Evenas it considers exceptions to an administrative law judge's initial decision findingthat the base rate of return on equity approved for transmission-owning membersof the ISO New England Inc.should be raised from 10.57% to 10.9%, FERC has been handed a new attempting to lower the rate to8.61%.
Filedby a group of utilities calling themselves the Eastern Massachusetts Consumer-OwnedSystems, or EMCOS, the complaint (EL16-64) also recommended that the overall ROEceiling for the New England transmission owners, or NETOs, which is now set at 11.74%,be lowered to 11.24%.
Accordingto EMCOS, the currently effective base ROE and incentive cap are "unjust, unreasonable,and excessive" based on existing economic conditions and result in New Englandtransmission customers being overcharged approximately $122.2 million annually.
The properbase ROE for the NETOs has been the subject of debate since September 2011, whena complaint (EL11-66) was filed challenging the 11.14% ROE that was originally approvedfor the NETOs in 2004. Although that complaint sought to reduce the base ROE to9.2%, the commission in October 2014 determinedthat it should be lowered to 10.57% based on the new two-step discounted cash flow,or DCF, methodology that the agency adopted for calculating appropriate ROEs forjurisdictional electric utilities when it issuedOpinion 531 the previous June.
FERCacknowledged that it generally sets the base ROE for a group of utilities at themidpoint of the zone of reasonableness identified by the distributable cash flowmethodology, but said the existence of anomalous market conditions justified settingthe New England transmission owners' base ROE halfway between the midpoint and thetop of the zone of reasonableness instead. However, that ruling applied only tothe Oct. 1, 2011-Dec. 31, 2012, refund period for that proceeding and going forwardfrom Oct. 16, 2014.
Meanwhile,two more complaints (EL13-33, EL14-86) were filed seeking to further revise theNETOs' base ROE, which FERC subsequently consolidated in light of "the existenceof common issues of law and fact." Because different 15-month refund periodshad already been established in the two proceedings, the commission said litigatinga separate ROE for each based on financial data for the final six months of therelevant period was appropriate.
AdministrativeLaw Judge Steven Sterner issuedan initial decision in the consolidated complaint proceeding March 22, finding thatthe anomalous market conditions underlying FERC's decision to set the base ROE halfwaybetween the midpoint and the top of the zone of reasonableness in the earlier complaintcontinued to exist during both refund periods at issue. Accordingly, he said thebase rate for the first refund period should be 9.59% with an overall ROE ceilingof 10.42%, and the base rate for the second refund period and going forward shouldbe 10.9% with an overall ROE ceiling of 12.19%.
But citingexpert witness testimony, EMCOS in its complaint said "there is neither credibleevidence nor any sound theoretical basis to support the proposition that currentcapital market conditions are anomalous or otherwise capable of inhibiting a properlyconducted DCF analysis from identifying a midpoint value that is a just and reasonableROE." A DCF analysis conducted by that expert established a range of reasonableROEs of between 6.61% and 11.24% with a midpoint of 8.93%, EMCOS said.
However,the group noted that a second expert witness recommended that the 8.93% figure beadjusted downward by 32 basis points — to 8.61% — "to mitigate the adverserate impacts of the equity-heavy capital structures maintained by certain of theNETOs."
WhileEMCOS acknowledged that the complaint is the fourth one to challenge the NETOs'base ROE since 2011, the group said its submission is justified for several reasons.The new proceeding will give FERC the opportunity to reconcile several "divergentrulings" regarding the persistence of the anomalous market conditions thatprompted the agency to depart from its policy of setting ROEs at the midpoint ofthe zone of reasonableness in the first place. It will also help to clarify whetherFERC's anomalous conditions rationale "is intended to reflect changes in [theagency's] long-standing reliance on the DCF methodology," EMCOS added.
EMCOSargued that the NETOs' ROE no longer needs to be set above the midpoint of the zoneof reasonableness since capital markets presumably "would have long since assimilatedinto stock prices any anomalies" that prompted FERC to approve the current10.57% base ROE.
"[T]henotion that investors continue to be unfamiliar with very public and well knownmarket conditions examined in Opinion 531 is at odds with the efficient market hypothesisunderlying the DCF methodology," EMCOS said. "If investors failed to incorporatethese market conditions into their investment behavior, they would be behaving irrationallyand will lose money. Moreover, other investors could take advantage of this irrationalbehavior by 'shorting' utility stocks (i.e., selling these stocks in the forwardmarket)."
FERCaccordingly should lower the NETOs' base ROE and overall ROE ceiling as requestedor, in the alternative, set a refund effective date and hold a hearing to determinea just and reasonable rate, EMCOS said.