Exit Fees

REMARKS OF BLOSSOM A. PERETZ, ESQ.

Ratepayer Advocate

Division of the Ratepayer Advocate

to the Board of Public Utilities

June 19, 1997

My name is Blossom A. Peretz, and I am the Ratepayer Advocate of New Jersey. I want to thank you for the opportunity to address the Board. The Division of the Ratepayer Advocate represents and protects the interest of utility customers in the State of New Jersey, including industrial, small business, and residential customers. This is an unorthodox mix of constituents for a traditional utility consumer advocate, but reflects the fact that no consumer group is isolated from the economic well-being of the entire community. This is particularly true in the developing competitive electric industry, where consumer interest in lower energy costs are a driving force toward deregulation.

The Ratepayer Advocate does not support the imposition of exit fees by electric utilities during the transition to competition for customers who choose on site generation. As we stated in our written comments in this proceeding, we generally do not support exit fees as a mechanism for stranded cost recovery for one main reason: exit fees are anti competitive -- they can be a weapon with which utilities can compel customers not to choose self generation.

In my remarks today I will focus on the first of the Board's 11 questions concerning exit fees. Analysis and discussion of the remaining questions is provided in the written comments filed by the Division of the Ratepayer Advocate.

In its first question the Board asks:

"Should New Jersey's electric utilities, during the transition to competition, be permitted to recover stranded costs, in the form of an exit fee from customers who choose on-site generation as an alternative supply choice?

The response of the Division of the Ratepayer Advocate to this question is simply "No "

Electric utilities should not be permitted to recover the loss of revenues due to customers who choose on-site generation through an exit fee charged to those very customers. This loss of revenues is not a "stranded cost." Rather, it is a loss occasioned by the interplay of the utility with market forces from which the utility has never been protected, and for which the utility has been explicitly compensated through the award of a rate of return on invested capital in the rate-making process. Therefore, it would be inequitable to award the utility for a risk it has already been compensated for, through either an exit fee on the departing customer or the reallocation of these costs to remaining customers. Moreover, for these very same reasons, to the degree that such a revenue loss is experienced by a utility, such loss must not be included in the calculation and recovery of stranded costs in the restructuring process.

Allowing New Jersey's electric utility to levy an exit fee on customers who choose on-site generation today, or on those who have chosen it in the past, would disrupt the existing balance of regulation. On-site generation has always been an option for electric utility customers. The risk that customers will exercise this option is one of the risks for which utilities have been compensated through their rate of return. Because they have been compensated to bear this risk, it would be inconsistent and unreasonable to allow the utilities to shift the associated costs to the departing customers. It is the basic position of the Division of the Ratepayer that the risks and costs associated with on-site generation should stay with the electric utilities who have been paid to assume them.

In its first question the Board explicitly refers to stranded costs. It is very important that the Board not confuse stranded costs, which may exist in the future due to competition, with costs which utilities would experience today due to on-site generation. In its Proposed Findings and Recommendations on Restructuring, the Board discussed stranded costs as follows:

"A significant issue concerning the transition to a competitive power industry is how to deal with the electric utility "stranded costs." These are costs related to generating capacity currently in utility rates, which the utility is at risk of being unable to recovery if the supply market is open to competition."

On site generation is an existing risk of doing business for electric utilities, which, as I have pointed out, utilities are paid to assume. Utilities should bear the risks and costs associated with on-site generation, whether or not "...the supply market is open to competition."

Stranded costs have been defined by the BPU in the context of the anticipated. but not yet arrived, "competitive market." The Board states on page 92 of its report, Restructuring the Electric Power Industry in New Jersey. Findings and Recommendations, dated April 30, 1997, that:

In a competitive market utilities will be unable to recover all of their so-called "embedded costs," that is. the costs associated with past commitments currently included in regulated rates. The amount by which the embedded cost of utility service exceeds the market price for that service, which is therefore regarded as "uneconomic," is generally referred to as stranded costs. Taken another way, stranded costs can be regarded as the potential shortfall in revenues, or "loss," which could be experienced by the electric utilities as competition is introduced and their traditional monopolies are opened up to competitors.

The Board explicitly recognized that, with respect to the potential causes of stranded costs, its focus was on regulatory actions: stranded costs that may arise as the result of recommendations and initiatives to promote competition in the generation sector of the electric utility industry by giving customers the opportunity to choose alternative suppliers.

The loss of revenues to the utility due to self-generation or co-generation differs from the situation where the impairment of cost recovery is due to regulatory actions. Selfgeneration has always been an option for utility customers, and thus an implicitly recognized business risk assumed by the utility, but the utility's monopoly power and economies of scale usually made this option uneconomic. Second, the mere fact that the customer would have to undertake the financing, construction, and operation and maintenance of his own generation has always been a very critical self-limiting factor on the number of customers who will or even can pursue this option. If self-generation has become economic because of changes in technology, the high prices charged by the utility, or the ability of entrepreneurs to put together a completely packaged "product," the loss of the customer to self-generation is due to economic forces, and not regulatory actions.

As numerous United States Supreme Court decisions have made clear, there is no constitutional right to demand a return on the value of an Investment lost by the operation of market forces. An early case illustrating this principle is Covington ~ Lexington Turnpike Road Company v. Sanford, 164 U S. 578 (1896), where a regulated turnpike road experienced a loss of traffic - and revenue - due to competition from railroads and electric trolleys. The toll rate set by the legislature was not enough to return a dividend to shareholders in light of the significant loss of load experienced by the company and the turnpike company appealed. The Court stated:

If the establishing of new lines of transportation should cause a diminution in the number of those who need to use a turnpike road. and, consequently, a diminution in the tolls collected, that is not, in itself, a sufficient reason why the corporation, operating the road, should be allowed to maintain rates which would be unjust to those who must or do use its property. The public cannot be subjected to unreasonable rates in order simply that stockholders may earn dividends.... If a corporation cannot maintain such a highway and earn dividends for stockholders, it is a misfortune for it and them which the Constitution does not require to be remedied by imposing unjust burdens on the public.

[Id., at 596 (emphasis added)]. See, also, Public Service Commission of Montana v. Great Northern Utilizes Co., 289 U.S. 130 (1933)

This principle was affirmed by the Court in Market Street Railway Company v. Railroad Commission, 324 U.S. 548 (1945), where it was determined that reduced rates for a failing railway company were not confiscatory and that the company had no constitutional right to demand a return on the value of the investment:

The due process clause has been applied to prevent governmental destruction of existing economic values. It has not and cannot be applied to insure values or to restore values that have been lost by the operation of economic forces.

[324 U.S. at 567].

Not only is there no right to demand compensation for a loss occasioned by the operation of market forces, utilities have been compensated for the risk of this type of loss through the rate of return. Co-generation and self-generation have been options for customers for many years, and co-generation has been promoted as a national policy since PURPA in 1978. Consequently, these projects can be viewed as representative of the business risk to which utilities have been exposed for some time. Thus, the business risk element included in the computation of the return on equity for any electric utility since that time has - at least implicitly - included an allowance for the risk of this type of loss. In such circumstances, it would be unjust and unreasonable to require ratepayers to compensate investors when that risk comes to fruition. Investors -- and neither the departing customer nor remaining customers -- should bear the associated revenue loss of self-generation or co-generation.

Exit fees should not be necessary if non-by passable wire charges for recovery of stranded costs and societal benefits charges can be made applicable to all customers who retain connection with the system, including self-generators. The only complete "exiters" will be those customers who relocate, e.g., move out of the service territory, or disconnect from the utility system entirely. There would likely be a very small number of customers who could stay in their location and bypass a wires charge by not requiring any stand-by or back-up service The inability of the utility to assess a wires charge in such circumstances should be part of the risk of stranded cost recovery born by investors, and not reallocated to remaining customers.

While the issue of exit fees associated with on-site generation is not logically related to the emergence of a competitive market for electricity, the Board's treatment of exit fees will send an important signal to companies that might participate in that market. Potential competitive suppliers of electricity will be looking to see if the Board will provide a "level playing field" on which to compete. Exit fees for on-site generation, if approved, would send the signal that the utilities are to be permitted to shift costs, unrelated to competition which they would otherwise bear onto the backs of others. If this occurs, who, the competitive suppliers will ask, will bear the utilities' fair share of any costs created by competition? The way to avoid sending a chilling signal, both to those Interested in on-site generation and to those interested broadly in participating in the competitive supply of electricity, is to reject any notion of exit fees associated with on-site generation.

The Ratepayer Advocate also remains concerned about the potential rate impact on a public utility's remaining customers if there is a future requirement to compensate the utility for lost revenues associated with "exiters." As stated it is our position that utilities have been compensated for the risk of this type of loss through the fixing of the permissible rate of return in past base rate proceedings, and there is no reason to award additional compensation if this risk comes to fruition.

Notably, several other states have recently concluded that exit fees are not an equitable mechanism for stranded cost recovery during the transition to a competitive market. Maine recently enacted electric restructuring legislation that specifically prohibits the imposition of exit fees. Section 3209 of the Maine electric restructuring act states that:

A customer who significantly reduces or eliminates consumption of electricity due to self-generation, conversion to an alternative fuel or demand-side management may not be assessed an exit or reentry fee in any form for the reduction or elimination of consumption or reestablishment of service with a transmission and distribution utility.

Similarly, New Hampshire's restructuring legislation provides that exit fees are not a preferred mechanism for recovery of stranded costs.

In summary, consistency with existing regulation, simple fairness, and the desire not to "chill" the emerging competitive market in electricity all argue for the rejection of exit fees associated with on-site generation. In light of this the Board has only one reasonable course of action: reject any notion of such fees out of hand.

Exit fees are anti-competitive and are neither desirable or necessary for an orderly and equitable transition to a competitive electric marketplace.

Conclusion

As we enter a new era of competition in the electric industry, utilities which has been doing business as a monopoly must now prepare for the new power marketplace. They must not only pursue new technologies, new customers and new "products and brands" but must also deal with new business risks. While we recognize the importance of maintaining the financial integrity of the investor owned utilities, there is no obligation of this Board to create a new layer of regulatory protection that will erase the traditional

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