Draft of Testimony

1 SOAH DOCKET NO. 473-99-2566 1 PUC DOCKET NO. 21591 2 3 4 5APPLICATION OF SHARYLAND § BEFORE THE 6UTILITIES FOR AUTHORITY TO § 7ESTABLISH INITIAL RATES § PUBLIC UTILITY COMMISSION 8AND TARIFF § 9 § OF TEXAS 10 11 12 13 14 15 16 17 18 19 20 DIRECT TESTIMONY 21 22 OF 23 24 HUGH K. HIGGINS, JR. 25 26 27 2829 30 31 32 33 34 ON BEHALF OF THE 35 OFFICE OF PUBLIC UTILITY COUNSEL 36 37 2 1 February 4, 20001 2 TABLE OF CONTENTSPAGEI...... Qualifications ...... 3II. Outline of Testimony...... 4III...... Deferral of Costs ...... 5IV. Conclusion and Recommendation …...... 14ATTACHMENTS...... ATTACHMENT 1 ...... 16 ...... ATTACHMENT 2 ...... 18 ...... ATTACHMENT 3 ...... 20 ...... ATTACHMENT 4 ...... 23 ...... ATTACHMENT 5 ...... 251 2 ...... ATTACHMENT 6 ...... 28 ...... ATTACHMENT 7 ...... 31 ...... ATTACHMENT 8 ...... 35 ...... ATTACHMENT 9 ...... 37 ...... ATTACHMENT 10 ...... 39 ...... ATTACHMENT 11 ...... 411 3 1 I. QUALIFICATIONS2Q. PLEASE STATE YOUR NAME AND ADDRESS.3A. My name is Hugh K. Higgins, Jr. My business address is 1701 North Congress Avenue,4 Suite 9-180, Austin, Texas 78701-1402.5Q. BY WHOM AND IN WHAT CAPACITY ARE YOU EMPLOYED?6A. I am employed by the Office of Public Utility Counsel (“OPC”) as Regulatory Accountant.7Q. PLEASE SUMMARIZE YOUR EDUCATIONAL BACKGROUND, PROFESSIONAL8 QUALIFICATIONS, AND WORK EXPERIENCE.9A. I am a graduate of Texas A & M University with a BBA degree in Accounting, and a10 Certified Public Accountant, licensed by the State of Texas. I have accounting experience in11 public accounting, private industry, and state government. While in public accounting, with12 Arthur Andersen & Co., my primary responsibilities involved, among other areas of13 engagement, providing accounting services to large, investor-owned utility companies in14 Texas. Subsequently, I bore broad financial and accounting responsibilities as Controller of15 Lumbermen’s Investment Corporation, a regional mortgage-banking house in Central Texas.16 After six years in that position, I joined a new investment company, Home Capital Funds,17 Inc., as Controller and eventually became President and Chief Financial Officer of this18 national enterprise. Prior to joining OPC in July 1997, as Regulatory Accountant, I served19 as Senior Investment Accountant for the $17 billion Employees Retirement System of Texas20 for three years.1 4 1Q. HAVE YOU PREVIOUSLY TESTIFIED BEFORE THE COMMISSION?2A. Yes. In Dockets Numbered 17751, 19512, and 21528.34 II. OUTLINE OF TESTIMONY 56Q. PLEASE OUTLINE THE PURPOSE OF YOUR TESTIMONY IN THIS DOCKET.7A. Sharyland Utilities, L.P. (“Sharyland”) is proposing to defer all or a portion of its calculated8 cost of service during the initial years of operation. I shall address the recommendation of9 OPC that no deferral of operating costs be allowed until Sharyland comes back to the10 Commission with an operating history that clearly demonstrates (i) the extent and nature of11 costs that have been incurred, and (ii) how such costs benefited ratepayers. Sharyland has12 represented that it “shall file a cost of service study and cost forecast approximately two13 years after [Sharyland] begins to serve customers in order for the Commission to determine14 if [Sharyland’s] rates are adequately recovering the cost to serve all customer classes.”115 Secondarily, if it is determined by the Commission to be in the public interest to allow cost16 deferral in this proceeding, my testimony will be directed to the method of calculating the17 proposed annual deferral and the recovery of deferrals through amortization charges to18 ratepayers.11 Attachment 1: Adopted Stipulation, Docket No. 20292, Article IX, Paragraph 3, Bates stamp 21.2 5 1 We will point out the lack of wisdom in granting Sharyland’s request for an open-ended,2 unlimited deferral period. And, we will address the timing of the recovery of costs that may3 be deferred. Finally, we will suggest to the Commission a methodology whereby ratepayers4 can be protected from unbusiness-like practices, while giving Sharyland the freedom and5 flexibility that it requires as it tackles the challenge of developing and selling the land in6 Sharyland Plantation.78 III. DEFERRAL OF COSTS910Q. HAS SHARYLAND REQUESTED THAT THE COMMISSION APPROVE A11 MECHANISM FOR DEFERRING CERTAIN INITIAL UNRECOVERED COSTS OF12 SERVICE?13A. Sharyland witness Daniel has proposed, in direct testimony, an open-ended deferral period14 and has provided a sample calculation2 of his proposed “phase-in” method for return of and15 on certain initial costs, including return on investment.31617Q. PLEASE EXPLAIN THE SIGNIFICANCE OF THE TERM “PHASE-IN” AS IT IS USED18 IN THIS CONNATION. 12 Attachment 2: Direct testimony of James W. Daniel, Exhibit JWD-2, Bates stamp 416 23 Attachment 3: Direct testimony of James W. Daniel, Page 15, Line 9, Bates stamp 3943 6 1A. In the late 1970s and early 1980s, a number of utilities were faced with the probability of2 having to postpone and/or cancel major generating facility projects, particularly nuclear, for3 which significant expenditures had already been made. Among the factors contributing to4 this situation was lack of customer demand, escalating construction costs, and increasing5 environmental and governmental regulations. Recognizing such developments as being6 significant to the industry, the Financial Accounting Standards Board issued several related7 Statements of Financial Accounting Standards (“SFAS”) including SFAS No. 92 entitled8 Regulated Enterprises Accounting for Phase-In Plans.9Q. DOES SFAS NO. 92 DEFINE THE MEANING OF THE TERM “PHASE-IN” PLAN?10A. Yes, it provides very specific guidance in the application of this standard. SFAS No. 9211 defines a phase-in plan as one that meets all of the following criteria, among others:12 (i) Costs could be deferred but only pursuant to a formal plan agreed to by the13 Commission, and14 (ii) The plan specified the timing of all cost recovery, and15 (iii) All deferred costs were scheduled to be recovered within ten years of the date16 deferrals began, and17 (iv) The phase-in plan was substantially complete by January 1, 1998.1819Q. IN YOUR OPINION, DOES THE TESTIMONY OF MR. DANIEL SUPPORT A20 “PHASE-IN” PLAN THAT MEETS THE REQUIREMENTS OF FASB’S SFAS NO. 92?21 PLEASE ELABORATE ON YOUR RESPONSE.1 7 1A. No, his direct-filed testimony in this docket misses these requirements in several substantive2 ways.3 (i) First, there is no formal plan offered except for that portion providing the most4 benefit for Sharyland, namely the method of calculating cost deferrals.4 The method5 of transferring these costs to ratepayers is not discussed in this filing.6 (ii) Second, there is no mention as to the method or timing of either the deferral period7 or the recovery period. Sharyland’s testimony is silent on the factor of time, even8 though time is a most important element of the FASB standard for any “phase-in”9 plan. Based upon direct testimony, or the lack thereof, it’s clear that Sharyland has10 no intent that the deferral period be anything other than open-ended, ad infinitum.11 This is unacceptable and flies in the face of prior practices.12 (iii) Lastly, it is obvious that the deferrals suggested by Sharyland can not be completed13 prior to a time that has long past the SFAS No. 92 deadline. 1415Q. WHAT IS YOUR RECOMMENDATION CONCERNING MR. DANIEL’S PROPOSED16 DEFERRAL OF COSTS?17A. OPC recommends against the sanctioning of any cost deferrals under an open-ended18 approach described by Mr. Daniel. To allow such deferrals would simply confuse the19 future regulatory supervision of Sharyland’s operations by the employment of two sets of14 Attachment 2: Direct testimony of James W. Daniel, Exhibit JWD-2, Bates stamp 4162 8 1 books - - one maintained in accordance with generally accepted accounting principles and2 one not. Plus, there’s the “El Paso” factor to consider.34Q. WHAT’S THE “EL PASO” FACTOR?5A. Following the bankruptcy of El Paso Electric Company (“EPEC”) in 1992, a rate setting6 docket was filed with the Commission.5 An important element of that proceeding addressed7 the “Rate Moderation Deferrals” under a “Rate Moderation Plan” that had previously8 allowed EPEC to defer elements of full cost of service amounts in anticipation that a larger9 customer base could be developed by the utility; an expectation which never materialized.10 The many deferrals allowed EPEC, including the Rate Moderation Deferral, were11 considered to have been instrumental in triggering the bankruptcy of that Texas utility.12 EPEC was simply allowed to ignore market reality by disguising inefficient operations and13 cost over-runs through the mechanism of a series of cost deferrals. In the case of EPEC, the14 primary reason for the deferrals was the Palo Verde nuclear plant. However, whatever the15 justification, the Cost Deferrals recommended by Sharyland witness Daniel in this16 proceeding6 have the look and feel of the Rate Moderation Deferrals allowed EPEC. 17 It should not be forgotten that in the Preliminary Order in this docket the Commission18 wisely warned: “Reliance upon future revenues to cover increasing obligations may cause15 PUCT Docket No. 12700, Application of El Paso Electric Co. for Authority to Change Rates 26 Attachment 3: Direct Testimony of James W. Daniel, Page 14, Line 7, Bates stamp 3933 9 1 catastrophic results if growth projections do not come to pass.”7 Yet, that is exactly what2 Sharyland’s witness Daniel is proposing in his testimony.3 In addition to the Commission warning, one can look back at the El Paso case and note that4 the Rate Moderation Plan resulted in an “increasingly complex and unwieldy” ratemaking5 process for EPEC.8 Because of these complex ratemaking principles, EPEC was plagued by6 inaccurate projections relative to amortization of the [deferred costs].9 City of El Paso’s7 witness Dan Lawton, a Regulatory Economist associated with Diversified Utility8 Consultants Inc., testified in this docket (12700) on EPEC’s Rate Moderation Plan, saying9 “Before discussing all of the problems with the RMP and the continued problems that need10 to be addressed in this case, it must be noted that the forecasts and estimates underlying the11 original plan has (sic) been disastrous.”10 Mr. Lawton further testified that “. . it is my12 intention to provide the Commission an overview of the mistakes of the past, so that a new13 and better solution can be developed to solve what has become the constant RMP deferral14 problem.”11 1516Q. DOES OPC HAVE ANY RECOMMENDATIONS TO THE COMMISSION BEYOND17 THE TOTAL DENIAL OF ANY DEFERRAL OF INITIAL COSTS?18A. It should be made clear that OPC, first and foremost, urges the Commission to deny all cost19 deferrals until an operating history can be established by Sharyland. However, if the 17 Attachment 4: PUCT Preliminary Order, issued December 17, 1999, Docket No. 21591, Page 4 of 11 28 Attachment 5: Direct testimony of GC witness Darryl Tietjen, Docket No. 12700, Page 13, Line 22 39 Attachment 5: Direct testimony of GC witness Darryl Tietjen, Docket No. 12700, Page 13, Line 27 410 Attachment 6: Direct testimony of Daniel J. Lawton, Docket No. 12700, Page 40, Line 21 511 Attachment 6: Direct testimony of Daniel J. Lawton, Docket No. 12700, Page 41, Line 36 10 1 Commission determines that deferral of Sharyland’s costs is in the public interest, OPC2 recommends a series of restrictions upon such deferrals, as follows:3 (i) The Company should not be allowed, under any circumstance, to defer (with intent4 of future recovery from ratepayers) any imputed return on equity until the Company5 has demonstrated in a subsequent proceeding that the deferrals relate to costs that are6 useful and beneficial to ratepayers.7 (ii) In view of historical experience with the capitalization of operating costs, firm8 restrictions must be imposed upon on both (a) the dollar amounts of cumulative9 deferrals and (b) the time period over which deferrals are permitted.10 (iii) To the extent that deferred costs are to be recovered from ratepayers through11 amortization in cost of service, strict limitations should be established to assure that12 side-by-side customers (one served through CPL wires and the other served through13 Sharyland wires) are billed at similar rates for distribution services.1415Q. IT APPEARS THAT THE LIMITATIONS THAT ARE RECOMMENDED HERE16 WOULD NECESSARILY ENTAIL REPETITIVE RATE CASE PROCEEDINGS FOR17 THE RECURRING REVIEW OF PRUDENCE AND REASONABLENESS. DOES OPC18 HAVE ANY SIMPLIFYING RECOMMENDATIONS TO ADDRESS THESE19 MATTERS?1 11 1A. Yes, there is one very straightforward and uncomplicated method to address the concerns of2 OPC. This approach involves what some have described as the “do no harm” maxim, as3 first credited to Hippocrates. 45Q. PLEASE DESCRIBE WHAT IS MEANT BY THE “DO NO HARM” MAXIM.6A. Approximately two-thirds of the service area being assumed by Sharyland was once served7 by Magic Valley Electric Cooperative, Inc. (“MVEC”), with the remaining area once served8 by Central Power and Light Company (“CPL”); a small portion of the area was dually9 certificated to both MVEC and CPL.12 OPC has examined a concept whereby a10 “benchmark” distribution price would be determined based upon the distribution tariff of11 CPL, from time to time, and adopted by Sharyland. In theory, and hopefully in practice, if12 two residential (or small commercial) ratepayers in the Sharyland Plantation development13 were served through Sharyland wires in one case and through CP&L wires in another, both14 would be paying comparable costs for relatively similar power transmission and distribution.15 In other words, the changeover in wire-service providers from CPL to Sharyland would be16 transparent, ratewise. It is this rate parity that typifies the “do no harm” maxim. 1718Q. HOW LONG DO YOU PROPOSE THAT THE “DO NO HARM” TARIFF BE19 MAINTAINED IN PLACE BY SHARYLAND?112 Attachment 7: Final Order, PUCT Docket No. 20292, Page 3, Finding of Fact #122 12 1A. OPC proposes that the “do no harm” limitation be observed by Sharyland as long as2 Sharyland has deferred cost amortization being recorded, for regulatory purposes, in cost of3 service. That is, if Sharyland opts to defer costs for five years and to write off (amortize)4 those deferred costs over the next ten years, the “do no harm” limitation would be in effect5 during each year of the ten-year amortization period.67Q. WHY IS THIS A GOOD SOLUTION TO THIS MATTER OF COST DEFERRALS?8A. There are several important reasons why this approach would be beneficially fair to all9 parties:10 (i) The development schedule and system build-out of the Sharyland Plantation is11 totally in the hands of Sharyland and its colleague enterprises. Sharyland has full12 control over this process; ratepayers have none.13 (ii) The costs of system development, including billings from colleague enterprises and14 affiliates, are totally in the hands of Sharyland.13 Sharyland’s contract supervision15 and purchasing controls will determine the ‘goldplatedness’ of their distribution16 system. Sharyland has full control over this process; ratepayers have none.17 (iii) The amount of costs incurred and the pace of real estate development, which18 translates directly into power consumers, will be the determinants of how many19 initial cost dollars are capitalized/deferred and how much revenue is derived 113 Attachment 8: Filing Schedule G-8, Bates stamp 4332 13 1 therefrom. Each of these drivers is under the full direction and management of2 Sharyland and its colleague enterprises. Sharyland has full control over this process;3 ratepayers have none.4 (iv) The timing, as to when the amortization of deferred costs ceases and is removed5 from future ratepayer burden, is solely up to Sharyland. When all deferred costs (if6 any) have been fully amortized, and only upon such event, Sharyland should be7 allowed to abandon the “do no harm” tariffs and adopt full cost-of-service rates,8 subject to Commission review and approval. This treatment removes from9 administrative onus long and protracted rate cases where cost prudence disagreement10 is likely to be interminable. It should be again noted that the Certificate of11 Convenience and Necessity was issued upon the assumption that such issuance12 would “create benefits which accrue to consumers.”1413 This approach leaves all control levers in the hands of Sharyland, without fetter. Sharyland14 management will be duly incented to employ good business practices, to carefully oversee15 each of the service contractors, to use affiliate and associate personnel judiciously, and to16 achieve the assurance given that its “. . customers will be protected from any adverse rate17 impact if development at Sharyland does not occur as planned. . .”15 Plus, Sharyland has18 forthrightly represented that it intends to “charge rates competitive with the comparable114 Attachment 7: Final Order, PUCT Docket No. 20292, Page 6, Finding of Fact #33 215 Attachment 7: Final Order, PUCT Docket No. 20292, Page 8, Finding of Fact #453 14 1 rates of CPL and MVEC during the deferred cost amortization period.”16 OPC’s2 recommendation is that the Commission order them to do so.3 Adopting any other course of action simply sets the stage for protracted mea culpa4 pleadings, before the Commission, for forgiveness of excessive deferred costs due to the5 novelty of a new start-up utility in Texas. Again, harking back to the history of the El Paso6 situation, it was claimed that: “The only consistent theme has been EPEC’s claim that the7 prior projections were erroneous and that it now needed more revenues, either cash or8 deferrals, to work its way out of the [Rate Moderation] Plan.”17910 IV. CONCLUSION AND RECOMMENDATION1112Q. PLEASE RECAP OPC’S RECOMMENDATIONS TO THE COMMISSION.13A. First and foremost, it is OPC’s primary view that Sharyland not be sanctioned to defer any14 costs at this time. There will be sufficient opportunity to consider the appropriateness of15 deferrals when Sharyland comes back in as “the Commission intends to undertake a review16 of those rates, within the next three years, after Sharyland has developed an operating17 history from which actual costs can be determined.”18 Sharyland has agreed to this review18 schedule.19 116 Attachment 9: Sharyland’s response to OPC’s 1st RFI, Question No. 4 217 Attachment 10: City of El Paso’s Initial Brief, Revenue Requirements Phase, Docket No. 12700, Page 78 318 Attachment 11: Preliminary Order, Docket No. 21591, Page 9 of 11, Second Paragraph 419 Attachment 1: Adopted Stipulation, Docket No. 20292, Article IX, Paragraph 3, Bates stamp 215 15 1 As a lesser desirable alternative, in the event the Commission concludes that the deferral of2 costs by Sharyland at this time is in the public interest, it is OPC’s view that consumers3 should be protected against charges by Sharyland in excess of the charges by CPL for4 similar service throughout the deferral amortization period opted by Sharyland. Sharyland5 has agreed to a rate cap during a deferral period.20 The Sharyland acquisition of service6 territory should do no harm to ratepayers, currently or in the future.78Q. DOES THIS CONCLUDE YOUR TESTIMONY?9A. It does.120 Attachment 9: Sharyland’s response to OPC’s 1st RFI, Question No. 4 23 16

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