The issue
The electric utility industry requires large amounts of investment to maintain and improve service. The Brattle Group, a leading energy think tank, estimates that the industry will spend $1.5 trillion for capital improvements from 2010 to 2030, not including the cost to address carbon emissions.
Source: Edison Electric Institute
The challenge
There are limited resources to meet utilities’ financial obligations and the duty to serve customers. As equipment on the system ages, it will have to be replaced. Environmental mandates also require significant investment, and that could lead to some coal plant retirements. In addition, power reserves — the additional capacity needed to cover an abnormally high peak load or provide power to a neighboring region — are shrinking across the country. The North American Electric Reliability Corp. projects that, by 2018, all regions of the country will have fallen below these requirements, and investment is needed to address that capacity shortage.
Increased investment inevitably leads to increased rates. Alternative ratemaking (as opposed to the traditional model) is one way to address rising costs.
The solution
Alternative ratemaking can mitigate regulatory lag (the time between when a utility makes and investment and when the investment is recovered through rates) and regulatory uncertainty (the risk that an utility commission will disallow recovery of an expenditure).
Mitigating regulatory lag
- Future test year
- Nuclear pre-construction cost recovery
- Construction cost recovery mechanisms
- Environmental cost tracker
- Single fixed variable methodologies
- OATT pass-through
Mitigating regulatory uncertainty
- Up-front rate determination
- Competitive RFP/certification procedure
- Pre-defined acceptance criteria
- Least cost planning – presumption of prudence
Utility company bond ratings are decreasing
Electricity Demand Projections
AEP position
Our financial success is based on our ability to obtain capital on favorable terms, which in turn depends on access to the capital markets, the strength of our credit ratings, and prudent management of our balance sheet.
We will grow the company by putting capital to work at fair rates of return. We will retain our access to credit markets by maintaining our investment grade credit ratings. We will maintain our equity strength by rewarding our shareholders with a stable dividend. These are the hallmarks of a financially strong electric utility.
