Utility Ratemaking

“Utility Ratemaking” is the name of the process that public utilities must go through, by law, to set the rates or prices that they will charge their customers. The government is better able to regulate public utilities via the ratemaking process, by conducting and investigating rate cases with the state Public Utilities Commission.

In the United States, any business that is formally classified as a public utility must participate in the ratemaking process to figure out the regulated services charges for natural gas and electricity generation and distribution.

One of the main reasons why public utilities must follow the ratemaking process is to ensure that the rates are fair between every customer. It does not allow these companies to become monopolies, where the rates of electricity or natural gas are so high that no one can afford them. Overall there are five reasons why the government created a ratemaking process. These reasons include,

  1. Generation of reasonable energy rates – Prior to the Public Utility Commission, utilities had the ability to grow into giant monopolies. There wasn’t any control over setting or making rates. Therefore these companies could charge whatever they wanted. Putting this regulatory body into place and developing a ratemaking process truly helps to make energy more affordable for everyone.
  2. Attraction of economic wealth – Most utilities are privately owned, despite the fact that they are part of a related industry. In order to operate they must figure out how get private capital. By law, government regulators have to ensure that revenue is available so that these utilities can borrow money and invest in energy opportunities. The result is a generation of fair rates for customers.
  3. Creation of efficient processes – Efficient processes allow utilities to understand the rates they can charge as well has how to go about changing or requesting a change.
  4. Income Transfer – Energy consumers are typically broken down into three groups: commercial, residential and industrial. Ratemaking helps to shift the wealth within and amongst these groups.
  5. Customer energy rationing or demand control – A price increase typically decreases demand of that product or service. In the case of utilities, the same hold true for energy. If regulators need or want to conserve energy, they can let prices rise to deter consumers from using too much.

How the Public Utility Commission Sets Rates

There are many states in America that are energy deregulated. This means that an energy bill is separated into two parts. One part is handled by the utility and pertains to the delivery and generation of energy. The other part allows energy retail providers to take care of the supply of energy to consumers. This opens the market up to competition on two fronts.

The government does not regulate retail energy providers. They deal with competition between themselves, in order to provide the best rates and services to customers who get to pick which company they sign up with. Utilities that continue to offer supply services are generally working with capped rates that they are unable to change. However, each state’s Public Utility Commission regulates the rates for a utility’s energy generation and delivery.

Increasing Rates

In order for an energy utility to change or increase their rates, they must put in a request with their Public Utility Commission. This request must include a proposal with new rates and when those rates will take effect on. The utility must also prove that an increase in rates is justified or needed. Customers must also be notified at a minimum of 60 days in advance of the effective date.

Alternatively, the Public Utility Commission may also investigate decreasing rates, depending on what the utility currently charges compared to its competitors.

Setting Rates

It is the Public Utility Commission job to make sure that the ratemaking process results in the best rates for customers. At the same time, it is also their responsibility to make sure that those rates help to keep the utility financially stable. They have to take into account laws where utilities can recover a fair return on investment as well as its incurred expenses.

Setting these rates is typically dependent on arate formula that is designed to reveal a utility’s revenue needs.

The formula looks like this:

R = E + (V – D)r

Each element in the formula stands for a particular factor and are defined as follows,

R stands for: Revenue Requirement (can also refer to Rate Level). It defines the total amount a utility is allowed to earn by the regulator.
E stands for: Expenses (also sometimes is seen as ‘O’ for Operating Expenses). This amount defines the overall operating expenses for the utility.
V stands for: Value. This amount represents the gross value of property.
D stands for: Accrued Depreciation. When the Value is subtracted by this value, it defines the rate base or capital investment.
r stands for: Rate of Return. This defines the amount the utility can earn on its rate base.

Please note that this formula could vary from state to state and also from utility to utility, depending on how rates are determined.

The Rate Case Process

In order for a utility to receive a rate change, there are several steps that need to take place to ensure the process runs smoothly and efficiently. These steps include,

  1. The utility files their rate request with the Public Utility Commission or related regulatory office.
  2. Several devisions and offices review the request. This request can also be reviewed by other interested organizations, who may also act as mediators. Additional information may be requested of the utility at this time. These parties can file testimony with the Public Utility Commission, which helps everyone involved to better understand the case.
  3. Public Witness Days are set to allow individuals and consumers to state their opinions on the case.
  4. Like any standard hearing, attorneys cross-examine witnesses. After the information is presented, the Public Utility Commission will consider and then make a final ruling.

Overall, the Public Utility Commission tries to make its final ruling based on the following three questions:

  1. Based on the services customers receive – are the rates reasonable?
  2. What is the quality of service?
  3. For the shareholders who dedicate capital to the utility – is the return on investment fair?

It is important to keep in mind that depending on the state you live in, your Public Utility Commission might handle this process a little differently. The processes as described above serves to provide a basic outline to help consumers better understand the general steps involved in a rate case (from start to finish).

Consumer Role in Rate Changes

Since utility customers need to pay for their energy services, they have the right to several things related to the ratemaking process. These include:

  • The right to be informed about the process.
  • The right to receive explanation regarding their utility bill.
  • The right to have any complaints or concerns dealt with quickly and fairly.
  • The right to the utility service when payment obligations are met.

Customers of utilities also have the right to become involved in the ratemaking process. If desired, they can complete an informal complaint or other related forms. Consumers can also get in touch with their Public Utility Commission by writing a letter or calling customer complaints.

It is important for consumers to know that they can get involved and attend public input hearings. Providing comments and other information will go on the official record of the case, which eventually becomes part of how the Public Utility Commission will come to a decision.

Any formal complaints will involve a process similar to a trial. The consumer will need to present their case before a Public Utility Commission administrative law judge, and comply with all procedural rules.

Local Competition via Deregulation

Aside from the utility ratemaking process, in many states such as Texas, Pennsylvania, and Connecticut homes and businesses can shop and compare electric plans from local providers.  This electric choice creates additional competition in local deregulated markets, possibly further influencing the rates utilities offer to consumers.

Are you located in a deregulated energy market?  If so, it’d behoove you to not only consider the rates of your local utility, but local providers as well.  You can search for rates and plans from hundreds of deregulated markets on our website.