Va. Attorney General says state law allows excessive power plant returns

Virginia Attorney General Ken Cuccinelli said Nov. 29 that Virginia’s two largest electric utilities, including Virginia Electric and Power, are earning too much money when it comes to their rewards for building new power plants.

He released a report that reviewed the costs and benefits of statutory Return-on-Equity (ROE) bonuses that are available to Virginia’s two largest electric utilities if they undertake certain projects. The bonuses, called adders, which began when Virginia’s electric utility regulation system was revamped by legislation first passed in 2007, allow utilities a higher return on equity for meeting goals related to renewable energy or for the construction of new generation facilities.

“In 2007, Virginia significantly changed the way its two largest utilities, Dominion Virginia Power and Appalachian Power, were regulated. One of the most significant changes from traditional regulation was the inclusion of bonuses available to the utilities if they took certain actions. With five years of experience and data to review, I felt it was an appropriate time to review the system of adders and see if they were working as intended,” said Cuccinelli.

Virginia Electric and Power, a unit of Dominion Resources (NYSE: D), does business in Virginia as Dominion Virginia Power. Appalachian Power is a unit of American Electric Power (NYSE: AEP) that mostly serves West Virginia, with some overlap into Virginia.

Notable is that Cuccinelli is the presumptive Republican nominee for governor in next year’s election, so he may be in an even stronger position, if he wins that post, to back up the matters covered in this report. Current Republican Gov. Bob McDonnell is term limited and can’t run again. Virginia has an unusual election cycle that calls for gubernatorial elections every four years in odd numbered years.

As attorney general, Cuccinelli serves as consumer counsel in electric rate cases before the State Corporation Commission (SCC), representing the interests of customers. He is also responsible for conducting studies and making recommendations on consumer issues to the governor and the General Assembly.

Renewable energy standard among targets of report

Cuccinelli’s major findings include:

  • The Renewable Portfolio Standard (RPS) adder has not served to advance the environmental concerns that led to its inclusion in the legislation because, by and large, the utilities have not built any new renewable energy facilities to comply with the RPS goals, but instead, have primarily relied on buying Renewable Energy Certificates (RECs) from existing renewable facilities, including hydro plants that have been in service for more than 80 years.
  • The RPS adder has contributed to increases in customer bills and will likely have a significant future impact by allowing utilities to keep profits that exceed their SCC-approved fair ROE and reducing the chance that customers will be entitled to future rate cuts. 
  • Any benefits of the RPS adder are outstripped by its cost because the adder applies not just to investments in renewables, but also to a utility’s entire rate base. Thus, the bonus is awarded on most of a utility’s assets, including those that have nothing to do with renewables.
  • The generation adders for constructing new power plants have substantially increased the revenue requirements for the two utilities. The generation adders for the projects that have already been approved will increase the companies’ combined revenue requirements by an estimated $284m over the term of the adders.  
  • Although it has not been used yet, the nuclear generation adder, under conservative assumptions, would likely cost customers an extra $1.8bn over and above actual construction costs and the SCC-approved rate of return.
  • While the generation adders have done more to advance some of the 2007 legislation’s goals than the RPS adder, the generation adders have not significantly advanced the key goals of the legislation in light of the substantial costs that they impose.
  • Five years of experience strongly suggests that the RPS and generation adders be eliminated or significantly changed, as they are not meaningfully advancing the goals of protecting customers from price volatility and unnecessary rate increases, promoting reliable electricity, promoting fuel diversity, providing environmental benefits, and stimulating economic development, the attorney general said.

Attorney General says utilities not at fault for using existing law

While calling for changes to the law, Cuccinelli said the report was not a criticism of the utilities. “While the report does contain recommendations for changes that will lower what customers pay to the utility companies, the report should not be viewed as a criticism of the utilities,” he added. “Their conduct and decisions as reflected in this report are consistent with what reasonable companies would have done given the statutory framework that was put in place in 2007. They should not be criticized for making beneficial business decisions based on choices provided or incentives offered by the law. The question going forward is, should Virginia leave them with all of those same incentives funded by ratepayers?”

He said: “The review of the statutory adders was undertaken with no preconceived result in mind. The adders were reviewed to see if they were advancing the primary goals of the 2007 legislation: protecting customers from price volatility and unnecessary rate increases, reliability, fuel diversity, environmental benefits, and economic development.”

Cuccinelli said he hopes this report will encourage serious policy discussions. “We now have experience with how the adders have worked in practice, whether they are achieving their intended results, and at what cost,” he noted. “Based on the data, we should be able to improve electric utility ratemaking in Virginia, making it better for citizens, the business community, and the commonwealth as a whole.”

The report noted that the Virginia ROE program has even attracted the attention of the Edison Electric Institute, which has in its membership major investor-owned utilities.

“The ROE enhancements of the Act have attracted national attention in the electric utility industry,” the report said. “The Edison Electric Institute reports that, in the first quarter of 2012, the average awarded ROE in rate cases nationally by state utility commissions was 10.84%, ‘a jump upward from the level in recent years and the highest awarded for any quarter since 2005.’ EEI explained that this figure did not represent a trend change, but rather, was influenced by rate cases in Virginia that reflected incentive premiums. EEI continued by noting that: ‘If the Virginia cases are removed from the dataset, the average awarded ROE was 10.3%, a level much closer to that of recent quarters.’ The average awarded ROE in cases in the second and third quarters were 9.92% and 9.78%, respectively.”

The Cuccinelli report also quoted this passage from a July 2011 report by Black & Veatch, which quoted prominent utility industry analyst Leonard Hyman, formerly of Salomon Smith Barney and Merrill Lynch, as writing: “Virginia has some peculiar regulatory rules. Return on equity is set based on an average of returns on equity in neighboring states. The law also specifies special rate of return adders for building particular types of power plants. Essentially, the Commonwealth seems to have retrogressed back to the days of legislative ratemaking. I could never figure out the rationale for the former rule, because the Virginia State Corporation Commission always seemed reasonably middle of the road.”

New Virginia City coal plant among the facilities getting rider treatment

Dominion has four generation rate adjustment clauses (RACs) projects receiving bonus returns: the Virginia City coal plant (receiving a 1% adder ); Bear Garden and Warren, both natural gas-fired combined-cycle combustion turbine plants (1%); and biomass conversion projects (2%), the report said. APCo has one generation RAC: its Dresden natural gas-fired combined-cycle combustion turbine plant (1%). The report doesn’t detail those biomass conversion projects, but that is an apparent reference to three small Dominion coal plants – Altavista, Southampton and Hopewell – now being converted to fire biomass.

“Each of these projects was approved by the SCC, which found pursuant to the applicable statutes that construction was required by the public convenience and necessity, and was not otherwise contrary to the public interest,” the report said. “The ROE adders, however, increase the cost of the facilities borne by customers above what they would be if only the base fair rate of return were applied. As detailed later in this report, the total projected increased cost for ratepayers for each of the Dominion projects due to the ROE adder is as follows: Wise County, $146.1 million; Bear Garden, $40.7 million; Warren, $76.5 million; and Biomass Conversions, $11.1 million, for a total additional cost of $274 million over the life of the adders.”

The report also noted a future project that could qualify for these benefits. “Dominion has announced its intention to build a new natural gas-fired combined cycle generation facility in Brunswick County that will have a rated capacity of 1,358 MW and a cost of approximately $1.27 billion (excluding financing costs). Dominion’s investment in this facility would entitle shareholders to a 100 basis points ROE adder. Because the cost of this facility is similar to that of the Warren County Power Station (‘Rider W’), the ROE adder impact should be very similar to that calculated for Rider W.”

Dominion is also pursuing a license from the Nuclear Regulatory Commission for a third reactor at the company’s North Anna nuclear plant. While Dominion has not yet announced definitive plans to construct North Anna 3, the Act provides an ROE adder of 200 basis points for new nuclear generation, the report noted. For illustrative purposes, the cost impact of this adder on a new nuclear facility has been calculated with the 2% adder assuming a capital cost of $10bn, a five year construction period, and the minimum 12 years for the first portion of the service life. “These assumptions are believed to be conservative,” the report said. “The estimated ‘all years’ total cost of this 2% ROE for a new nuclear facility is $1.845 billion for SCC jurisdictional customers. It is recognized that if Dominion pursues construction of North Anna 3, it might have less than a full ownership share of the unit.”

About Barry Cassell 20414 Articles
Barry Cassell is Chief Analyst for GenerationHub covering coal and emission controls issues, projects and policy. He has covered the coal and power generation industry for more than 24 years, beginning in November 2011 at GenerationHub and prior to that as editor of SNL Energy’s Coal Report. He was formerly with Coal Outlook for 15 years as the publication’s editor and contributing writer, and prior to that he was editor of Coal & Synfuels Technology and associate editor of The Energy Report. He has a bachelor’s degree from Central Michigan University.