1 Energy Efficiency Incentives Sonny Popowsky Pennsylvania Consumer Advocate September 20, 2011 Keystone Energy Efficiency Conference Harrisburg, PA PA Office of Consumer Advocate 555 Walnut Street Forum Place, 5th Floor Harrisburg, PA (717) Telephone PPTX

The History of Decoupling in Pennsylvania – The NFG Case In 2006, National Fuel Gas Distribution Company (NFG) in Erie filed a rate case that included a proposed rate “decoupling” mechanism under which the Company’s revenues would be “decoupled” from its sales. That is, if the Company’s sales declined due to the utility’s energy conservation efforts or for any other reason, the utility’s rate per unit of gas sold would increase. If sales increased between base rate cases, the Company’s rate per unit of gas sold would decrease. 2

The Decoupling Debate in PA — NFG Consumer Reaction Over 1,260 individual consumer complaints were filed in the NFG rate case, nearly all in opposition to the decoupling proposal. Consumers perceived decoupling to be a “penalty” for conservation. That is, the less gas they used, the higher the price per unit they had to pay. Public hearings were held in which numerous customers opposed the decoupling proposal. The NFG case was settled, with the Company withdrawing its proposed decoupling clause. 3

The Decoupling Debate in PA — NFG Legislative Reaction After the NFG decoupling fiasco, legislation was introduced in the Pennsylvania House of Representatives (HB 2954 of 2006) that would have required the PUC to “disallow any proposed rate, rate increase or rate surcharge based in whole or in part on the utilization of a revenue decoupling mechanism.” The legislation was never taken up for a vote. 4

Fast Forward to 2008 General Assembly passes Act 129 of 2008, requiring Pennsylvania electric utilities to help their customers save money by reducing energy usage and peak demand. 5

October 15, Governor Rendell Signs Act 129 Into Law 6

Act 129 of 2008 Act 129 for the first time imposes mandatory energy efficiency and peak demand reduction goals on Pennsylvania electric utilities…. But Act 129 does not provide for, and arguably prohibits, revenue decoupling for electric utilities. 7

Act Energy Efficiency and Demand Response By July 1, 2009, each electric utility had to file with the PUC an energy efficiency and conservation plan. Under the plan, the utility was required to reduce total annual electricity consumption by at least 1% by May 31, 2011; and by 3% by May 31, The utility was also required to reduce peak demand during the 100 highest use hours of the year by at least 4.5% by May 31,

Act 129 of 2008: What About Decoupling and Lost Revenues? Act 129 allows a utility to spend up to 2% of its annual revenues to implement the plans, and allows the utility to recover all reasonable and prudent costs from its customers through an automatic adjustment clause. Costs recovered through an automatic adjustment clause, however, may not include “decreased revenues of an electric distribution company due to reduced energy consumption or changes in energy demand.” 9

Act 129 of 2008: What About Decoupling and Lost Revenues? Act 129 states that “decreased revenues” resulting from conservation measures can only be recovered through normal base rate proceedings. This provision effectively precludes a “decoupling” mechanism between base rate cases. 10

Carrots or Sticks? Incentives or Penalties? Act 129 provides no special “incentives” or “rewards” for meeting the requirements of the law. Instead, Act 129 imposes penalties on utilities, in the form of a $1 million to $20 million fine, for failure to meet any of the usage and peak demand reduction standards. To quote Samuel Johnson (according to Boswell): “When a man knows he is to be hanged in a fortnight, it concentrates his mind wonderfully.” 11

Is Act 129 Working? PECO Results to Date In November 2010, PECO announced that it had already met its 2011 energy saving goal. As of July 2011, PECO announced that it had already fulfilled 76% of its May 2013 energy saving goal. In July 2011, PECO reported that its energy programs had saved customers $131 million and reduced energy usage by 895 million kilowatt hours. 12

Act 129 – PECO Results to Date Overall, more than 227,000 customers have participated in PECO Smart Ideas programs. Specifically, customers have: Recycled 23,244 refrigerators, freezers and AC window units. Purchased more than 6.8 million discounted CFL bulbs. Completed more than 26,000 free energy saving audits. In addition, more than 65,000 customers have enrolled in the “Smart A/C Saver” air conditioning direct load control program. 13

What if Utilities Exceed the Requirements of Act 129? Act 129 offers no incentives to utilities to exceed the minimum requirements needed to avoid penalties. In recent legislative testimony, PECO has proposed that utilities be allowed to apply excess reductions to meet future year requirements (I agree) or use excess energy efficiency reductions toward meeting Tier 1 Alternative Energy Portfolio Standards requirements (I disagree). 14

Decoupling Revisited? Federal Stimulus Act The American Recovery and Reinvestment Act (ARRA) of 2009, included substantial grants to states to promote energy efficiency. A portion of those grants were contingent on a state certification that the applicable state regulatory authority would seek to implement a general policy “that ensures that utility financial incentives are aligned with helping their customers use energy more efficiently.” 15

Decoupling Revisited? Federal Stimulus Act Does ARRA 2009 require some type of decoupling in order to qualify for additional federal energy efficiency funding? Do the automatic cost recovery and the penalty provisions of Act 129 “ensure that utility financial incentives are aligned with helping their customers use energy more efficiently”? The PA PUC opened a proceeding to ensure that Pennsylvania was in compliance with this provision. 16

PUC Ruling on Stimulus Act Compliance At its Public Meeting of July 28, 2011, the PUC approved an Order closing its investigation under ARRA 2009 and concluded as follows: “The Commission certifies that its present policies and practices reflect a general policy to align utility financial incentives with cost-effective and verifiable energy conservation by consumers.” The Commission acknowledged, however, that “more can be done” and stated it was open to consideration of additional programs and policies in the context of individual rate proceedings. 17

Full Decoupling or Lost Revenue Recovery? Under full decoupling, a utility’s revenues are “trued up” between rate cases based on actual vs. projected sales, regardless of whether or not any reduction in sales is due to utility conservation efforts. As such, decoupling makes a utility whole for lost sales due to economic recessions, etc. Under a “lost revenue” approach, utility is made whole only for revenues lost due to utility conservation efforts. So if a customer replaces incandescent light bulbs with compact fluorescent bulbs, the utility recovers the lost revenue; but if that customer also goes out and buys a 68” plasma television, the utility keeps those additional revenues as well. 18

Lost Revenue Adjustments – The Ohio Light Bulb Fiasco In 2009 First Energy in Ohio instituted a program to deliver two “free” CFL bulbs to all residential customers. The Company sought surcharge cost recovery for the cost of the bulbs, the cost of delivery, and the lost revenues that would result from customers using the CFL bulbs rather than less efficient incandescent bulbs. The total cost of the “free” light bulbs ended up being $21.50 per customer. After major public outcry, the program was suspended. 19

A More Nuanced Approach – New Jersey Natural Gas Decoupling In a pair of cases in 2006, the New Jersey Board of Public Utilities established decoupling programs for two natural gas utilities. The utilities were allowed to reconcile revenue losses between base rate cases, but only to the extent such recovery was matched by consumer cost savings resulting from the utility’s Commission-approved conservation programs. 20

Incentives to Whom? Is it more important to give conservation incentives to utilities or to customers? In the 2006 case in which NFG proposed a decoupling mechanism, the Company also proposed to increase the fixed monthly customer charge by 72% (from $12.00 to $20.64) and to reduce the distribution “tail block” rate by 87% (from $1.95/mcf to $0.25/mcf). Both of those proposed rate design changes would have clearly reduced the benefits to customers of conservation efforts. 21

What About Straight Fixed Variable (SFV) Rate Design? Under SFV, the utility recovers all of its “fixed” costs through the portion of rates that does not vary with usage, such as through a monthly customer charge. The utility only recovers “variable” costs through the portion of rates that varies with usage, that is, on a per kilowatt hour or per mcf basis. This may provide a lower-risk method of cost recovery for the utility, but it substantially reduces the benefits of conservation to the customer. 22

Risk and Reward Where decoupling or SFV rate design is granted it reduces a utility’s risk of reduced profits due to sales losses between rate cases. Shouldn’t that reduced risk be reflected in a reduced rate of return granted to the utility in their rate cases? 23

One Other Point: Does Decoupling Work In A Restructured State Like PA? The most profitable portion of several of our electric corporations are their unregulated generation affiliates, who make more money by selling more generation at higher prices. Even if a utility’s distribution revenues and profits are made indifferent to sales losses due to decoupling, does the utility corporation’s overriding incentive still lie in higher generation market prices that result from higher generation sales? 24

And Finally: What About Third Party Providers for Energy Efficiency? One way to circumvent the utility disincentive issue is to assign the task of providing energy efficiency to another entity. Independent third party efficiency providers have been established in a number of states. – Efficiency Vermont – Energy Trust of Oregon – Wisconsin Energy Conservation Corporation – Efficiency Maine Trust 25

Questions? Comments? 26