Sale and Transfer of Utility Assets – Prudence of Purchase Price
In this decision, the AUC considered applications by FortisAlberta Inc. (“FortisAlberta”) and the Municipality of Crowsnest Pass (the “Municipality”) for the sale and transfer of the Municipality’s electric distribution system. In addition, FortisAlberta requested that the AUC consider the reasonability, calculation and prudence of the purchase price of $3,745,902.
The AUC found that approval of the sale and transfer of the Municipality’s electric distribution system was in the public interest. Accordingly, the AUC:
(a) approved the Municipality:
(i) to cease operations in its service area, pursuant to Section 29(1) of the Hydro and Electric Energy Act (HEEA); and
(ii) to discontinue its electric distribution system operations under Section 30 of the HEEA;
and
(b) ordered the incorporation of the service area of the Municipality into FortisAlberta’s service area, pursuant to Section 25 of the HEEA.
With respect to the purchase price, the AUC:
(a) found the use of the replacement cost new less depreciation methodology was reasonable in the circumstances; and
(b) approved the value of the applied-for replacement cost new amount.
However, the AUC did not find the applied-for depreciation amount to be prudent. Accordingly, the AUC did not find the applied-for purchase price to be prudent, for rate setting purposes.
Stage One: Public Interest
For the reasons summarized below, the AUC found that the transfer of the Municipality’s electric distribution system to FortisAlberta was in the public interest.
In finding that the sale and transfer were in the public interest, the AUC considered the following:
(a) FortisAlberta already had assets and operations located within the Municipality’s boundaries;
(b) there was an agreement with FortisAlberta to continue to provide service to the customers served by the Municipality and to operate, maintain, replace, reconstruct, alter or upgrade the facilities in accordance with the municipal franchise agreement; and
(c) the Municipality requested FortisAlberta to make a formal offer, and the council of the Municipality had passed a resolution unanimously to proceed with the sale of its electric distribution system and related assets to FortisAlberta.
Stage Two: Prudence of Purchase Price
With respect to its consideration of the prudence of the purchase price paid by FortisAlberta, the AUC explained that:
(a) under the Electric Utilities Act (“EUA”), the AUC must establish rates that provide a distribution utility, such as FortisAlberta, with a reasonable opportunity to recover its prudent costs to provide service to its customers;
(b) once the AUC determines the cost of an electric distribution system acquisition to be prudent, a distribution utility may apply to the AUC for an adjustment of its rates; and
(c) in this case, if the AUC were to find the purchase price to be prudent, then this would facilitate FortisAlberta’s application to recover the purchase price in rates as part of its annual Performance-Based Regulation (“PBR”) rate adjustment filing.
Use of Replacement Cost Method
FortisAlberta determined the purchase using a “replacement cost new, less depreciation” method, based on obtaining a “replacement” value in lieu of a “reproduction” cost.
The AUC found that, in the circumstances, FortisAlberta’s use of the replacement cost new, less depreciation methodology was reasonable for the purposes of this decision, subject to the findings on the depreciation component calculations discussed below.
The AUC noted that section 29(4) of the HEEA refers to “reproduction cost new, less depreciation.” However, the AUC noted its previous findings that the use of a replacement cost new, less depreciation method was a reasonable alternative in certain circumstances.
The AUC found that the replacement cost methodology was reasonable in the circumstances, based on the following:
(a) determining the vintage of the assets and obtaining a reasonable cost estimate would be a labour-intensive task, had FortisAlberta chosen to use reproduction cost new methodology; and
(b) there was insufficient evidence to support the use of a “blended” valuation approach, which would combine both the replacement and reproduction cost new methodologies to evaluate the Municipality’s assets when compared to the replacement cost new, less depreciation methodology.
The AUC approved the replacement cost new value of $5,407,786, as reflected in the FortisAlberta proposal.
The following section summarizes the AUC’s findings regarding the depreciation component of the replacement cost new, less depreciation methodology
Depreciation
The AUC denied FortisAlberta’s request for a determination that the accumulated depreciation amount of $1,640,277 employed in the replacement cost new less depreciation methodology was prudent.
The AUC found that:
(a) FortisAlberta was proposing a 30.33 percent depreciation rate to be applied to Municipality assets that had reached or were near the end of their service life;
(b) this method did not provide a reasonable proxy for estimating the accumulated depreciation associated with the acquired assets, given the vintage of those assets being acquired.;
(c) the proposed depreciation component of $1,640,277 produced a value that was not commensurate with the value of the Municipality’s system.
Based on the above, the AUC concluded that it had insufficient evidence to determine which approach was suitable to calculate the depreciation component of the purchase price.
Condition of Approval
The AUC confirmed that the transfer of the Municipality’s electric distribution system could proceed irrespective of the AUC’s findings regarding the purchase price agreed-to in the asset purchase agreement.
However, given the AUC’s determination that it was not able to find the applied-for purchase price to be prudent, the AUC required as a condition of approval that: FortisAlberta and the Municipality shall advise the AUC within 90 days of the decision whether they intend to proceed with the sale and transfer of the electric distribution system and the agreed-to purchase price.
FortisAlberta may reapply in a compliance filing for approval of a revised purchase price determined on the basis of a comprehensive depreciation methodology that reflects the state of condition, vintage and necessity of the infrastructure assets to be acquired from the Municipality. Should the AUC find the revised purchase price to be prudent for rate setting purposes, then FortisAlberta would be free to use this determination in its application for purchase price recovery in rates as part of the annual PBR rate adjustment filing.
