FERC Report Details Formula Rate Foibles

Every year, the Federal Energy Regulatory Commission issues a report of its enforcement actions.  The 2013 report was issued last month.

There was an interesting section of the report about formula rates.  A formula rate is a type of rate setting that involves a forward-looking collection of rates based on a projected budget.  Interstate electric transmission rates are set under FERC's federal jurisdiction and simply passed through unscathed in your state ratemaking process to your electric bill.  A formula rate is a blank template that calculates the rate according to set formula in compliance with FERC's accounting and ratemaking guidelines.  Each year, the transmission owner populates the formula with numbers from its projected budget to arrive at the amount it is permitted to charge for service, and then collects that amount from its customers during the year.  At the end of the year, the transmission owner must file another formula rate calculation that trues up the projected rate by comparing it to actual spending.  The company then adjusts the following rate year to make up any difference between the two, whether an over-collection or under-collection.

Now, here's the rub.  This is all being done on the honor system.  And, as the old saying goes, there's no honor among thieves.  FERC audits a small percentage of formula rates every year, either on its own initiative or through referral when a problem is reported.  FERC does not audit every formula rate every year.  Instead, FERC relies on the people who pay these rates to raise the red flag if something is amiss.  There are special protocols (instructions) attached to each formula rate that detail the procedures to be followed to review the formula rate and file a legal challenge if any discrepancies between transmission owner and customer cannot be resolved.  So, who is doing this job for you, little ratepayer?  Is it your local electric company?  Is it your state public service commission?  Is it your state consumer protection office?  Chances are it's none of the above, and NOBODY is reviewing the transmission rates you are paying.  It's not that these entities don't care that you may be being ripped off, it's that they don't have the resources or knowledge to do the job, so they simply skip it and hope for the best.  This situation does not serve your interests.

Transmission owners know that nobody is minding the store, therefore they have been taking advantage of the situation to "accidentally" include all sorts of expenses and incorrect calculations that jack up rates and cost you extra money.  I say "accidentally" because there's always the chance that they will get fingered for a FERC audit, or get challenged by a couple of housewives from West Virginia.  In case they are caught by FERC, they pretend any misdeeds were an "accident" and promise to issue refunds.  It's a gamble the transmission owner is willing to take because chances are they won't get caught.  If they do get caught, they may not have to refund the whole amount they stole from customers, either because the entire amount of the thievery isn't discovered, isn't proven, or is negotiated through a settlement.  It's a risk that's profitable to take.  Therefore, transmission owners are routinely ripping us off.  

FERC notes that certain trends are developing in the way transmission owners rip us off.

Compliance Trends
During the past several years, DAA observed noncompliance in certain areas that warrant highlighting for jurisdictional entities and their corporate officials. Although there are other areas of noncompliance associated with the topics presented below, the areas discussed relate to areas where DAA has found consistent patterns of noncompliance. Greater attention is needed in these areas to prevent noncompliance and to avoid enforcement action.

Formula Rate Matters. DAA rigorously examines the accounting that populates formula rate recovery mechanisms that are used in determining billings to wholesale customers. In recent formula rate audits, DAA observed certain patterns of noncompliance in the following areas:
Merger Goodwill – including goodwill in the equity component of the capital
structure absent Commission approval;
Depreciation Rates – using state-approved, rather than Commission-approved,
depreciation rates;
Merger Costs – including merger consummation costs (e.g., internal labor and other general and administrative costs) without Commission approval;
Tax Prepayments – incorrectly recording tax overpayments which are not applied
to a future tax year’s obligation as a prepayment leading to excess recoveries
through working capital;
Asset Retirement Obligation (ARO) – including ARO amounts in formula rates,
without explicit Commission approval;
Below-the-Line Costs – attempting to move below-the-line costs into formula rates (e.g., lobbying, charitable contributions, fines and penalties, and compromise settlements arising from discriminatory employment practices); and
Improper Capitalization – seeking to include in rate base (and earn a return on) costs that should be expensed.

This is completely unsurprising to me, since I've seen (and challenged) many of these incorrect practices.  But what does continue to surprise me is that nobody has the inclination to stop it.  If formula rates are to be used to set transmission rates, and FERC knows that they are subject to manipulation and purposeful over recovery, then there simply must be some entity designated to monitor them in the interest of consumer protection.  While states have agencies designated to protect their consumers from greedy utilities, there is no federal counterpart at FERC.

FERC's mission is to "assist consumers in obtaining reliable, efficient and sustainable energy services at a reasonable cost through appropriate regulatory and market means."  FERC is failing us on formula rates.