I Introduction
In November 2013, the Alberta Utilities Commission (AUC) issued its Utility Asset Disposition (UAD) decision following a generic proceeding convened in order to establish the principles that should apply to the disposition of utility assets in Alberta, including the question of stranded asset risk, in light of the Supreme Court of Canada’s 2006 decision in ATCO Gas and Pipelines Ltd. v. Alberta (Energy and Utilities Board), the Stores Block case.1
Prior to the Stores Block decision, the Alberta regulator had approached the issue of allocating any gain on the sale of a utility asset outside the normal course of business – which dispositions require its approval, as a matter of law – on two basic premises:
If the proposed disposition would harm utility customers, the gain could be used in whole or in part as a credit to rates or otherwise distributed to customers to mitigate that harm;
If no harm would be occasioned to customers, any excess sale proceeds over the original cost of the asset would be shared on a formulaic basis between the utility’s customers and its shareholders.
The Stores Block decision changed this. In its 4-3 decision dismissing an appeal from the Alberta Court of Appeal, the Court addressed the ratemaking jurisdiction of the Alberta Energy and Utilities Board (EUB).2 The Court determined that where the sale of an Alberta utility asset by ATCO Gas outside the normal course of business does not cause harm to customers, the regulator has no explicit or incidental jurisdiction to allocate any portion of the sale proceeds to customers. The essence of the decision lay in the principal conclusion that customers of a regulated utility have no property interest in the asset to be disposed of, and which was used to provide them with utility service.
Since the Stores Block decision, the Alberta regulator and Court of Appeal have grappled with numerous questions arising in relation to it, which have been the subject of frequent and diverse comment.3 These have included the continued inclusion of assets in utility rate base; what amounts to a disposition requiring regulatory approval; whether dispositions in the normal course are any different; and the treatment of the costs of an asset once it is withdrawn from service.
Along the way, the Alberta Court of Appeal has determined, at least in the context of gas utilities, that here is no such thing as a ‘dedicated’ rate base, having regard to the requirement that assets must be used or required to be used in utility service (Carbon4); that an asset no longer required for utility service must be removed from rate base (Harvest Hills5); that regulatory approval of a disposition requires that there be a sale or transfer of interest by the utility (Harvest Hills); and that it is for the regulator to determine which assets are used or required for use in utility service and as such, to be included in rate base (Salt Caverns #16).
During this same period, in the course of exercising its authority over utility rates, the Alberta Utilities Commission (AUC or Commission) has concluded that it would be unreasonable for a utility to pass on any costs of an asset that is not used or required to be used to provide gas utility service.7
It is in this context that the Commission approached the issue of utility asset dispositions.
II The UAD Decision8
Principles
The AUC first initiated the UAD proceeding in April 2008 – prior to many of the above-referenced cases – on the premise that Stores Block “may require reconsideration of certain aspects of traditional regulatory approaches to the acquisition and disposition of utility assets and to the setting of just and reasonable rates.”
In the Commission’s view, this warranted having all parties involved in a single proceeding to discuss their interpretations of Stores Block and their view of its implications for regulation in Alberta, and to assist the AUC in developing a consistent and principled approach to its application.
The proceeding was suspended in November 2008, given that certain issues related to Stores Block had by then found their way to the Alberta Court of Appeal. Once these issues were decided in Harvest Hills and Salt Caverns #1, the generic UAD proceeding continued.
Prior to the resumption of the process, the AUC rendered its decision on the approved generic return on equity for utilities for 2011.9 The Commission rejected a suggestion that utility ratepayers should be at risk for stranded transmission facility assets. Relying on Stores Block, the Commission found that any stranded assets not required to provide service must not remain in rate base, and that the utility is at risk for any outstanding costs of those assets.
In the UAD decision, the AUC first canvassed Stores Block and numerous Alberta and other decisions in order to derive a number of principles that it believed to have been established by such decisions. It bears noting that Stores Block and the other Alberta decisions supporting the AUC’s principles concerned the regulatory scheme under Alberta’s Gas Utilities Act (GUA).
In summary, the relevant principles identified by the AUC were as follows:
The Commission’s authority is derived from its enabling statutes and is limited by its rate setting function or mandate.
Disposition of a gas utility asset outside the normal course of business is governed by the no harm test.
Utility assets are the property of the utility; its shareholders bear the risk of, and are entitled to, the net proceeds of their disposition.
Conditions may be imposed on a disposition if there is a close and immediate connection between the sale and a need to replace the asset.
The term “used or required to be used” in the GUA means operational use and refers to assets currently and reasonably used and likely to be used in the future to provide utility services. Past use does not guarantee continued inclusion in rate base.
The AUC has no authority to include assets in rate base that are not used or required to be used, and revenue generation is not a sufficient basis to do so.
The AUC has the responsibility to determine utility rate base and which assets are or are still relevant investment on which a return may be earned.
Gas utilities may remove an asset from their rate base that is not used or required to be used, subject to the AUC disallowing recovery of the financial impacts of such removal if it was imprudent.
Gas utility assets not having an operational purpose and not used or required to be used to provide utility service, no matter their historical use, should be removed from rate base and not reflected in customer rates, on the earlier of the date of the utility’s advice to the AUC or its determination that such asset is not required.
Findings
With these principles in mind, the Commission then addressed the various issues that had been identified for discussion in the UAD proceeding.
(i) Application of Stores Block
The Alberta Utilities10 argued that Stores Block did not address or deal with disposition of assets in the ordinary course, or retirements, and the Commission’s uniform accounting systems for all utilities dealt with such dispositions: on the sale or retirement of an asset in the normal course, ratepayers are entitled to the gain or loss on the depreciable portion of the invested capital, and shareholders to the non-depreciable portion.
The AUC found that the property and utility asset ownership principles established by Stores Block apply to all utility assets, whether they are disposed of outside or inside of the normal course. This is not surprising; as the AUC noted, customers cannot reasonably have no interest in certain assets depending on the character of their disposition. As the Commission said, any other conclusion would mean or at least imply that customers would have acquired some sort of interest in the utility asset, contrary to Stores Block.
The Commission also found that such principles are equally applicable to dispositions of assets by Alberta’s electric utilities.
(ii) Inclusion of Assets in Rate Base
The AUC affirmed the various decisions that establish that utility assets should only be included in rate base if they continue to be used or required to be used for utility service. The Alberta Utilities argued, however, that electric utilities are not subject to this regime, as the Electric Utilities Act (EUA) requires a utility to be given the opportunity to recover prudently incurred costs and a reasonable return on investment, irrespective of whether an asset meets the used or required to be used criterion. The Commission rejected this argument, concluding that it conflicted with the property ownership principles laid down in Stores Block.
That being the case, the Commission had no difficulty that the referenced decisions and rationale would apply equally to electric utilities, and that they too must not include in rates any costs of assets no longer used or required to be used for utility service.
The next question to be addressed was whether the Commission could deal with gains or losses on assets in a different way, depending upon the circumstance in which they cease to provide utility service.
(iii) Depreciation
The AUC reiterated that the purpose of depreciation is to return to the utility the costs of assets used to provide utility service over the period of time of that use, and that the current Alberta methodology includes provision for the recovery of the costs of assets retired or removed from utility service and assets disposed of in the normal course. This conclusion stemmed from the premise that the AUC’s rate setting function extends to establishing methods of depreciation regarding prudent utility investment.
The only questions of concern were then whether that method complies with Stores Block and subsequent cases, and whether the AUC’s rate making authority goes so far as including a provision that prospectively charges or refunds depreciation adjustments resulting from prior year’s over or under recovery of depreciation.
As to the first question, the Commission concluded in the affirmative, but also found that the depreciation methodology in use by the majority of Alberta’s utilities was informed by the Store Block principles. As such, the AUC noted that the effect of this method is to “remove from rate base and customer rates depreciable assets that are no longer used or required to be used to provide utility service.”
As to the second question, the AUC found that having customers pay depreciation reserve differences is not inconsistent with the principles of shareholder risk and removal of assets from service, because it results in customers paying “no more and no less, and the utilities recovering “no more and no less” than the costs of the assets used to provide utility service over the period of that service.
(iv) Stranded Asset Costs
The Commission then turned to the important question of the recovery of costs associated with and capital invested in stranded assets no longer used or required to be used to provide gas and electric utility service.
In the case of an ordinary retirement of an asset at the end of it service life, i.e. one that is reasonably contemplated by depreciation and amortization provisions, it is removed from rates, given that its cost will have been recovered from customers during that time, or as may be adjusted after the fact.
In the case of the extraordinary retirement and removal from rates of an asset before it is fully depreciated, for causes not reasonably anticipated or contemplated in applicable depreciation and amortization provisions used to set rates (such as obsolete, abandoned, overdeveloped or surplus property), under or over recovery of capital investment on an extraordinary retirement is for the account of the utility and its shareholders. In other words, extraordinary retirements are to be dealt with similarly to assets disposed of by a utility outside the normal course of business.
(v) Operational Purpose
The Commission solicited submissions from parties as to how it might obtain periodic assurance that assets are used or required to be used in the operational sense – that is, present use, reasonable use or likely use in the future to provide utility service.
Given the Alberta Court of Appeal’s finding in Carbon that used or required to be used implies use in an operational sense, and its clear direction in Salt Caverns #1 that relevant utility investment is for the Commission to determine, the AUC directed each utility to review their rate base and confirm in their next rate filing that:
(a) All assets in their rate base continue to meet the operational use requirement – that is, are used or required to be used to provide utility service, and
(b) Do not include any depreciable assets which should be treated as extraordinary retirements and removed, because they are property that: is obsolete; to be abandoned; is overdeveloped and surplus to future needs; is used for non-utility purposes; or should be removed due to unusual casualty, sudden and complete obsolescence, or unexpected and complete shutdown of an entire asset, with the costs thereof being for the account of the utility and its shareholders.
III Post-UAD Decision
Developments
Applications for Leave to Appeal
The Alberta Utilities moved quickly to challenge the UAD decision by seeking leave from the Alberta Court of Appeal on several questions of law and/or jurisdiction.11 AltaGas and ATCO Gas, along with the electric utilities – AltaLink, ATCO Electric, ENMAX, EPCOR and FortisAlberta – challenged various aspects of the UAD Decision.12 The applications were heard on April 17, 2014 and as at the time of writing, are still under reserve.
Amongst the comprehensive grounds for appeal tabled by the Alberta Utilities, they have argued that the Commission erred in its UAD decision because:
The common law and legislative right of a utility to recover its prudently incurred costs, including at least a return of capital, as a result of its mandatory obligation to serve, is not affected by Stores Block.
The EUA specifically revoked the rate base paradigm and used or required to be used standard for electric utilities in favor of the principle of recovering prudently incurred costs, regardless of whether the assets continue to be used or required to be used. Applying that standard to electric utilities is in breach of the EUA.
Stores Block was only concerned with the allocation of sale proceeds arising from the disposition of gas utility assets outside the normal course of business (not in the normal course of business), did not consider the EUA regime at all, and is irrelevant to the recovery of prudently incurred costs by a utility.
Alberta’s electric transmission facility owners are required by the EUA to build facilities on the direction of the Alberta ISO (once regulatory approval is given), regardless of their scope. Alberta’s electric distribution facility owners are required by the EUA to connect and serve customers. TFO and DFO rates that do not include the recovery of costs prudently incurred are therefore neither just nor reasonable. Just and reasonable rates for gas utilities must include the recovery of their prudently incurred costs.
The AUC’s recognition in the 2011 GCOC decision that the requirement to remove assets from rate base could pose additional risk for utilities was reached without providing utilities with any opportunity to provide evidence as to their fair return in light of this determination. As such, the UAD decision and fairness require the record of that proceeding to be re-opened to allow the utilities a fair opportunity to ensure that their fair return for those years reflects such additional risk.
Alberta’s utilities cannot be governed by legislation that assures a reasonable opportunity to recover prudently incurred costs while at the same time being exposed to having that opportunity unreasonably curtailed by their regulator.
Salt Caverns #2
Shortly following the release of the UAD Decision and before the UAD leave applications were heard, the Alberta Court of Appeal, in a decision that again dealt with the Salt Cavern assets of ATCO Gas, essentially confirmed a number of important aspects touched on by the AUC in the UAD decision.
The Court again affirmed that assets not used or required for use in an operational utility sense should not be included in rate base, and that the final say in this respect is precisely the mandate of the AUC. Moreover, the Court found that if utility customers cannot share in the benefits of asset sales, there is a need to protect them by ensuring that only proper assets are included in rate base. Quoting from the majority decision of the Court:
“Since the authorities have established that ratepayers cannot share in any of the sales of assets, it follows that holding property within the rate base, once its use has expired, works to the detriment of the ratepayer. The recent principles set down in Stores Block and Carbon make it clear that ratepayers have no opportunity to share in the better times when land values rise, so it is important to protect the ratepayer by ensuring only proper assets remain in the rate base. In judging reasonableness, it is important to remember that since ratepayers cannot share in sale proceeds of utility assets, their protection for fair treatment lies in excluding assets not required for utility operations from the rate base.”
In light of the fact that Court of Appeal seems to have settled on a number of the key principles related to asset disposition by utilities in Alberta, and the consequences of same based initially but not entirely on the Stores Block decision, it may be the case that some of the arguments raised in the UAD leave applications will not find favour with the Court.
That said, at least the following issues and questions appear to be outstanding:
How strong is the principle of prudent cost recovery by utilities and does it trump the legislative regime for utilities in Alberta, at least as interpreted by the AUC?
On their face, the Alberta legislative regimes concerning gas and electric utilities differ in some material respects. Is it the case that there is a sufficient difference to warrant a different form of regulatory compact for each? Should there be and what would they look like?
IV Conclusion
The UAD decision is a recent, but unlikely the last chapter in the evolution of regulatory oversight as it relates to the treatment of utility assets in Alberta, including their disposition in various circumstances. That evolution, beginning with Stores Block, has extended well beyond the narrow jurisdictional point decided in that case as to the authority of Alberta’s regulator to allocate sale proceeds on the disposition of a gas utility outside the ordinary course of business.
The UAD decision, unsurprisingly, affirmed and adopted many of the intervening judicial principles and findings of the Alberta Court of Appeal. Going beyond those decisions, however, the Commission’s determination that utilities and their shareholders are at risk for the cost consequences of extraordinary retirements, that are not reflected or otherwise anticipated in the depreciation provisions upon which customer rates are established, is a matter of no small moment.
In the event that leave is not granted to the Alberta Utilities in their respective challenges of the UAD decision, then a significant change in the regulation of Alberta utilities – which some commentators have specifically advocated – will have occurred. 13 No longer will the AUC consider the treatment of utility assets only at the time of their disposition, but instead, as directed in the UAD decision, this will be an ongoing review associated with utility rate regulation, in the normal course.
But should leave be granted, then we will again have to look to the Alberta Court of Appeal, and perhaps the Supreme Court of Canada, for the next step in this continuing evolution.
V Update
It would appear that the evolution will continue. On August 20, Justice Bruce McDonald of the Alberta Court of Appeal granted leave to appeal the UAD decision brought by the Alberta Utilities.
Justice McDonald first acknowledged that the applications had been brought by two “categories” of applicants: gas utilities and electric utilities. In that regard, he was “less swayed” by, and confessed to having some “misgivings” about the arguments and applications of the gas utilities.
Nevertheless, on the well-established test for leave to appeal – does the question of law or jurisdiction raise a serious, arguable point – Justice McDonald granted leave to both the electric and the gas utilities, on the following questions:
Electric Utilities:
“Did the AUC err in law or jurisdiction in its interpretation of the EUA to hold that the shareholders of electrical utilities bear the risks that the electrical utilities will not be able to recover the prudently incurred costs of assets no longer used or required to be used by the electrical utility?”
Here, the apparent differences between the pertinent provisions of the governing GUA and EUA were persuasive in deciding to grant leave.
Gas Utilities:
“Did the AUC err in law or jurisdiction by concluding that it must deny gas utilities the opportunity to recover their prudently incurred costs in the provision of mandated utility services when those assets are removed from utility service in the circumstances as described in paragraph 327 of the UAD Decision?”14
Having noted the concession by the gas utilities that the GUA does differ from the EUA, it was at least seriously arguable to Justice McDonald that the issue of prudent cost recovery warranted consideration by the full court.
Electric and Gas Utilities
“Did the AUC err in law or jurisdiction in the GCOC Proceeding and/or in the UAD Proceeding by denying the Alberta Utilities or any of them the opportunity to provide evidence and submissions on the impact of the AUC’s imposition of a new prudent cost recovery risk on their fair return for the years 2011 and 2012, in light of the enhanced risks?”
Given the complex history of this issue, it is interesting that the Court, at least at the leave stage, seems to have accepted the fact that in the UAD decision, the AUC created a “new prudent cost recovery risk.” As to the particulars, it is perhaps notable that leave was granted on this question notwithstanding the arguments of the UCA that there was no procedural unfairness on the part of the AUC, and neither did the GCOC decision impose a new risk on them.
Whether prudent cost recovery risk emanated from the GCOC decision or the UAD decision, it seems for the moment at least to have a life, and to be an issue that may well be an explicit fact of life in the rate regulation of Alberta utilities.
I Introduction
In November 2013, the Alberta Utilities Commission (AUC) issued its Utility Asset Disposition (UAD) decision following a generic proceeding convened in order to establish the principles that should apply to the disposition of utility assets in Alberta, including the question of stranded asset risk, in light of the Supreme Court of Canada’s 2006 decision in ATCO Gas and Pipelines Ltd. v. Alberta (Energy and Utilities Board), the Stores Block case.1
Prior to the Stores Block decision, the Alberta regulator had approached the issue of allocating any gain on the sale of a utility asset outside the normal course of business – which dispositions require its approval, as a matter of law – on two basic premises:
If the proposed disposition would harm utility customers, the gain could be used in whole or in part as a credit to rates or otherwise distributed to customers to mitigate that harm;
If no harm would be occasioned to customers, any excess sale proceeds over the original cost of the asset would be shared on a formulaic basis between the utility’s customers and its shareholders.
The Stores Block decision changed this. In its 4-3 decision dismissing an appeal from the Alberta Court of Appeal, the Court addressed the ratemaking jurisdiction of the Alberta Energy and Utilities Board (EUB).2 The Court determined that where the sale of an Alberta utility asset by ATCO Gas outside the normal course of business does not cause harm to customers, the regulator has no explicit or incidental jurisdiction to allocate any portion of the sale proceeds to customers. The essence of the decision lay in the principal conclusion that customers of a regulated utility have no property interest in the asset to be disposed of, and which was used to provide them with utility service.
Since the Stores Block decision, the Alberta regulator and Court of Appeal have grappled with numerous questions arising in relation to it, which have been the subject of frequent and diverse comment.3 These have included the continued inclusion of assets in utility rate base; what amounts to a disposition requiring regulatory approval; whether dispositions in the normal course are any different; and the treatment of the costs of an asset once it is withdrawn from service.
Along the way, the Alberta Court of Appeal has determined, at least in the context of gas utilities, that here is no such thing as a ‘dedicated’ rate base, having regard to the requirement that assets must be used or required to be used in utility service (Carbon4); that an asset no longer required for utility service must be removed from rate base (Harvest Hills5); that regulatory approval of a disposition requires that there be a sale or transfer of interest by the utility (Harvest Hills); and that it is for the regulator to determine which assets are used or required for use in utility service and as such, to be included in rate base (Salt Caverns #16).
During this same period, in the course of exercising its authority over utility rates, the Alberta Utilities Commission (AUC or Commission) has concluded that it would be unreasonable for a utility to pass on any costs of an asset that is not used or required to be used to provide gas utility service.7
It is in this context that the Commission approached the issue of utility asset dispositions.
II The UAD Decision8
Principles
The AUC first initiated the UAD proceeding in April 2008 – prior to many of the above-referenced cases – on the premise that Stores Block “may require reconsideration of certain aspects of traditional regulatory approaches to the acquisition and disposition of utility assets and to the setting of just and reasonable rates.”
In the Commission’s view, this warranted having all parties involved in a single proceeding to discuss their interpretations of Stores Block and their view of its implications for regulation in Alberta, and to assist the AUC in developing a consistent and principled approach to its application.
The proceeding was suspended in November 2008, given that certain issues related to Stores Block had by then found their way to the Alberta Court of Appeal. Once these issues were decided in Harvest Hills and Salt Caverns #1, the generic UAD proceeding continued.
Prior to the resumption of the process, the AUC rendered its decision on the approved generic return on equity for utilities for 2011.9 The Commission rejected a suggestion that utility ratepayers should be at risk for stranded transmission facility assets. Relying on Stores Block, the Commission found that any stranded assets not required to provide service must not remain in rate base, and that the utility is at risk for any outstanding costs of those assets.
In the UAD decision, the AUC first canvassed Stores Block and numerous Alberta and other decisions in order to derive a number of principles that it believed to have been established by such decisions. It bears noting that Stores Block and the other Alberta decisions supporting the AUC’s principles concerned the regulatory scheme under Alberta’s Gas Utilities Act (GUA).
In summary, the relevant principles identified by the AUC were as follows:
The Commission’s authority is derived from its enabling statutes and is limited by its rate setting function or mandate.
Disposition of a gas utility asset outside the normal course of business is governed by the no harm test.
Utility assets are the property of the utility; its shareholders bear the risk of, and are entitled to, the net proceeds of their disposition.
Conditions may be imposed on a disposition if there is a close and immediate connection between the sale and a need to replace the asset.
The term “used or required to be used” in the GUA means operational use and refers to assets currently and reasonably used and likely to be used in the future to provide utility services. Past use does not guarantee continued inclusion in rate base.
The AUC has no authority to include assets in rate base that are not used or required to be used, and revenue generation is not a sufficient basis to do so.
The AUC has the responsibility to determine utility rate base and which assets are or are still relevant investment on which a return may be earned.
Gas utilities may remove an asset from their rate base that is not used or required to be used, subject to the AUC disallowing recovery of the financial impacts of such removal if it was imprudent.
Gas utility assets not having an operational purpose and not used or required to be used to provide utility service, no matter their historical use, should be removed from rate base and not reflected in customer rates, on the earlier of the date of the utility’s advice to the AUC or its determination that such asset is not required.
Findings
With these principles in mind, the Commission then addressed the various issues that had been identified for discussion in the UAD proceeding.
(i) Application of Stores Block
The Alberta Utilities10 argued that Stores Block did not address or deal with disposition of assets in the ordinary course, or retirements, and the Commission’s uniform accounting systems for all utilities dealt with such dispositions: on the sale or retirement of an asset in the normal course, ratepayers are entitled to the gain or loss on the depreciable portion of the invested capital, and shareholders to the non-depreciable portion.
The AUC found that the property and utility asset ownership principles established by Stores Block apply to all utility assets, whether they are disposed of outside or inside of the normal course. This is not surprising; as the AUC noted, customers cannot reasonably have no interest in certain assets depending on the character of their disposition. As the Commission said, any other conclusion would mean or at least imply that customers would have acquired some sort of interest in the utility asset, contrary to Stores Block.
The Commission also found that such principles are equally applicable to dispositions of assets by Alberta’s electric utilities.
(ii) Inclusion of Assets in Rate Base
The AUC affirmed the various decisions that establish that utility assets should only be included in rate base if they continue to be used or required to be used for utility service. The Alberta Utilities argued, however, that electric utilities are not subject to this regime, as the Electric Utilities Act (EUA) requires a utility to be given the opportunity to recover prudently incurred costs and a reasonable return on investment, irrespective of whether an asset meets the used or required to be used criterion. The Commission rejected this argument, concluding that it conflicted with the property ownership principles laid down in Stores Block.
That being the case, the Commission had no difficulty that the referenced decisions and rationale would apply equally to electric utilities, and that they too must not include in rates any costs of assets no longer used or required to be used for utility service.
The next question to be addressed was whether the Commission could deal with gains or losses on assets in a different way, depending upon the circumstance in which they cease to provide utility service.
(iii) Depreciation
The AUC reiterated that the purpose of depreciation is to return to the utility the costs of assets used to provide utility service over the period of time of that use, and that the current Alberta methodology includes provision for the recovery of the costs of assets retired or removed from utility service and assets disposed of in the normal course. This conclusion stemmed from the premise that the AUC’s rate setting function extends to establishing methods of depreciation regarding prudent utility investment.
The only questions of concern were then whether that method complies with Stores Block and subsequent cases, and whether the AUC’s rate making authority goes so far as including a provision that prospectively charges or refunds depreciation adjustments resulting from prior year’s over or under recovery of depreciation.
As to the first question, the Commission concluded in the affirmative, but also found that the depreciation methodology in use by the majority of Alberta’s utilities was informed by the Store Block principles. As such, the AUC noted that the effect of this method is to “remove from rate base and customer rates depreciable assets that are no longer used or required to be used to provide utility service.”
As to the second question, the AUC found that having customers pay depreciation reserve differences is not inconsistent with the principles of shareholder risk and removal of assets from service, because it results in customers paying “no more and no less, and the utilities recovering “no more and no less” than the costs of the assets used to provide utility service over the period of that service.
(iv) Stranded Asset Costs
The Commission then turned to the important question of the recovery of costs associated with and capital invested in stranded assets no longer used or required to be used to provide gas and electric utility service.
In the case of an ordinary retirement of an asset at the end of it service life, i.e. one that is reasonably contemplated by depreciation and amortization provisions, it is removed from rates, given that its cost will have been recovered from customers during that time, or as may be adjusted after the fact.
In the case of the extraordinary retirement and removal from rates of an asset before it is fully depreciated, for causes not reasonably anticipated or contemplated in applicable depreciation and amortization provisions used to set rates (such as obsolete, abandoned, overdeveloped or surplus property), under or over recovery of capital investment on an extraordinary retirement is for the account of the utility and its shareholders. In other words, extraordinary retirements are to be dealt with similarly to assets disposed of by a utility outside the normal course of business.
(v) Operational Purpose
The Commission solicited submissions from parties as to how it might obtain periodic assurance that assets are used or required to be used in the operational sense – that is, present use, reasonable use or likely use in the future to provide utility service.
Given the Alberta Court of Appeal’s finding in Carbon that used or required to be used implies use in an operational sense, and its clear direction in Salt Caverns #1 that relevant utility investment is for the Commission to determine, the AUC directed each utility to review their rate base and confirm in their next rate filing that:
(a) All assets in their rate base continue to meet the operational use requirement – that is, are used or required to be used to provide utility service, and
(b) Do not include any depreciable assets which should be treated as extraordinary retirements and removed, because they are property that: is obsolete; to be abandoned; is overdeveloped and surplus to future needs; is used for non-utility purposes; or should be removed due to unusual casualty, sudden and complete obsolescence, or unexpected and complete shutdown of an entire asset, with the costs thereof being for the account of the utility and its shareholders.
III Post-UAD Decision
Developments
Applications for Leave to Appeal
The Alberta Utilities moved quickly to challenge the UAD decision by seeking leave from the Alberta Court of Appeal on several questions of law and/or jurisdiction.11 AltaGas and ATCO Gas, along with the electric utilities – AltaLink, ATCO Electric, ENMAX, EPCOR and FortisAlberta – challenged various aspects of the UAD Decision.12 The applications were heard on April 17, 2014 and as at the time of writing, are still under reserve.
Amongst the comprehensive grounds for appeal tabled by the Alberta Utilities, they have argued that the Commission erred in its UAD decision because:
The common law and legislative right of a utility to recover its prudently incurred costs, including at least a return of capital, as a result of its mandatory obligation to serve, is not affected by Stores Block.
The EUA specifically revoked the rate base paradigm and used or required to be used standard for electric utilities in favor of the principle of recovering prudently incurred costs, regardless of whether the assets continue to be used or required to be used. Applying that standard to electric utilities is in breach of the EUA.
Stores Block was only concerned with the allocation of sale proceeds arising from the disposition of gas utility assets outside the normal course of business (not in the normal course of business), did not consider the EUA regime at all, and is irrelevant to the recovery of prudently incurred costs by a utility.
Alberta’s electric transmission facility owners are required by the EUA to build facilities on the direction of the Alberta ISO (once regulatory approval is given), regardless of their scope. Alberta’s electric distribution facility owners are required by the EUA to connect and serve customers. TFO and DFO rates that do not include the recovery of costs prudently incurred are therefore neither just nor reasonable. Just and reasonable rates for gas utilities must include the recovery of their prudently incurred costs.
The AUC’s recognition in the 2011 GCOC decision that the requirement to remove assets from rate base could pose additional risk for utilities was reached without providing utilities with any opportunity to provide evidence as to their fair return in light of this determination. As such, the UAD decision and fairness require the record of that proceeding to be re-opened to allow the utilities a fair opportunity to ensure that their fair return for those years reflects such additional risk.
Alberta’s utilities cannot be governed by legislation that assures a reasonable opportunity to recover prudently incurred costs while at the same time being exposed to having that opportunity unreasonably curtailed by their regulator.
Salt Caverns #2
Shortly following the release of the UAD Decision and before the UAD leave applications were heard, the Alberta Court of Appeal, in a decision that again dealt with the Salt Cavern assets of ATCO Gas, essentially confirmed a number of important aspects touched on by the AUC in the UAD decision.
The Court again affirmed that assets not used or required for use in an operational utility sense should not be included in rate base, and that the final say in this respect is precisely the mandate of the AUC. Moreover, the Court found that if utility customers cannot share in the benefits of asset sales, there is a need to protect them by ensuring that only proper assets are included in rate base. Quoting from the majority decision of the Court:
“Since the authorities have established that ratepayers cannot share in any of the sales of assets, it follows that holding property within the rate base, once its use has expired, works to the detriment of the ratepayer. The recent principles set down in Stores Block and Carbon make it clear that ratepayers have no opportunity to share in the better times when land values rise, so it is important to protect the ratepayer by ensuring only proper assets remain in the rate base. In judging reasonableness, it is important to remember that since ratepayers cannot share in sale proceeds of utility assets, their protection for fair treatment lies in excluding assets not required for utility operations from the rate base.”
In light of the fact that Court of Appeal seems to have settled on a number of the key principles related to asset disposition by utilities in Alberta, and the consequences of same based initially but not entirely on the Stores Block decision, it may be the case that some of the arguments raised in the UAD leave applications will not find favour with the Court.
That said, at least the following issues and questions appear to be outstanding:
How strong is the principle of prudent cost recovery by utilities and does it trump the legislative regime for utilities in Alberta, at least as interpreted by the AUC?
On their face, the Alberta legislative regimes concerning gas and electric utilities differ in some material respects. Is it the case that there is a sufficient difference to warrant a different form of regulatory compact for each? Should there be and what would they look like?
IV Conclusion
The UAD decision is a recent, but unlikely the last chapter in the evolution of regulatory oversight as it relates to the treatment of utility assets in Alberta, including their disposition in various circumstances. That evolution, beginning with Stores Block, has extended well beyond the narrow jurisdictional point decided in that case as to the authority of Alberta’s regulator to allocate sale proceeds on the disposition of a gas utility outside the ordinary course of business.
The UAD decision, unsurprisingly, affirmed and adopted many of the intervening judicial principles and findings of the Alberta Court of Appeal. Going beyond those decisions, however, the Commission’s determination that utilities and their shareholders are at risk for the cost consequences of extraordinary retirements, that are not reflected or otherwise anticipated in the depreciation provisions upon which customer rates are established, is a matter of no small moment.
In the event that leave is not granted to the Alberta Utilities in their respective challenges of the UAD decision, then a significant change in the regulation of Alberta utilities – which some commentators have specifically advocated – will have occurred. 13 No longer will the AUC consider the treatment of utility assets only at the time of their disposition, but instead, as directed in the UAD decision, this will be an ongoing review associated with utility rate regulation, in the normal course.
But should leave be granted, then we will again have to look to the Alberta Court of Appeal, and perhaps the Supreme Court of Canada, for the next step in this continuing evolution.
V Update
It would appear that the evolution will continue. On August 20, Justice Bruce McDonald of the Alberta Court of Appeal granted leave to appeal the UAD decision brought by the Alberta Utilities.
Justice McDonald first acknowledged that the applications had been brought by two “categories” of applicants: gas utilities and electric utilities. In that regard, he was “less swayed” by, and confessed to having some “misgivings” about the arguments and applications of the gas utilities.
Nevertheless, on the well-established test for leave to appeal – does the question of law or jurisdiction raise a serious, arguable point – Justice McDonald granted leave to both the electric and the gas utilities, on the following questions:
Electric Utilities:
“Did the AUC err in law or jurisdiction in its interpretation of the EUA to hold that the shareholders of electrical utilities bear the risks that the electrical utilities will not be able to recover the prudently incurred costs of assets no longer used or required to be used by the electrical utility?”
Here, the apparent differences between the pertinent provisions of the governing GUA and EUA were persuasive in deciding to grant leave.
Gas Utilities:
“Did the AUC err in law or jurisdiction by concluding that it must deny gas utilities the opportunity to recover their prudently incurred costs in the provision of mandated utility services when those assets are removed from utility service in the circumstances as described in paragraph 327 of the UAD Decision?”14
Having noted the concession by the gas utilities that the GUA does differ from the EUA, it was at least seriously arguable to Justice McDonald that the issue of prudent cost recovery warranted consideration by the full court.
Electric and Gas Utilities
“Did the AUC err in law or jurisdiction in the GCOC Proceeding and/or in the UAD Proceeding by denying the Alberta Utilities or any of them the opportunity to provide evidence and submissions on the impact of the AUC’s imposition of a new prudent cost recovery risk on their fair return for the years 2011 and 2012, in light of the enhanced risks?”
Given the complex history of this issue, it is interesting that the Court, at least at the leave stage, seems to have accepted the fact that in the UAD decision, the AUC created a “new prudent cost recovery risk.” As to the particulars, it is perhaps notable that leave was granted on this question notwithstanding the arguments of the UCA that there was no procedural unfairness on the part of the AUC, and neither did the GCOC decision impose a new risk on them.
Whether prudent cost recovery risk emanated from the GCOC decision or the UAD decision, it seems for the moment at least to have a life, and to be an issue that may well be an explicit fact of life in the rate regulation of Alberta utilities.
* Jim Smellie is a senior partner in the Calgary office of Gowling Lafleur Henderson LLP, where he practices principally in the field of energy regulation. Any views expressed in this comment are his, and do not represent the opinion of his firm or any client of the firm.