COALITION FOR COMPETITIVE ENERGY
MEETING ON ENERGY DEREGULATION

Good morning. Thank you for inviting me to this meeting. My name is Blossom Peretz, and I am the Director of the Division of the Ratepayer Advocate. As you know, my office represents all utility ratepayers before the Board of Public Utilities, including the business community. I want to hear about your concerns, because my department understands that helping businesses stay in New Jersey is good for the residents of our State. We want New Jersey businesses to be healthy and competitive, and one of the ways to ensure that is to bring energy rates down. I expect that competitive retail electric and gas markets will bring lower rates to New Jersey, but there is a lot of work to do before we can turn over the energy industry to market forces. We must ensure that the transition from a heavily regulated, monopoly utility system to a competitive, restructured industry is orderly and well planned, so that all of New Jersey's ratepayers have a chance to benefit from lower rates and better, more innovative service.

If all we wanted were lower rates, a traditional rate case could achieve that goal. Immediate rate reductions of at least 10% are important and attainable, and may protect electricity consumers from overcharging by the incumbent utilities. However, to address the long term interests of New Jersey's ratepayers, we need a competitive marketplace that affords third party marketers the opportunity to compete effectively with utilities in offering power and other energy services. An effective competitive marketplace, with proper consumer safeguards and supports, is the best way to achieve our goal of bringing down the high cost of energy in New Jersey. If legislation fails to provide a structure that encourages competition to enter the New Jersey market, then competition cannot flourish. That's axiomatic.

In order to achieve effective competition, the barriers that hinder access to the electricity generation and retail power supply market must be removed and competitive energy providers must enter the marketplace. Today's market structure, which grants utilities exclusive service territories, will not be surrendered lightly by the incumbents. To achieve a competitive energy marketplace that will ensure long term rate reductions, we will be focusing on several goals.

First, we believe that stranded cost recovery is an extraordinary remedy that should be considered cautiously. The stranded costs claimed by New Jersey's utilities are, by and large, the result of investments in massive nuclear generating stations, and long-term private power supply contracts with non-utility generators (NUGs). It is the Ratepayer Advocate's position that the utilities have overstated their stranded costs, and have failed to mitigate those costs to the maximum extent. It is also our position that the public utilities are not entitled to recover 100% of these above-market, "uneconomic" investments. Their claims for recovery should be required to meet a high burden of proof, and any recovery should be conditioned on the utilities' efforts to mitigate those costs. Without such efforts on the part of the utilities, it will be difficult to strike the appropriate balance among all the stakeholders over how the burden of stranded costs should be shared. In any event, no utility should be permitted to recover more than fifty percent of its stranded costs.

Having said that, however, I must point out that there will be stranded costs that the utilities should be compensated for. Finding an equitable solution to the problem of stranded costs is going to be the key that unlocks the door to competition for New Jersey. No single stakeholder should be called upon to carry the stranded cost burden alone. Any solution will require a combination of strategies to address questions like: utility-owned generation assets that cannot perform at the market price; above-market contracts for power generation from non-utility generators; and funding of societal benefit programs such assistance for low income residential customers.

Underlying the contentious issues of the utilities' right to recover their stranded costs from ratepayers, is the difficulty with developing a reliable estimate of stranded costs. Administrative valuations of utility generation assets and future energy prices are notoriously risky. For example, predictions in the early 1970's of oil prices reaching $100 or more per barrel contributed to the idea that nuclear plants and independent power contracts would be needed to meet future electricity demand. Look at New York's six cent/kWh avoided cost determination and the fallout that ensued there. There is no doubt that all stakeholders are working hard to develop the best stranded cost estimates possible. The fact is, unfortunately, that the best estimates still only narrow the range of potential stranded costs to $7 to $17 billion.

It is because of the inherent difficulties in establishing administrative determinations of stranded costs that we believe divestiture may be the best way to determine the value of utility generating assets. Divestiture can be accomplished in a number of ways, including a spin-off, a private sale, or through an auction. We feel that a well-run auction process, accompanied by appropriate BPU involvement and sufficient consumer protections, is the best way to maximize the sale price of generation assets. The restructuring proposals filed by GPU and Rockland include divestiture through auction, but their proposals are woefully inadequate in terms of the details provided to the Board and the other stakeholders. For example, the Board is afforded no role in Rockland's divestiture proposal, and will be asked only to approve the end result. We believe that other stakeholders should have more involvement throughout the divestiture process.

The sale of generating assets can provide the true "market value" of the assets, eliminating the guesswork involved in administrative valuations. The auction format guarantees a large number of interested bidders, ensuring that the sale is an arms-length transaction that encompasses the "hidden value" of a generating asset- such as siting, regulatory approval, access to the grid and, more importantly, entry into the market for the winning bidder. For example, recent sales of generation assets in the Northeast have resulted in sale prices well above book value for some plants- a sale of fossil fuel generation by New England Power Company yielded a sale price of 40% over the utility's book investment. Some sales in California have yielded even higher premiums. Divestiture can also enhance competition, since a winning bidder will automatically become a competitor.

In addition to promoting competition, a divestiture proposal must not compromise reliability. We believe that the Board should require potential bidders to meet all state and federal reliability standards currently met by the utilities. Once these primary requirements are satisfied, other considerations should be part of the approval process: the proceeds of the sale should mitigate stranded costs to the maximum extent possible; the societal benefits associated with the generation asset must continue, or be enhanced; and workforce reductions must be minimized, at least in the near term. Divestiture according to these terms can result in a "true" valuation of the utility's generation assets, mitigate stranded costs, and preserve many of the benefits that currently flow from the monopoly utility system.

Divestiture achieves other important goals in opening the market to competition. Divestiture automatically mitigates the problems posed by the vertical market power enjoyed by the utilities by severing the relationship between the generation and T & D functions. This eliminates concerns that the incumbent utility will "subsidize" its generation functions with its remaining monopoly functions. It also eliminates the fear that utilities will favor their own generation in selecting baseline, back-up, or "last resort" generation facilities. Divestiture can also address the horizontal market power currently enjoyed by the incumbent utilities, as long as certain principles are applied. For example, consider GPU's divestiture proposal: if all of GPU's considerable fossil generation portfolio were sold to a single entity, there would be no beneficial effect on competition. California has chosen to address this issue with its incumbent utilities on a case-by-case basis, but has plans to limit purchasers of "blocks" of generating assets to 25 or 50 percent of the incumbent's total capacity. In order for divestiture to achieve the maximum benefits for New Jersey's electricity consumers, it must be conducted in accordance with certain standards that will ensure it achieves the primary goal of promoting competition. If a proposed sale will not promote competition, there is no point in allowing it.

Whether a utility divests itself of generation, or otherwise unbundles its generation functions from its remaining monopoly functions of transmission and distribution, there will undoubtedly remain certain stranded costs. In addition, there will be certain functions that were traditionally performed by the monopoly utilities that may not be taken on by the competitive electric service providers. In the short term, at least, restructuring must account for two types of costs: the costs associated with the ratepayers share of stranded costs, whatever that may be; and the costs of continuing certain programs or benefits that society has traditionally expected from the monopoly provision of electric service.

Most of the restructuring efforts underway around the country contemplate the use of a "market transition charge" (MTC) and/or a "societal benefits charge" (SBC) applicable to all electricity customers who remain connected to the grid. Each charge represents a different concept, and attempts to monazite a feature of the existing monopoly market structure during the transition to a competitive marketplace. The MTC is usually envisioned as a vehicle for recovering whatever portion of the stranded costs that are ultimately allocated to the ratepayers, as opposed to the shareholders. The MTC represents the revenue stream guaranteed to the incumbent utilities from the ratepayers, and would serve as the security for any "securitization" proposal. The primary benefit of securitization is that it can lower the utility costs in a relatively painless way for shareholders and ratepayers. The Ratepayer Advocate is not in favor of large scale securitization, even if all of the benefits (i.e. lower costs) were passed through to the ratepayers of New Jersey. The disadvantages of securitization, which are similar and related to the problems with administrative valuations of stranded costs, outweigh the relatively small benefits that can be derived from securitization. The primary disadvantage is the irrevocability of the ratepayers' obligation to pay the securitization bonds. At best, securitization should be a minor tool that can be used to fine tune certain aspects of the stranded cost issue once the big problems are solved- for example, securitizing a favorable buyout of an above-market NUG contract is a low risk proposition that benefits ratepayers and enhances competition. The use of the MTC should supplement the utilities' mitigation efforts, not guarantee them recovery.

The SBC, on the other hand, is often envisioned to be a permanent part of the local distribution system. This charge will fund social programs that have historically been part of the public utility's mandate. These programs included weatherization and energy efficiency programs, bill assistance, and winter shut-off moratoriums. These programs primarily benefit low income residential ratepayers. The existing portfolio of low income programs reaches fewer than fifty percent of the eligible households in New Jersey, which is why my office proposed expanding the social programs as part of restructuring. The BPU declined our proposal, but we will continue to investigate ways to better protect our most vulnerable citizens. For example, we now have a statewide fuel fund called NJ SHARES that provides temporary assistance to residents experiencing financial hardship. The fuel fund combines private donations with matching funds from each gas and electric service provider, and has about $3 million to start with. The fuel fund will not receive any of the SBC.

This leads me to an issue I know many of you are concerned about. namely, "exit fees," a fee the utilities would like to impose on any customer who chooses to self-generate electricity to compensate the utility for the revenues it would lose from that customer. My office has taken the position that commercial and industrial customers have had the option to self-generate power under our existing regulations, that utilities have been compensated for this risk as part of their existing rates. It is possible that exit fees could be used as a weapon to compel customers not to exercise retail choice, chilling the competitive market. Relying only on exit fees to recover costs "stranded" by the departing customer sets a bad precedent and could be inconsistent with the principles of competition.

Exit fees also have the potential to stifle innovative technologies. For example, the development of fuel cells and rooftop solar photovoltaics could provide small commercial electric customers with a cost-effective alternative to taking electricity from the grid. Exit fees imposed on users choosing these options could result in those technologies bypassing New Jersey. Larger users will no doubt be exploring the trends toward more efficient combined-cycle gas-fired turbines and microgenerators, which could take advantage of low natural gas prices. Exit fees could inhibit such developments.

Since, however, the MTC and the SBC are both contemplated to apply to all customers who continue to take some electricity from the grid, whether it be for primary use or as a back up to another source, the some equitable sharing of these costs must be borne by all stakeholders if restructuring is going to achieve competition without forsaking important social goals or unfairly burdening one or more groups of stakeholders. So what about large customers who sell generate? I look forward to hearing your ideas on how to these mechanisms should be structured.

In conclusion, I would like to thank you for the opportunity to meet with you and share ideas on restructuring. This is a process that will require much more of our attention in the coming months. I look forward to continuing the dialogue with you and the other stakeholders, as we work towards creating a vibrant, competitive marketplace for energy in New Jersey.

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