Arizona Corporation Commission staff recently filed testimony recommending that Southwest Gas Corp. be accorded a $58.2 million natural gas distribution rate increase versus the $101 million rate hike proposed by the utility.

➤ The staff's recommendation is nearly $43 million less than that proposed by Southwest Gas.

➤ The equity return recommended by the staff is below prevailing industry averages in recent periods and what is currently authorized for the utility.

➤ Regulatory Research Associates views the Arizona regulatory climate for energy utilities as restrictive from an investor perspective.

The staff's recommendation reflects a 9.75% return on equity (50.08% of capital) and a 7.07% return on an original cost rate base valued at $3.788 billion for a test year ended Nov. 30, 2025, updated for certain known and measurable changes (Docket No. G-01551A-26-0018).

The staff's filing also specifies a 4.91% return on a fair value rate base valued at $5.463 billion. The recommended rate hike includes a $4.5 million premium associated with fair value rate base. RRA calculates that this is equivalent to 9.92% return on equity and a 7.16% return on original cost rate base.

The 9.75% equity return specified in the staff's filing is below the 9.83% ROE average accorded to gas utilities in all cases decided through the first six months of 2026, and the 9.87% average for the full year 2025. For further information regarding return on equity trends, refer to "Average gas ROE edges down as electric holds firm in H1 2026."

RRA calculates that $12.7 million of the approximately $42.8 million difference between the $101 million rate increase proposed by the company and the $58.8 million rate hike recommended by the staff is attributable to the staff's reliance upon a lower rate of return. About $9.1 million of the difference stems from the staff's recommended rate base adjustments. The remaining $21 million of the difference flows from the staff's recommended adjustments to net operating income.

The largest of the staff's net operating income adjustments pertained to the utility's management incentive and stock-based compensation programs. Regarding the stock-based program, the staff asserted that it aligns management's compensation with the performance of the company's stock rather than the interests of customers and therefore "should … be borne by the shareholders and not by utility ratepayers." Regarding Southwest Gas' management incentive plan, the staff said 50% of the program costs should be allocated to shareholders, consistent with how the ACC has treated the expense in previous rate cases.

Case history

This case was initiated on Feb. 27, when Southwest Gas filed for Arizona Corporation Commission (ACC) approval to implement a $101 million rate increase premised on a 10.25% return on equity (50.08% of capital) and a 7.23% return on an original cost rate base valued at $3.881 billion.

The company's filing also specifies a 3.82% return on a $5.555 billion fair value rate base. The utility's requested increase reflects a premium of about $4.5 million associated with fair value rate base. RRA calculates that this equates to a 10.42% ROE and a 7.41% return on an original cost basis.

Southwest Gas' rate filing specifies that the requested increase is necessary to align customer rates with its current cost of service and to implement a new rate adjustment mechanism (RAM) as contemplated in the ACC's 2024 policy statement on alternative regulation. The RAM is somewhat similar to the mechanism adopted for UNS Gas Inc. (UNS-G) earlier this year. Southwest Gas' rate filing highlights an increased cost of service primarily attributable to elevated capital costs, rising depreciation and amortization expenses, and increasing operations, maintenance, administrative and general costs.

Southwest Gas' proposed RAM would include a plus-or-minus 20-basis-point deadband centered on the utility's authorized ROE. To the extent that the utility's earned return falls outside the deadband, rates would be adjusted annually through the RAM to achieve the authorized return. The staff does not oppose the adoption of the RAM.

Prior case

Southwest Gas' previous rate case decision was issued in April 2025, when the ACC authorized the utility an $80.2 million rate increase premised on a 9.84% return on equity (48.50% of capital) and a 7.03% return on a $3.175 billion original cost rate base. The order also specified a 4.68% return on a $4.770 billion fair value rate base. Notably, the adopted rate change in that case did not reflect any premium associated with fair value rate base (Docket No. G-01551A-23-0341).

Southwest Gas is a subsidiary of Southwest Gas Holdings Inc.

RRA's view of Ariz. regulatory environment

RRA views the Arizona regulatory environment for energy utilities as relatively restrictive from an investor point of view and accords the state a Below Average/1 rating.

In recent rate decisions, the ACC has generally authorized ROEs for the state's energy utilities in line with or exceeded prevailing industry averages. The commission's decision for UNS-G earlier this year authorized that company a below-average equity return. However, the utility agreed to the ROE, which coincided with the ACC's adoption of the previously mentioned alternative regulation mechanism.

While several of the ACC's more recent equity return authorizations have improved in Arizona, protracted rate cases and the commission's reliance on historical test years have persisted. These factors have resulted in substantial regulatory lag and have generally made it difficult for the utilities to earn their authorized returns.

On a constructive note, the commission has approved system reliability benefit mechanisms for two of the state's large electric utilities within the last few years in an effort to reduce regulatory lag. Similarly, UNS-G and Southwest Gas have been permitted to implement a system improvement benefit mechanism to address pipeline safety investments between rate cases. However, it remains to be seen if the ACC will ultimately grant Southwest Gas' proposal to implement the RAM.

The ACC is a state constitutional entity and has historically formulated its own policies, using a rulemaking process independent from the state legislature. However, in a 2020 Arizona Supreme Court decision, the court determined that the legislature's authority supersedes the commission's in certain cases. Under that ruling, the legislature could, if it chose, draft legislation to override certain ACC rulemakings.

Energy regulatory issues have been highly politicized at times in Arizona, and the commission's elected commissioner makeup contributes to a heightened degree of risk for investors in the state's utilities. In recent years, there has also been a relatively high turnover in ACC commissioners, exacerbating uncertainty as regulators get up to speed on complex issues. Notably, two of the five ACC commissioner seats are up for election later this year, with terms beginning in 2027.