecasts every year as a part of its Annual Energy Outlook (AEO).
Having established a common basis, analysis focuses on the change in market projections from 2006 (based on the 2006 Annual Energy Outlook ), presuming property assessments were determined as recently as four years ago. 4 Expectations of the future power market have changed considerably since then, in that generators now are expected to operate in a carbon-constrained economy (as provided by a NEMS projection incorporating the American Clean Energy and Security Act ).5 Based on performance data for each generator within a state, as provided in EPA’s Emissions & Generation Resource Integrated Database (eGrid2007), and the long-term price projections for fuel, energy, and carbon dioxide allowances, as provided in current and past EIA projections, the expected change in gross margins can be estimated for each generator. 6 Specifically, gross margins for each generator in the eGrid2007 data file can be determined as the difference between energy prices and the