The Electric Competition Debate in...Ohio

Fortnightly Magazine - May 15 1998

WHAT IF YOUR STATE LEGISLATURE THREW A PARTY and you had to go? Best of all, this power party cost less than the one you went to (em and paid more to attend (em last year.

In simple terms, that's how some observe Ohio's latest proposal to convince the state's 11 million wary consumers to choose their electricity provider.

Two Republican state legislators have proposed the consumer-bent transitional system, called retail marketing areas or RMAs, as part of a broad electric restructuring program. The pair, Sen. Bruce E. Johnson and Rep. Priscilla D. Mead, put their program into legislative form March 26.

"I would liken, as a woman, the birthing of this bill to be a breach birth (em it's a tough one," Mead says. S.B. 237 and H.B. 732 call for a competitive electric market in 2000.

Mead co-chairs the Joint Select Committee on Electric Utility Deregulation. The report the legislation is based on, called Competition: Ohio's Choice, is available at

The "baby," to go along with Mead's analogy, hasn't been received well by all. Unions feel there aren't enough worker protections in the legislation. Some legislators have described RMAs as reverse slamming (see sidebar, "Smooth Slamming").

"I'm¼ reluctant to support RMAs, in part because I don't understand them, and because no other state has chosen to go down this road," wrote Rep. Frank Sawyer (D) in response to the report. "It would seem to me that we are taking the artificial service territories that exist today and simply redrawing the lines." Sawyer is former chairman of Ohio's House Public Utilities committee.

How RMAs Would Work

Under the RMA system, fashioned to mitigate market power during a five-year transition to electric competition, the Ohio Public Utilities Commission would oversee subdividing of the state's eight investor-owned utility service territories into about 100 blocs of no less than 100,000 customers each. Each RMA must encompass a "desirable mix" of customers, based on socioeconomic, geographic and load characteristics. Also, RMA boundaries must not produce any transmission or distribution bottleneck that might benefit a particular generation supplier.

Electric customers would choose a generation supplier. However, those in any single RMA who don't choose would fall into an aggregated pool to be served by the supplier who wins the auction for that particular RMA. Each RMA pool supplier would remain responsible for serving low-income customers, with reimbursement from funding sources, and with the right to charge a switching fee in certain situations for customers moving in or out of the pool.

In each RMA auction, the PUC would qualify bidders (incumbents included) and select winners based on price and reliability. Initial bids would run for 30 months; final bids would run another 30 months. After five years, the RMAs would dissolve.

Kenneth Rose, senior economist at the National Regulatory Research Institute in Columbus, says the RMA solution came out of observing barriers to market entry in "free" telecommunications and electric markets. Rose helped legislators develop the report leading to the legislation.

"It's not happening with telephony, it's not happening in many other areas," Mead says. "Our challenge is to say if you don't like the RMAs, then how do you get creative aggregation that takes care of the people who choose not to choose? It's a transition plan to get people accustomed to aggregating their purchase."

"Obviously, it would be best not to have any kind of process if we thought the barriers to entry were low enough," Rose says. "The question is: Are the barriers to entry significant enough that it warrants this kind of action?"

Rose thinks so. And he says Johnson and Mead "want to go as far as they can to ensure that all customers in the state benefit from competition.

"Maybe because they are Republicans, they don't want to be in the position like they're looking out for the big incumbent utilities," he says. "Maybe they're overcompensating. I don't know."

Next question: Will RMAs lead to savings? Toledo Edison, a northern utility with one of the higher residential rates, currently charges customers 9.53 cents per kilowatt-hour for generation and fuel, says Kerry Stroup of the PUC. According to PUC models, first-year savings would mean the same customers would pay 5.51 cents per kWh. That figure includes a 2.61-cent transition charge, which drops to less than a cent in the fifth year of the restructuring plan.

The Rest of the Story

Stranded costs and transition charges play a role in the Johnson-Mead proposal.

The plan gives utilities two options under which to recover stranded costs; securitization isn't one. Securitization is specifically left out in the Johnson-Mead plan, but securitization legislation has been introduced in both the House (em H.B. No. 635 (em and Senate (em S.B. No. 207, by Sen. Roy L. Ray, a member of the Joint Select Committee.

During the transition period, the plan offers recovery of utility production costs through two options: the "performance approach" and the "financial integrity" model.

Under the performance approach, there's an up-front calculation of revenues for the five-year transition. The revenues are based on how a company's cost performance falls relative to a 1995 ECAR regional benchmark.

It's expected that the company will be above current averages. Therefore it would receive a percentage of the difference, Rose says. The difference between the regional costs and their generating cost would decline until the sixth year, when it hits zero.

No one has calculated exact amounts, but here's an example: assume the regional price (actual cost) was just under 4 cents per kWh and a utility generates power for 6 cents. The utility will receive 2.2 cents (110 percent of the difference) times whatever its sales are to receive its total revenue in the first year. In the next year, it will receive 90 percent, or 1.8 cents times total sales. The percentage drops to 20 percent in the last transition year.

So the attraction for the company is it knows how much it will receive. If it can reduce costs below what they are, the utility can keep some of that revenue. "That's part of the incentive," Rose says.

However, utilities in the north of the state, particularly those under the FirstEnergy Corp. banner, feel the performance calculation wouldn't give them full recovery. For them, Johnson and Mead offer the financial integrity approach. If a utility picks that approach, the PUC would determine revenues to be recovered and adjust the total each year.

The recovery method clearly is written for FirstEnergy.

"The difficult issue here in Ohio is the tremendous difference in the financial position between the utilities in the south and the FirstEnergy Group in the north," says Mead. "If there is a circumstance in which we are talking about the survival of the company, then through the financial integrity model the PUC and the utility will work together¼ to make sure there's adequate shareholder return and there is a margin of profit in their rates."

"It calculates a revenue that is needed in order to keep the company more or less solvent," Rose adds. "FirstEnergy¼ is probably the one with the biggest problem in the state."

When Centerior (Toledo Edison Co. and Cleveland Electric Illuminating Co.) merged with Ohio Edison Co. to form FirstEnergy, the company announced billions in write-offs, which included nuclear costs and regulatory assets. It's likely if the utility had no stranded cost recovery, it could go into bankruptcy.

Anthony J. Alexander, FirstEnergy executive vice president, says the financial integrity model offers a means to deal with stranded investment recovery.

"Is it adequate?" he asks. "I can't tell you that¼ I think it's much easier to identify these government-imposed costs that are on utility books right now. We know what they are. They're clearly identified."

Looking at Ohio's two securitization bills gives a complete list of what the state government has put on utilities' books, he says. "And those ought to be dealt with."

He says First Energy has a regulatory plan to address stranded costs, for Ohio Edison (Case No. 95-830-el-unc) and Toledo Edison/CEI (Case Nos. 96-1211-el-unc and 96-1322-el-mer).

"In the rate plans that we have, basically what we've done is agreed to essentially reduce customer charges by about $1 billion between now and 2005 [and] to write off a little over $4 billion of assets in that time frame," Alexander says, "then at the end of 2005, reduce base rates by about 20 percent."

Alexander says he can't tell whether the plans would survive restructuring legislation. "We didn't identify stranded cost, even in the rate plan. What we did was did was identify a bogey number that we agreed we would take off of our books. I think that goes a long way toward getting to the government-imposed cost and mandated costs that are on the books of utilities in the state of Ohio, particularly ours.

"I'm not sure the Johnson-Mead proposal is right for the state of Ohio," he adds. "The fact of the matter is it has some problems in it. It doesn't deal with everything as effectively as it should or could. It deals with things like stranded cost and it deals with things like tax reform which are two critical issues. I'm not sure the proposal solves all the issues."

A Final Footnote

None of these problems promise to be settled soon because, for legislators, tax matters are, indeed, pressing.

Some 35 Ohio school districts have generation property in their boundaries and will be significantly affected by changes in tax funding formulas necessitated by the Ohio State Supreme Court's DeRolph decision.

On May 5, state voters were to decide whether to accept the Legislature's recommendation that sales tax be increased by 1 percent, says Rob S. Tongren, Ohio consumers' counsel. The tax is designed to raise money for the poorer school districts and to reduce local property taxes.

"If the people say 'no,' we're back to the drawing board," Tongren says. "It's very dicey and it has got to infect this whole issue with respect to electric restructuring."

Mead says under the Johnson-Mead plan, the state would tax all electric generation property other than transmission and distribution property on 25 percent of its assessed value, not at the old rate of as much as 100 percent. That will mean a $210 million loss in revenue. Gross receipts tax also would be eliminated, meaning a loss of $452 million in revenue. However, a kilowatt-per-hour commodities tax would bring in $617 million. Lastly, utilities would no longer be exempt from corporate franchise tax, meaning an additional $50 million in revenues.

All of the tax changes equalize on paper, but for legislators, it is a balancing act.

FirstEnergy officials are telling stockholder analysts that because 1998 is an election year, it makes it almost impossible for the General Assembly to pass a restructuring bill, although there's a Republican governor and a Republican majority in the General Assembly. Post-election, the political margins are expected to be the same.

Rose says there's a good chance the school funding ballot will be defeated.

"That's more important, politically, than the fact that this is an election year," he says. "I remain optimistic that the Joint Committee has done the ground work. I think it's possible to pass something this year."

Joseph F. Schuler Jr. is senior associate editor at Public Utilities Fortnightly.

Smooth Slamming?

Committee Legislators Rap RMAs

MEMBERS of the Joint Select Committee on Electric Utility Deregulation have mixed

emotions on RMAs and other pieces of the Johnson-Mead restructuring report.

SEN. LOUIS W. BLESSING JR. (R): "The intent and intended result of the framers of the RMA structure is noble, [but] there are problems that make RMAs the least desirable option¼ Marketing RMAs may present a problem. If this is done via bill inserts, it won't happen. No one reads those things¼ if things go wrong or even if things go right, consumers will reject a change if it is forced upon them. And legislators respond to constituents."

SEN. LEIGH HERINGTON (D): "I believe the report has resulted in more questions being raised than answered. It is therefore my recommendation that the co-chairs¼ provide for additional hearings¼ that may result in consensus support of the entire joint committee. Why are customers who are satisfied with their current electric supplier arrangement be forced into an aggregated group? How is this representative of customer choice?"

SEN. RHINE L. MCLIN (D): "The concept of the RMA is too complex and too costly, adding a layer of bureaucracy which seems to defy the idea of deregulation entirely¼ the pooling of these consumers is tantamount to government authorized 'slamming.'"

REP. LYNN E. OLMAN (R): "The report places a high priority on consumer protection¼ The RMAs are designed to avoid some of the real or perceived pitfalls associated with utility deregulation as it related to customer choice and protection against¼ 'market power abuse.' ¼ The Report's proposal to assign consumers to a supplier if they do not select one seems to consciously limit a consumer's options. The legislation should consider alternatives that provide less restrictive consumer choice."

REP. DARRELL W. OPFER (D): "I cannot support the¼ co-chairs' recommendations for electric restructuring in Ohio¼ Why is the option of transmission divestiture (em the traditional method to mitigate market power (em not further explored[?] ¼ Participation in the ISO is effectively mandated since the only way utilities can recover government-approved transition costs is through ISO participation."

SEN. ROY L. RAY (R): "I would like to begin by focusing [on] ¼ the need to study tax issues¼ the need to reduce regulation in moving toward deregulation, and the need for the securitization of transition costs¼ Securitization can reduce the amount of utilities' transition costs, thus reducing consumers' costs."

REP. FRANK SAWYER (D): "I believe the report falls short in specifying how Ohio will deal with the utility workers that will be displaced by deregulation¼ I'm also reluctant to support RMAs, in part because I don't understand them, and because no other state has chosen to go down this road¼ it would seem to me that we are taking the artificial service territories that exist to day and simply redrawing the lines¼ even though it is temporary, we hand over a great deal of authority to the PUC to draw the lines."

SEN. GARY C. SUHADOLNIK (R): "The creation of RMAs by the PUC¼ would inevitably be subject to strategic `gerrymandering'¼ It would be difficult for generation service providers to bid on all RMAs at once, not knowing in advance how many contracts they will be awarded and, therefore, how much generation capacity they will have."


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