BEFORE THE PUBLIC UTILITIES COMMISSION OF THE STATE OF CALIFORNIA Order Instituting Rulemaking on the ) Commission's Proposed Policies ) R.94-04-01 Governing Restructuring California's ) Electric Service Industry and ) Reforming Regulation ) ) ) Order Instituting Investigation on the ) Commission's Proposed Policies ) I.94-04-032 Governing Restructuring California's ) Electric Services Industry and ) Reforming Regulation ) ) REPLY COMMENTS OF THE CALIFORNIA COGENERATION COUNCIL ON CUSTOMER CHOICE THROUGH DIRECT ACCESS Jerry R. Bloom Lynn M. Haug MORRISON & FOERSTER 345 California Street San Francisco, CA 94104-2675 (415) 677-6065 Attorneys for the California Cogeneration Council September 30, 1994 I. INTRODUCTION Pursuant to the Assigned Commissioners' Rulings issued on July 8 and September 1, 1994, and the Administrative Law Judge's Ruling issued on July 26, 1994, in this proceeding, the California Cogeneration Council ("CCC") offers its reply comments on certain matters raised in the August 24 opening comments on direct access and at the Commission's September 16 full panel hearing. First, CCC addresses a proposal by Independent Energy Producers Association ("IEP") regarding phase-in of direct access eligibility. The proposal involves modification of existing power purchase contracts between qualifying facilities ("QFs") and utilities. CCC believes this proposal is one of several promising approaches to voluntary modifications of existing QF contracts. To ease the transition to a more competitive electric market, the Commission should generally encourage a variety of such approaches without attempting to prescribe terms of the modification or mandating any single approach. Second, CCC responds to a concern raised by Coalition of California Utility Employees ("CUE") regarding the impact of QFs on utility purchases of "economy energy" from non-QF sources. CUE's concern is based on a misunderstanding of the Commission's QF pricing methodology, under which the utilities pay QFs on the basis of all the generation supply (including economy energy purchases) that 168761.1 1 the utilities would use in the absence of QF output. Because this pricing methodology ensures that ratepayers receive the benefits of potential economy energy purchases while continuing to buy QF output, CUE's concern is unwarranted. II. ALLOWING CONSUMERS DIRECT ACCESS TO QF GENERATION IS A PROMISING APPROACH IF IMPLEMENTED IN A MANNER CONSISTENT WITH SOUND POLICY REGARDING MODIFICATION OF EXISTING QF CONTRACTS IEP has proposed an alternative to the Commission's "Blue Book" mechanism for phasing in direct access. As CCC understands the proposal, starting January 1, 1996, QFs currently selling electricity under a long-term contract with a California investor-owned utility would be authorized to voluntarily terminate that contract and, instead, to provide supply services to any consumer, including an off-site factory or other electric load owned by the same entity that owns the QF. Such a contract termination would not be subject to any penalty or payback provision that might otherwise be triggered by QF termination under the contract. IEP's proposed phase-in of direct access thus would occur on the basis of generation source (i.e., independent generation would precede utility- owned generation) rather than customer class. IEP points out several potential advantages to its proposal. These advantages include (1) temporal equity between customer classes, with all classes gaining direct 168761.1 2 access eligibility on the same date; and (2) an opportunity to mitigate utilities' stranded cost problems where generation costs under the terminated contract exceed current market prices for comparable generation. CCC applauds IEP's creativity, and also shares IEP's concerns that: (1) direct access eligibility be granted to all customer classes as broadly and as rapidly as possible; and (2) stranded costs be minimized. In implementing IEP's proposal, however, the Commission should preserve those policies regarding existing contracts that CCC has outlined in previous comments. Specifically, the Commission must continue to honor existing contracts between QFs and utilities. The Commission neither can nor should try to compel QFs and utilities to enter into specific contract modifications, whether a buyout, a buydown, a termination of the type IEP envisions, or any other combination or variation. Instead, the Commission should encourage QFs and utilities to negotiate market-responsive contract modifications that are mutually beneficial. IEP's proposal may well be mutually beneficial in many situations, but other situations may call for a different approach. The operating characteristics of particular QF projects and (as to cogenerators) their thermal hosts, the financial and other requirements of individual QFs, and the needs of the respective electric utilities, all vary significantly and affect the types of 168761.1 3 contract modifications that may be economic, practical, or technically feasible in particular instances. Thus, in implementing IEP's proposal or endorsing any other specific approach to modification of existing QF contracts, the Commission should not preclude other possible approaches. III. SAVINGS FROM ECONOMY ENERGY ARE UNAFFECTED BY UTILITY PURCHASES OF QF OUTPUT A representative for CUE suggested at the September 16 full panel hearing that QFs cause the California utilities to forego opportunities to purchase inexpensive energy from outside California. On the basis of this assumption, the representative implied that economic dispatch via a centralized pool, such as Southern California Edison's proposed POOLCO model, would lower utility costs by increasing economy energy purchases. These remarks appear to be based on a misunderstanding of the Commission's dispatch and QF pricing policies. Under present Commission policy, the California utilities can and do purchase economy energy supplies from both the Pacific Northwest and from Southwest suppliers. Economy energy and other purchased power constitutes a significant portion of the utilities' supply. Part of that out-of-state supply is purchased through sales contracts, part of it comes to the utilities through seasonal exchanges, and the balance is economy energy purchased on an 168761.1 4 as-available basis. Economy energy prices reflect both the non-firm nature of the resource and market forces. Energy purchased from QFs is priced at the utility's avoided cost, which, by definition, includes both firm and economy energy purchases and the utility's own generation. As the Commission knows, pricing this avoided increment of generation supply is accomplished through a QF energy payment mechanism that is updated frequently to reflect current utility system costs. In particular, the Incremental Energy Rate ("IER") that forms part of the basis for QF energy payments is updated annually in Energy Cost Adjustment Clause proceedings, where the utilities provide the Commission with a comprehensive forecast of their energy costs (including economy energy purchases) for the coming year. Using a computer model that simulates the utility's system operation, the Commission establishes an IER reflecting the incremental value of QF energy, taking all energy sources (including economy energy) into account. The result of the IER update is to maintain the kind of ratepayer indifference CUE is concerned about. Thus, utilities can take advantage of economy energy purchase opportunities while continuing to meet their contractual obligations to purchase energy from QFs. Not only does the problem posited by CUE not really exist, but also the POOLCO solution supported by CUE 168761.1 5 would create real problems. First, to abandon avoided cost pricing and, instead, to price firm QF energy based on a spot-price or other non-firm energy index, as would happen under POOLCO, would significantly undervalue QF energy, which is subject to an array of performance requirements (e.g., availability during peak periods and emergencies) that do not apply to economy energy or other non-firm resources. Further, POOLCO would constrain competition rather than enhancing it. QFs may well be willing to modify pricing and other provisions of their existing contracts, or to terminate those contracts and sell to different utilities or to nonutility purchasers. These changes will not occur, however, unless they meet the needs of the sellers and purchasers. The single-price POOLCO system is unlikely to allow the right fit for either sellers or purchasers. Second, the POOLCO provisions governing plant dispatch are even more troubling. Cogenerators, such as the members of CCC, are currently dispatched pursuant to provisions of their contracts to sell electric output to the utilities. The hours when cogenerators operate are dictated by various factors, including the needs of the thermal host, arrangements with fuel suppliers, and any electric loads that are served in addition to sales to the utility. To convert cogenerators' power plants to dispatch by a pool administrator, as CUE appears to recommend, fails to recognize these existing obligations, and would require 168761.1 6 renegotiation of all contracts. Any attempt to unilaterally alter contract terms would constitute a breach. Such an attempt is clearly unacceptable to QFs and should be prohibited by the Commission. IV. CONCLUSION QFs are ready to respond to the challenges of increasing competition in the electric market if allowed the flexibility to do so. While no one response is right for all QFs, the IEP proposal opens an avenue that is worth exploring. The Commission should avoid "one-size-fits-all" solutions such as POOLCO, and should critically analyze the "problems" those solutions are supposed to address. In the case of utility purchases of economy energy, current avoided cost pricing already reflects fully and accurately the impact of such purchases. Respectfully submitted, Jerry R. Bloom Lynn M. Haug MORRISON & FOERSTER By Jerry R. Bloom Attorneys for the California Cogeneration Council 168761.1 7