PBR – Capital Tracker True-up – K-Factor
In this decision, the AUC considered ATCO Electric Ltd.’s (“ATCO Electric”) 2015 capital tracker true-up application (the “Application”).
Capital Tracker and K-Factor Overview
In Decision 2012-237 (the “2012 PBR Decision”), the AUC set out the first generation Performance-Based Regulation (“PBR”) framework and approved PBR plans for certain distribution utilities, including Fortis. In that decision, the AUC approved a flow-through rate adjustment mechanism to fund certain capital-related costs, referred to as a “capital tracker.”
Programs or projects approved for capital tracker treatment are included in a utility’s annual revenue requirement adjustments, as determined by the applicable PBR plan formula. The revenue requirement associated with approved capital tracker projects is collected from ratepayers by way of a flow-through “K factor” adjustment.
The 2012 PBR Decision also set out the three criteria a program or project must meet to be eligible for capital tracker treatment, namely:
(a) The project must be outside the normal course of on-going operations (“Criterion 1”);
(b) Ordinarily the project must be for replacement of existing capital assets or undertaking the project must be required by an external party (“Criterion 2”); and
(c) The project must have a material effect on the company’s finances (“Criterion 3”).
Criterion 1 requires a two-stage assessment of each project or program for which capital tracker treatment is requested.
At the first stage (project assessment), an applicant must demonstrate that:
(a) The project/program is required to provide utility service at adequate levels; and
(b) The scope, level and timing of the project/program are prudent, and the forecast or actual costs of the project/program are reasonable.
At the second stage, an applicant must demonstrate the absence of double-counting (the “Accounting Test”). The Accounting Test requires an applicant to demonstrate that the associated revenue provided by the PBR formula will be insufficient to recover the entire revenue requirement associated with the prudent capital expenditures for the program or project in question.
With respect to Criterion 2, a growth-related project will generally qualify where an applicant demonstrates that customer contributions and incremental revenues are insufficient to offset the project’s cost.
The materiality threshold in Criterion 3 requires that each individual project affect the revenue requirement by four basis points. On an aggregate level, all proposed capital trackers must have a total impact on revenue requirement of 40 basis points.
Summary of AUC Findings
In this decision, the AUC found that:
(a) ATCO’s proposed grouping of projects into programs was reasonable, subject to the AUC’s directions applicable to the grouping of the Office Furniture program and the Buildings, Structures and Leasehold Improvements program;
(b) The actual scope, level, timing and actual costs of each of the projects or programs included in the Application were prudent, subject to the removal of certain project capital additions and AUC directions applicable to the Information Technology Related program;
(c) The previously approved capital tracker projects or programs included in the 2015 true-up continued to meet the requirements of Criterion 2; and
(d) Because of the removal of certain project capital additions and AUC directions applicable to the Information Technology Related program, a reassessment of whether the capital tracker projects or programs included in the 2015 true-up satisfy the two-tiered materiality test requirement of Criterion 3 is required.
Cost of Debt
The AUC stated that it had verified ATCO Electric’s weighted average costs of capital (“WACC”), I-X and Q factor, and found that ATCO Electric used the correct values.
Specifically, the AUC found:
(a) ATCO Electric’s 2015 actual embedded cost of debt of 5.08 per cent, from previously approved 2015 Rule 005 filing, to be reasonable for purposes of the second component of the accounting test;
(b) ATCO Electric’s 2015 actual WACC rate of 6.29 per cent used in the second component of its accounting test, based on the 2015 actual WACC of 5.08 per cent, as well as the approved equity thickness of 38 per cent and the approved ROE of 8.3 per cent from Decision 2191-D01-2015, to be reasonable; and
(c) ATCO Electric’s accounting test model sufficiently demonstrated that all of the actual expenditures for a capital project are, or a portion is, outside the normal course of the company’s ongoing operations, as required to satisfy the accounting test component of Criterion 1.
Measurement Compliance Project
With respect to the Measurement Compliance project (the “MC Project”), the AUC found that it was required by a third-party.
However, the AUC found that ATCO Electric had not provided a sufficient explanation for variances between actual versus forecasted costs for the MC Project for 2015. The AUC found that it was not clear whether ATCO Electric had applied its change control processes and practices to manage the authorization of changes to project scope, schedule, and cost throughout the project.
Specifically, the AUC found that:
(a) ATCO Electric did not provide sufficient details regarding how the $5.284 million in capital additions regarding the MC Project was spent;
(b) ATCO Electric failed to establish the reasonableness of its expenditures and that the project was done in a timely fashion, within scope and that the costs were prudently incurred; and
(c) ATCO Electric failed to establish that the scope did not include some work completed for efficiency purposes only, and therefore would not qualify for capital tracker treatment.
The AUC found that given the lack of all the necessary supporting information addressing these criteria, the AUC was not able to find that the project was justified.
The AUC therefore denied ATCO Electric’s requested capital tracker treatment for $5.284 million in capital additions in 2015 for the MC Project.
AUC Conclusions on Criterion 1
The AUC approved the need, scope, level, timing, and the prudence of actual capital additions for each project or program that ATCO Electric included in the 2015 true-up, with the exception of the MC Project. Because of this exception, the AUC found that it could not make a determination as to whether all of ATCO Electric’s programs or projects included in the 2015 true-up satisfy the project assessment requirement of Criterion 1.
The AUC directed ATCO Electric, in a compliance filing, to revise its accounting test for 2015 and reassess whether the capital tracker projects or programs included in the 2015 true-up satisfy the accounting test requirement of Criterion 1.
AUC Conclusions on Criterion 2
The AUC found that, because the drivers (e.g., replacement of existing assets, external party, growth) had not changed since such projects/programs were previously approved as capital tracker projects in Decision 3218-D01-2015, there was no need to undertake a reassessment of these programs or projects against the Criterion 2 requirements.
AUC Conclusions on Criterion 3
The AUC found that ATCO Electric generally interpreted and applied the Criterion 3 two-tiered materiality test properly for the purposes of its 2015 capital tracker true-up. Accordingly, the AUC approved the 2015 threshold amounts as calculated by ATCO Electric.
Because ATCO Electric’s accounting test for 2015 needed to be revised, the AUC found that it could not determine whether all of ATCO Electric’s programs or projects included in the 2015 true-up, satisfied the materiality test requirement of Criterion 3.
The AUC therefore directed ATCO Electric, in its compliance filing, to reassess whether its programs or projects included in the 2015 true-up, satisfy the two-tiered materiality test requirement of Criterion 3.
