BEFORE THE ARKANSAS PUBLIC SERVICE COMMISSION

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1 PSC FILED Time: //0 0:0: M: Recvd //0 0:0:0 M: Docket 0-0-tf-Doc. BEFORE THE RKNSS PUBLIC SERVICE COMMISSION IN THE MTTER OF THE REUEST FOR PPROVL OF ITS UICK STRT ENERGY EFFICIENCY PROGRMS ND THE TRIFF RELTED TO THE PROGRM BY OKLHOM GS ND ELECTRIC COMPNY IN THE MTTER OF THE REUEST FOR PPROVL OF ITS UICK STRT ENERGY EFFICIENCY PROGRMS ND THE TRIFF RELTED TO THE PROGRM BY THE EMPIRE DISTRICT ELECTRIC COMPNY IN THE MTTER OF THE PPLICTION OF RKNSS OKLHOM GS CORPORTION FOR PPROVL OF UICK STRT ENERGY EFFICIENCY PROGRMS IN THE MTTER OF THE PPLICTION FOR PPROVL OF RKNSS WESTERN GS COMPNY'S INITIL ENERGY EFFICIENCY PROGRM PLN IN THE MTTER OF THE PPLICTION OF CENTERPOINT ENERGY RKNSS GS FOR PPROVL OF ITS "UICK STRT" ENERGY EFFICIENCY PROGRM, PORTFOLIO ND PLN INCLUDING ITS COST RECOVERY RIDER IN THE MTTER OF THE PPLICTION FOR PPROVL OF SOUTHWESTERN ELECTRIC POWER COMPNY'S INITIL ENERGY EFFICIENCY PROGRM PLN IN THE MTTER OF THE PPLICTION OF ENTERGY RKNSS, INC. FOR PPROVL OF ENERGY EFFICIENCY PROGRMS ND ENERGY EFFICIENCY COST RTE RIDER DOCKET NO. 0-0-TF DOCKET NO. 0-0-TF DOCKET NO. 0-0-TF DOCKET NO. 0-0-TF DOCKET NO. 0-0-TF DOCKET NO. 0-0-TF DOCKET NO. 0-0-TF

2 PSC FILED Time: //0 0:0: M: Recvd //0 0:0:0 M: Docket 0-0-tf-Doc. DIRECT TESTIMONY OF WILLIM B. MRCUS ON BEHLF OF THE RKNSS TTORNEY GENERL May, 0

3 PSC FILED Time: //0 0:0: M: Recvd //0 0:0:0 M: Docket 0-0-tf-Doc. TESTIMONY OF WILLIM B. MRCUS 0. Please state your name, business affiliation and address.. I am William B. Marcus. I am Principal Economist for JBS Energy, Inc., D Street, West Sacramento, California 0.. Please provide your qualifications.. My qualifications are attached as Exhibit WBM-. I have years of experience with energy utility issues. I have previously testified or made formal comments before about forty federal, state, provincial, and local utility and environmental regulatory bodies in the U.S. and Canada on issues including utility restructuring and performance-based ratemaking, revenue requirements, resource planning, and cost-of-service and rate design. I have filed testimony at this Commission on a number of occasions since.. On whose behalf are you appearing?. I am appearing on behalf of the rkansas ttorney General. 0 What is the purpose of your testimony? I raise several generic issues associated with avoided costs, cost-effectiveness and the eligibility of costs for Lost Contribution to Fixed Costs. I also identify a specific issue associated with Empire District Electric s costs, where I recommend that certain legal and regulatory costs be deferred for future recovery. Generic voided Cost Issues Will you discuss the generic avoided cost issues? While we will address specifics of avoided cost issues after examining the utility testimony filed on May, we wanted to bring generic issues to the Commission s attention as early as possible. Prepared Testimony of W. B. Marcus on behalf of the ttorney General Page

4 PSC FILED Time: //0 0:0: M: Recvd //0 0:0:0 M: Docket 0-0-tf-Doc. 0 0 What is the issue regarding electric avoided capacity costs? voided generation capacity costs are theoretically no more than the cost of the least expensive form of capacity that the utility could acquire. When capacity is surplus, costs can be low or even zero in some cases. The cost can never exceed the cost of a combustion turbine, net of such a plant s earnings in the energy marketplace. If the cost of a combined cycle plant, net of its earnings in the energy marketplace is less than that of a combustion turbine, then that represents the avoided capacity cost. voided capacity costs must also be properly annualized. I believe that avoided capacity costs should be evaluated using a modified real economic carrying charge (RECC rather than annualized in nominal levelized dollars. What is the purpose of a real economic carrying charge rate? real economic carrying charge rate is designed to measure the economic return expected for an asset whose value increases at the rate of inflation every year. n economic carrying charge also has the economic property of measuring the value of deferring the construction of an asset from one year to the next. Why is it appropriate to use a real economic carrying charge rate in this case? levelized nominal-dollar stream of numbers is one way to represent the cost of a power plant. It reflects that if a utility actually bought a combustion turbine today, its costs would be locked in for the 0-year life of the plant. Using an RECC enables the analyst to develop a cost stream for a period shorter than the full life of the plant, representing the useful life of an energy efficiency measure or demand response program. The use of an RECC is important because interruptible programs and energy efficiency programs at issue in this set of dockets are quite different from building a plant and locking in the cost. The discussion of use of an RECC for annualization applies to avoided transmission and distribution costs, if any, as well as generation costs. Prepared Testimony of W. B. Marcus on behalf of the ttorney General Page

5 PSC FILED Time: //0 0:0: M: Recvd //0 0:0:0 M: Docket 0-0-tf-Doc. 0 0 First, if a customer installs an energy efficiency measure (e.g., a more efficient appliance that lasts for 0- years or a compact fluorescent lightbulb with a shorter life, there is no way to guarantee the avoided capacity savings for the remainder of the life of the power plant, which is in the range of 0 years. In other words, installing energy efficiency measures with a useful life shorter than the capacity to be avoided does not, by itself, completely avoid installation of the capacity. Similarly, customers do not have a 0-year obligation to provide demand response but can leave the program after meeting notice requirements, and can also leave the program if they move, die, or go out of business. Therefore the appropriate way to view these programs are as a means of deferring the cost of peaking generation for the life of each measure rather than avoiding it. The real economic carrying charge will do that. How is the RECC calculated? One must look at the entire time stream of ownership of an asset and calculate a present value of revenue requirements over the life of the asset using utility accounting. The discount rate used is the utility rate of return. The present value of revenue requirements includes return, depreciation, and income and property taxes and may include certain other costs such as property insurance. From this present value of revenue requirements, one can then calculate two fixed charge rates, a levelized nominal fixed charge rate (the same number of dollars every year divided by the capital cost of the asset, and a real economic carrying charge rate (the number of dollars in the first year which, when increased at the rate of inflation every year, results in the same present value as the present value of revenue requirements. This method of calculating the RECC was developed by National Economic Research ssociates (NER in the late 0s. Prepared Testimony of W. B. Marcus on behalf of the ttorney General Page

6 PSC FILED Time: //0 0:0: M: Recvd //0 0:0:0 M: Docket 0-0-tf-Doc. 0 The chart below presents calculations for a hypothetical combustion turbine costing $00 per kw (only an exemplary cost, using return parameters largely drawn from Docket 0-0-U (EI s last rate case settlement. The rate of return is the incremental financial return only. The long-term debt rate was assigned to all debt obligations and the calculation excludes customer deposits, current and accrued liabilities, and accumulated deferred income taxes. The latter are instead accounted for in the rate base calculation. It shows a capital-related revenue requirement starting at $/kw-year and declining to $ over a 0-year period; a nominal levelized capital-related revenue requirement of $/kw-year, and a cost using a real economic carrying charge of $/kw-year escalating at assumed inflation of % per year. To obtain the avoided generation capacity cost from the RECC-based capital costs of a combustion turbine, one must add fixed O&M costs, line losses, and an allowance for the reserve requirement Combustion Turbine Capital Costs and Revenue Requirements Revenue Requirement Real Economic Carrying Charge Nominal Levelized $/kw year Year The higher the assumed inflation rate, the lower the cost calculated using RECC, assuming the return is held equal. Prepared Testimony of W. B. Marcus on behalf of the ttorney General Page

7 PSC FILED Time: //0 0:0: M: Recvd //0 0:0:0 M: Docket 0-0-tf-Doc. 0 0 re there issues with the calculation of avoided energy costs? Yes. The Commission should move the utilities toward use of avoided energy costs that are seasonally differentiated and time-differentiated so that programs such as air conditioning can be assigned the appropriate higher value of energy, relative to energy uses that are more heavily off-peak such as residential and outdoor lighting. re there issues related to the appropriate response to declining gas prices that are reducing avoided energy costs? Yes. The decline in gas prices is making efficiency less cost-effective. This raises questions as to future program and incentive design. One possible response to lower gas prices would be to focus on the programs that are most cost-effective in conventional terms even if they do not have strategic or long-term benefits (i.e., residential lighting. I do not believe that this would be the best response. n alternative response would be to reduce program efforts but concentrate remaining efforts in areas where efficiency will be lost for decades if not acquired today ( lost opportunities, which arise particularly in new construction, in the choice of residential appliances, and in other specialized areas such as tenant improvements and installation of new commercial and industrial equipment. The lost opportunities strategy might not have as great a near-term costeffectiveness but would provide a hedge against rising future gas prices by locking in persistent savings. However, a lost opportunities strategy would not fit well with the current incentive structure. That incentive structure gives utilities a share of savings and thus would reward the opposite strategy of cherry picking, i.e. picking what is most cost-effective immediately while deliberately not acquiring less costeffective efficiency resources that must be acquired either now or never. Prepared Testimony of W. B. Marcus on behalf of the ttorney General Page

8 PSC FILED Time: //0 0:0: M: Recvd //0 0:0:0 M: Docket 0-0-tf-Doc. 0 0 Legal Concerns Regarding Retroactive Ratemaking What is the legal concern that the ttorney General is raising regarding retroactive ratemaking for lost contributions to fixed costs? I have been advised by counsel that the ttorney General believes that LCFC cannot begin until tariffs were approved that contained a mechanism for collecting the LCFC, which occurred in late June, 0, and that contributions to fixed costs before that time cannot be collected as LCFC. While the gas utilities could not recover LCFC through the adopted mechanism prior to the tariff approval under the ttorney General s legal theory, any LCFC that was actually incurred would automatically be recovered through the gas companies Billing Determinant djustment (BD tariffs, which existed prior to June, 0. By contrast, the ttorney General contends that electric utilities legally cannot recover these costs. We also note that Empire has voluntarily not requested LCFC recovery in 0 (G DR - to Empire, so that the issue does not affect it. Have you made any estimates as to the impact of the ttorney General s position regarding retroactive ratemaking? While the issue would apply to all of the utilities in this proceeding, I made an estimate for SWEPCO to give an example of the impact. This estimate was made using SWEPCO data because SWEPCO filed extremely complete workpapers in Docket 0-0-TF that enabled me to make the calculation easily. The table below shows that 0 net LCFC for efficiency measures in place on July would be % less than the net LCFC for efficiency measures installed throughout the year. The annualized LCFC for 0 used to calculate 0 costs in 0 would be % less. Prepared Testimony of W. B. Marcus on behalf of the ttorney General Page

9 PSC FILED Time: //0 0:0: M: Recvd //0 0:0:0 M: Docket 0-0-tf-Doc. kwh subject to LCFC, SWEPCO, 0 all year July and after % reduction 0 Net LCFC,0,,0,00 -% 0 nnualized LCFC for 0 costs 0,0,0,, -% The impact of starting LCFC accrual on July, based on the dollar values in Schedule B of SWEPCO s report, is given below Empire District Electric Legal and Regulatory Costs (Docket 0-0-TF Will you discuss the Empire-specific issue that you are raising? review of Empire s cost request shows that its approved budget requested spending of $0,000 in legal and regulatory costs and $, in program costs. Empire actually spent $, on legal costs while only spending $,0 on program costs (See sheet E- in docket 0-00-RP. This is disproportionate and unreasonable. What is your recommendation? In this case, Empire should be allowed to recover only the $0,000 of legal and regulatory costs that its approved budget contained in 0. The $, in excess of its budget should not be included in the EECR for recovery in 0. Instead, the amount should be deferred as a regulatory asset explicitly defined as having no carrying costs, and should be recovered only as Empire spends money on energy efficiency programs (one dollar of past excess legal and regulatory costs per three dollars of actual energy efficiency program expense, with recovery of these past costs from the 0 program year starting in 0 based on actual 0 expenses. LCFC full year $, $, LCFC after July, 0 $ 0, $ 0, reduction $, $, % reduction -.% -.% Prepared Testimony of W. B. Marcus on behalf of the ttorney General Page

10 PSC FILED Time: //0 0:0: M: Recvd //0 0:0:0 M: Docket 0-0-tf-Doc. Do you believe that attempts should be made to reduce Empire s costs going forward? Yes. I believe that Staff and Empire should work together to reduce the onerousness of operating energy efficiency programs through a utility with only,000 customers in rkansas, so that these costs can be cut going forward. Empire should also pursue greater coordination with other utilities to offset its small size. Does this complete your testimony, Mr. Marcus? Yes, it does. Thank you. 0 Prepared Testimony of W. B. Marcus on behalf of the ttorney General Page 0

11 PSC FILED Time: //0 0:0: M: Recvd //0 0:0:0 M: Docket 0-0-tf-Doc. Exhibit WBM- William B. Marcus Principal Economist JBS Energy, Inc. William B. Marcus has years of experience in analyzing utility economics and operations. Mr. Marcus graduated from Harvard College with an.b. magna cum laude in economics in and was elected to Phi Beta Kappa. In, he received an M.. in economics from the University of Toronto. In July,, Mr. Marcus became Principal Economist for JBS Energy, Inc. In this position, he is the company s lead economist for utility issues. Mr. Marcus is the co-author of a book on electric restructuring prepared for the National ssociation of Regulatory Utility Commissioners. He wrote a major report on Performance Based Ratemaking for the Energy Foundation. Mr. Marcus has prepared testimony and formal comments submitted to the Federal Energy Regulatory Commission, the National Energy Board of Canada, the Bonneville Power dministration, the U.S. Bureau of Indian ffairs, U.S. District Court in San Diego, Nevada County Municipal Court; committees of the Nevada, Ontario and California legislatures and the Los ngeles City Council; the California Energy Commission (CEC, the Sacramento Municipal Utility District (SMUD, the Transmission gency of Northern California, the State of Nevada s Colorado River Commission, a hearing panel of the lberta Beverage Container Management Board; two arbitration cases, environmental boards in Ontario, Manitoba, and Nova Scotia; and regulatory commissions in lberta, rizona, rkansas, British Columbia, California, Colorado, Connecticut, District of Columbia, Hawaii, Iowa, Manitoba, Maryland, Massachusetts, Nebraska, Nevada, New Jersey, New Mexico, North Carolina, Northwest Territories, Nova Scotia, Ohio, Oklahoma, Ontario, Oregon, South Carolina, Texas, Utah, Vermont, Virginia, Washington, Wisconsin, and Yukon. He testified on issues including utility restructuring, stranded costs, Performance-Based Ratemaking, resource planning, load forecasts, need for powerplants and transmission lines, environmental effects of electricity production, evaluation of conservation potential and programs, utility affiliate transactions, mergers, capital structure and rate of return, utility revenue requirements, avoided cost, and electric and gas cost of service and rate design. From to, Mr. Marcus was a research analyst at the Kennedy School of Government, Harvard University. He prepared public policy case studies on environmental and transportation issues, benefit-cost analysis, and urban policy and finance for use in classes and publication in the Kennedy School Case Series. From July, through pril,, Mr. Marcus was an economist at the CEC, first in the energy development division and later as a senior economist in the CEC s Executive Office. He prepared economic studies of transmission projects, renewable resources, and conservation programs, prepared testimony and comments on purchased power pricing, and managed CEC interventions in utility rate cases.

12 PSC FILED Time: //0 0:0: M: Recvd //0 0:0:0 M: Docket 0-0-tf-Doc. Exhibit WBM- From pril,, through June,, he was principal economist at California Hydro Systems, Inc., an alternative energy consulting and development company. He prepared financial analyses of projects, negotiated utility contracts, and provided consulting services on utility economics. Mr. Marcus is currently the Chair of the Manufactured Home Fair Practices Commission for the City of Woodland, California. This Commission regulates space rents in the City s mobile home parks. He has served on several other local government advisory committees, including a - SMUD Rate dvisory Committee, which recommended cost allocation and rate design changes to the SMUD Board. rkansas Testimony rkansas Electric Cooperative Corporation ( ECC Docket 0--U rkansas Oklahoma Gas Corporation ( OG Dockets 0-0-U, 0-00-U and 0-0-U rkansas Western Gas Company ( WG Dockets 0--U, 0--U and 0--U CenterPoint Energy rkansas and predecessors ( CenterPoint Dockets 0--U, 0--U and 0--U The Empire District Electric Company ( EDE, Dockets 0-0-U and 0-00-U Entergy rkansas, Inc. ( EI General Rate Case Dockets 0-0-U and 0-0-U and other Dockets -0-U, 0-0-U. 0--U, 0--U, 0--U, 0-0-U and 0--U Oklahoma Gas and Electric ( OG&E Dockets 0-0-U, 0-0-U and 0-00-U Southwestern Electric Power Company ( SWEPCO : General Rate Case Dockets No U and --U and Docket -00-U. Conservation-related dockets (0--U, 0-0-TF, 0-0-TF, 0-0-TF and 0-0-TF, 0- -P, Restructuring Investigation Docket No U (both September, 000 and September, 00 phases pproximately 0 rate unbundling cases for co-ops and investor-owned utilities, most of which were settled.

13 PSC FILED Time: //0 0:0: M: Recvd //0 0:0:0 M: Docket 0-0-tf-Doc. CERTIFICTE OF SERVICE I, Emon O. Mahony, hereby certify that a copy of the foregoing Testimony has been served upon all parties by electronic mail, or first class mail, postage prepaid, this th day of May, 0. /s/ Emon O. Mahony Emon O. Mahony Prepared Testimony of W. B. Marcus on behalf of the ttorney General Page