Electric Utility Deregulation: It's coming and it will affect almost everyone
(from Maine Townsman, June 1996)
By Michael L. Starn

Electric utility deregulation is a complex and far reaching movement that is sweeping the nation. Government officials in Washington are pushing it, and many states have begun the process of planning for and, in some cases, implementing a deregulation timetable for the electric utility industry.

This movement to deregulate the electric companies comes on the heels of the landmark Congressional deregulation of the telecommunications industry-- phones, cable and Internet-- unleashed by the federal Telecommunications Act of 1996. The widely acknowledged success of the breakup of AT & T in the early 1980's clearly has provided the impetus for federal and state policymakers to look at other areas--like electric utilities--where a competitive environment might be able to replace regulated monopolies.

Everyone will, or could, be affected by electric utility deregulation including the utilities, individuals, small and large commercial businesses, industries and governmental entities. While there is a great deal of excitement and anticipation of greater efficiency and lower electrical rates resulting from electric utility deregulation, there is also a great deal of apprehension that has built up among the individuals and groups presumed to be most affected by policy and regulatory changes.

THE PUSH TO DEREGULATE

The breakup of AT & T. deregulation of the airlines, and the recent changes in telecommunications have created a new attitude among Washington officials, Democrats and Republicans, toward the concept of deregulation. The deregulation mantra has political appeal to both parties.

Electric service has not always been controlled by a few large corporations regulated as utilities by governmental agencies. In fact, during the early days of electrical power, several electric power companies competed to provide electricity to homes and businesses in special geographical areas. The City of Chicago had 24 electric service providers in 1900, according to an article in the May/June, 1995, issue of Technology Review.

The development of large, highly efficient steam turbine generating plants made it impossible for small electric companies to effectively compete, however. Most of the smaller private and public electric service companies were gobbled up by large corporations. As the utility industry evolved into a number of giant, private companies with virtual locks on the customers in a given service area, government stepped in and formed regulatory commissions to oversee the sale and service of electrical power.

Regulation of today's electric utility industry is done at both the federal and state government levels. The Federal Energy Regulatory Commission (FERC) is primarily concerned with the interstate transmission of power, while state regulators, such as Maine's Public Utilities Commission, set electric rates and adopt energy policies for utilities providing electrical service or producing electrical power within a state.

Historically, state public utilities commissions have allowed electric rates to be set using cost recovery plus a reasonable rate of return. Using this approach, utilities could be assured that their operating and capital costs would be covered along with a reasonable profit for their shareholders. This rate setting method also encouraged utilities to construct energy generation facilities or sign long term contracts with independent power producers to ensure ample capacity that would stay ahead of demand. Since costs would be recovered, they gave only superficial attention to the price tags of these projects and contracts.

FEDERAL ENERGY POLICIES

For decades, this rate setting system worked reasonably well for both the utilities and their customers. Electric rates stayed relatively steady and the utilities were considered a safe and reasonably profitable place for stock investors. International events and subsequent federal policy changes over the past 20 years, however, changed this perception.

In 1978, the Federal Energy Regulatory Commission passed the Public Utility Regulatory Policy Act (PURPA). Responding to the oil crisis of the 1970's, the object of PURPA was to encourage the development of independent power producers (IPPs) to provide an alternative to the industry's heavy reliance on fossil fuel power generators.

In 1992, the Public Utilities Holding Company Act (PUHCA) was amended to allow for the "wholesale wheeling" of electric power. This amendment opened up the wholesale power market to utilities. Prior to this amendment, utilities were generating or purchasing power primarily from themselves or through contracts with IPP's. They had been proprietary about the use of their lines for distribution of power. PUHCA forced utilities to open up their transmission lines to power marketers outside their service areas. The price of electrical power was now subject to the competiveness of an open market.

STRANDED COSTS

Wholesale competition for electric power has led to disparities in the cost of electricity in various parts of the country. New England electrical consumers pay some of the highest prices in the country for electricity. According to data from the New England Power Pool, published in the Winter 1996 edition of Regional Review, a quarterly magazine of the Federal Reserve Bank of Boston, New England's residential electric rates average around 12 cents per kilowatt hour while the rest of the country averages around 8 cents, and industrial users of electricity in New England, even though they pay considerably less than residential customers, are spending almost twice what their counterparts in other areas of the country pay for electric power. According to information from the Public Advocate's Office, Maine's residential electric rates are 11.43 cents per kilowatt hour, second among New England states, and its industrial rates average 6.96 cents per kilowatt hour, lowest in New England.

FERC's emphasis on alternative power production in the early 1980's had encouraged private sector development of electrical power production. Also, the economic boom of the 1980's, particularly in the Northeast, had stimulated utility investment in power generation facilities. And, to many energy economists' surprise, oil prices stabilized. In combination, these events let to a national power surplus and cheaper power becoming available on the open market.

Unfortunately, many utilities in Maine and several other states had signed contracts obligating them to buy electricity from IPP's at much higher prices than what was being paid on the open market. The difference between what a utility would pay on the open market for electric power and the actual cost of providing electricity to its customers (because of IPP contracts and other factors) is commonly referred to as a utility's stranded costs.

The price of electric power on today's open market ranges from 3 to 5 cents a kilowatt hour, according to various sources. Many IPP contracts were signed by utilities in Maine, and in other states, at prices two, three and four times that amount.

"Who will pay for stranded costs?" is the biggest obstacle in the deregulation debate. Will it be the electrical consumer or the utility shareholders or a combination of the two?

MAINE'S PATH TO DEREGULATION

The State of Maine has taken some preliminary steps down the road to electric utility deregulation. Those involved in Maine's attempt to deregulate its electric utility industry predict some rough sledding.

Since FERC has taken the lead in deregulating the interstate transmission of power (wholesale wheeling), the states are left to decide the extent of "retail wheeling", or competition at the customer level. "Wholesale wheeling" allows competition among utilities who wish to purchase power on the open market. Retail wheeling will permit individual electric customers to choose their power supplier, much like they now choose long distance telephone carriers.

"The process to deal with (electric utility) deregulation has been set up in Maine", says Evan Richert, director of the State Planning Office. Richert says that the extent and timing of that process has been determined by the Maine State Legislature.

The Legislature got involved with deregulation last year when it suggested that all interested parties (stakeholders) get together with the PUC and before the end of 1995 see if they could agree on a plan for opening up retail competition. They met, they talked, but they were unable to agree, says Richert.

Foreseeing that phase one of their plan might not work, the Legislature directed the PUC, on its own, to come up with a proposal for retail competition. Anticipating a few stumbling blocks along the way, the Legislature said that the PUC must prepare a plan for complete retail competition and, if need be, could also prepare one that outlined a modified form of retail competition. Over the last couple of months, the PUC has been holding public hearings on the deregulation issue. According to Tom Welch, chairperson of the Maine PUC, a draft plan for deregulation will be released on July 19, 1996.

Electric utility deregulation may not be a wise thing for the State of Maine to be out front on", says Welch. He sees the likelihood of something going wrong for those leading the deregulation movement as much greater than for those who take a cautious approach.

"A lot of risks are involved in deregulation," says PUC's Welch. The test, he says, will be coming up with a plan that "makes sense economically, but doesn't collapse politically."

Welch says that as you move toward competition things will get rougher for certain groups of people. Low cost energy producers will profit, and high cost producers will find it hard to sell their power. Municipalities may be directly affected by this restructuring. Some high cost energy producers, who are also large property taxpayers, will lose their market position and may be forced to lay off employees and perhaps contest their roperty valuation.

The most difficult aspect of the PUC deregulation plan will be dealing with the issue of stranded costs. According to published reports in the Bangor Daily News, CMP estimates its stranded costs to be about $2 billion and the other two principal utilities in the state, Bangor Hydro and Maine Public Service, estimate stranded costs of $250 million and $60 million, respectively.

If the utilities are allowed to recover all their stranded costs, retail competition will be a hollow shell. "Stranded cost recover would eat up the entire price differential" says Welch. A utility might get wholesale power at a bargain price but by the time that stranded costs are added on, customers would find their electric rates very similar to what they are presently paying.

NUG CONTRACTS

Municipal officials around the Penobscot Energy Recovery Facility (PERC), which is responsible for disposing of about 28 percent of Maine's municipal solid waste, are concerned about the security of the company's contract under a deregulation plan.

In the mid1980's, PERC negotiated a 30-year contract to sell power to Bangor Hydro. The contract obligates Bangor Hydro to purchase the' power at a price of 12 cents a kilowatt hour until 2018.

In a Bangor Daily News article May 30, 1996, the President of Bango Hydro, Robert Briggs, was quoted al saying, "We are paying 12 cents a kilo watt hour for electricity that is worth only 3 cents. That translates into $13 to $15 million per year problem for us and for our service area's electric costs. It ought not be part of the cost of energy in an increasingly competitive environment."

Statements, such as this from Bangor Hydro officials, prompted a letter from Earla Parks, town manager of Levant, to MMA Executive Director Chris Lockwood. In the letter, Parks says, because of statements made by Robert Briggs, CEO Bangor Hydro, at a recent Bangor Region Chamber of Commerce breakfast, I am concerned that unless there is a thorough, indepth investigation of the municipal issues hidden in the 'restructuring', the general public may be duped into thinking that saving energy costs will ultimately save tax dollars."

In the same Bangor News article that quoted Bangor Hydro's Briggs, Gregory Lounder, clerk of PERC's Municipal Review Committee, responded, "Expectations that the local property tax could shoulder the burden of strandable costs in this case would be unthinkable."

The TOWNSMAN posed the question of PERC's (or other NUG's) contract with Bangor Hydro to several key figures in the deregulation debate.

Stephen Ward, Maine's Public Advocate, said "I don't want to bankrupt the electric utilities, but at the same time, it's important to protect independent power producers."

PUC Chairman Tom Welch replied, "On the issue of fulfilling obligations of a contract, I don't think it likely that PUC or the Legislature would pressure NUGs into giving up their contractual rights."

SPO's Evan Richert said, "I doubt that state government would require the breaking or breaching of a contract. A contract's a contract. I don't think that abrogation of (NUG) contracts will be part of the (PUC) plan."

Julie Rowe, executive director of the Independent Energy Producers of Maine, responded, "We are very concerned that contracts be protected. They (IPPs) have a legal right to expect contracts to be honored."

CUTTING A DEAL

One NUG that has successfully negotiated a buyout with a major utility is the Maine Energy Recovery Company in Biddeford.

Maine Energy had a contract with Central Maine Power Co. to sell power at a little over 16 cents a kilowatt hour until mid-2007. Negotiations to buy out that contract were recently completed by Maine Energy, CMP and a third party, the investment company Citizen Lehman. Ted Hill, vice president of KTI and managing general partner of Maine Energy, is happy with the deal. "We were able to come up with a balanced, sensible deal," he said, "Clearly, a win-win (deal)."

The essence of the deal was that Maine Energy agreed to a lower price for energy (down to $7.18 cents per kilowatt hour) in exchange for a five year extension on their contract and a cash buyout of $85 million to void the current contract.

"We came out in a very strong position," says Hill. Maine Energy used the cash to pay off its resource recovery bond of $64.5 million and retired some other short term debt.

Moreover, the company was able to reduce the tipping fees for its host communities (Biddeford and Saco) by $4.30 a ton, down to $20.50, and its long term contracts by $8.60 per ton to a level of $41.40.

"It was not an adversarial negotiation," says Hill, adding that during the course of the negotiations Maine Energy and CMP "became good corporate friends."