Timely Cost Recovery: Specialized Rate Mechanisms to Maximize Cost Recovery
The following is an excerpt from Ice Miller's Pathways to Success for Utilities Guide which provides insights on a variety of topics potentially impacting utility service providers.
Why are utilities exploring alternatives to traditional rate regulation now more than ever? For two reasons—costs generally increase during periods between rate cases, and utilities more frequently need to make large, new investments in generation, transmission or distribution-system improvements as a result of aging infrastructures. When rates are established in a rate case based upon current or historical investments, it becomes difficult for the utility to recover costs and earn its authorized return in a timely manner.
Expense Trackers are a Means to Recover Certain Costs
To address the issue of recovering increased costs between rate cases, utilities have been authorized by statute to recover the increases in a wide variety of costs through expense trackers. Such expenses include the cost of fuel and purchased power, regional transmission costs, the cost of (and lost revenues from) energy-efficiency efforts, emissions-allowance costs, pipeline-safety compliance costs and costs associated with bad debt. Typically, expense trackers are appropriate when a cost is unpredictable, beyond a utility’s control and substantial. Expense trackers allow the utility to recover its actual costs of the particular expense, no more and no less. Importantly, many of these expense trackers also flow revenues back to customers, such as off-system sales revenues and third-party transmission revenues.
In addition, utilities have implemented a wide variety of capital investment trackers to reflect in rates certain statutorily defined capital investments, such as clean-coal technology, federally-mandated costs, renewable-energy projects, and transmission and distribution improvements. This allows the utility to timely match its investment and the compensation for the investment. These investments are subject to pre-approval by the Indiana Utility Regulatory Commission (IURC) to ensure they offer cost-effective solutions for customers. Examples of capital trackers that have been widely implemented in Indiana include clean-coal technology investment trackers for electric utilities and distribution-system improvement charges for water and wastewater utilities.
Trackers Benefit Both Utilities and Consumers
Trackers benefit utilities by:
Trackers also benefit consumers by maintaining or improving a utility’s credit quality, thereby lowering the
Shortening the time lag between the incurrence of a cost and recovery in rates (otherwise known as “regulatory lag”)
Increasing cost-recovery certainty and lowering a utility’s financial risk by stabilizing earnings and cash flow
cost of debt. The IURC's 2007 Annual Report noted that “a utility’s ability to track certain costs helps support its earnings and is viewed favorably by credit agencies.”