The Southern California Gas Decision: the First Distributed Energy Resource Service Tariff

In today’s world it is rare that a public utility gets any good news. Recently the Alberta Court of Appeal ruled that the cost of stranded assets is for the account of the shareholder not the ratepayer1 confirming three earlier decisions by regulators.2

Stranded assets are the challenge of the decade if not the century. Regulated public utilities   in both electricity and gas have been facing declining demand for their product. That means declining revenue. In an industry with high fixed costs that is bad news.

Everyone understands the reason that is happening. Customers want lower prices. There is nothing new about that. What is new is that customers have discovered how to get lower prices. It turns out that customers can generate electricity closer to the premise that uses the electricity and eliminate costly transmission and distribution charges. It also turns out that cost of generating that electricity may be cheaper than buying it from a distant monopoly generator.

This scenario has been playing out in North America over the last decade. As the technology improves, local generation becomes even more attractive.

While everyone may understand the reason this is happening there has been a real shortage of solutions. The most popular solution- fixed charges- may create more problems than benefits. Fixed charge will generate more revenue for utilities. But more revenue from the same volume of electricity means some consumer mustl pay a higher price. That, many economists argue, will cause some consumers to desert the grid earlier.

The DERS Tariff

One part of the solution to declining utility demand arrived on October 23 2015.

On that date the California Public Service Commission issued its first “Distributed Energy Resource Services Tariff3.” The tariff allows Southern California Gas, (SoCalGas) to provide a new service called Distributed Energy Resources to their customers. Under this tariff the utility is allowed to own and operate a technology facility called Combined Heat and Power (CHP) on or near a customer premise. The utility is also allowed to provide the output to the customer at a regulated rate.

The new tariff creates the regulatory framework for competitive micro grids. A micro grid functions within a larger utility grid. The micro grid is dedicated to serving the unique energy requirements of a specific customer or group of customers. The center of the micro grid is local generation or on site generation. The generation technology is usually CHP or cogeneration. Micro grids are usually competitive.

Customers opt for micro grids because they offer lower energy costs. The lower costs are the product of new generation technology, reduced distribution and transmission costs and competition between suppliers.

Micro grids are the new engine of growth in the electricity sector. The DERS Tariff is a major step forward. The new tariff allows regulated utilities to enter this new market. This does two things. First, it increases competition, increases consumer choice and reduces customer costs. Second, it provides much needed new income for the utility- an important asset for utilities fighting declining revenue.

The DERS Tariff is one of those rare initiatives where both the consumer and the utility benefit. SoCal described the proposed tariff as a “fully elective, operational, non-discriminatory tariff service which would provide its customers an opportunity to employ distribute energy resources.”

The Technology

The technology at issue, known as CHP, is a form of “cogeneration.” The Commission defined the technology as follows: “CHP generates electricity at a customer facility and recovers and utilizes waste heat to generate hot water, steam and process heat.”

SoCalGas set the stage for its application by referring to a California policy that established a target for new CHP installations at 4000 megawatts (MW) statewide by 2020. The utility then pointed to a recent California Energy Commission   study4     which concluded   that CHP adoption in California had been stagnant for some time and the state was expected to develop less than half of the goal originally set.

In its original testimony SoCalGas argued that most of the untapped potential in the CHP market is in the small less than 20 MW size range. SoCalGas projected that the under 20 MW segment represented 16 per cent of the existing CHP market but 90 per cent of the potential for tariff adoption. The utility said that the DERS tariff was designed to address some of the obstacles that this market segment faced including high equipment capital costs, lack of on-site resources and expertise, technology risk and unwillingness to operate energy systems. The utility noted that the primary market for smaller CHP systems lies in facilities such as commercial buildings, hospitals, university campuses and prisons.

The Commission in approving a DERS tariff agreed that there were barriers to entry to this important market segment which did not exist in the case of larger systems. The Commission also agreed that larger customers have the capital and energy management capabilities to install and operate those systems.

Issues before the Commission

The Commission authorized SoCalGas to offer the DERS Tariff for a 10 year period stating:

The DERS tariff is in the public interest because it meets untapped demand in underserved markets for smaller customers that would benefit from CHP, offers additional choices to customers, and supports innovative business partnerships. The adopted DERS Tariff also guards against unfair competition and protects ratepayer interests consistent with the Commissions Affiliate Transaction Rules.5

The hearing was complex. The process took more than a year and involved questions of pricing methodology, cost and accounting controls, and the impact on competition. There were also broader policy issues: was SoCalGas acting as an electricity distributor? Should owners of the facility be able to sell excess power to the grid?

The Pricing Methodology

SoCalGas initially proposed that the new tariff use market-based pricing set through negotiations with customers. SoCalGas also proposed to include a risk adder to cover the risk of customer default. A number of intervenors strongly objected to the concept of market- based pricing. The Commission noted that while it had considerable discretion in terms of the pricing approach it could adopt, SoCalGas must use a cost of service methodology stating.

Southern California Gas shall price the Distributed Energy. Services Tariff   through a service contract that includes costs and rate components, adjustments, performance requirements and payment terms agreed upon in advance by the customer and SoCalGas. SoCalGas must use pricing methodologies identical to those used for general rate cases.6

The Commission concluded that a cost based pricing methodology will assure reasonable rates for the smaller customers that constitute the primary target for the service. The Commission further stated that all costs of providing the tariffed service should be included in the cost the tariff including standby charges paid to the electric utility. The Commission also ruled that SoCal could not use a risk adder that places the burden of financial risk on customers rather than SoCalGas shareholders.

Cost and Accounting Controls

The Commission established a detailed cost reporting cost control system for the new service. The cost were to include litigation and other costs related to the development of the DERS Tariff. The Commission was concerned that ratepayers had already borne part of the cost of developing this new tariff and found the SoCalGas had not been forthcoming about the embedded costs associated with the development of the service stating that including development costs was an inappropriate use of ratepayer funds.

The decision required SoCalGas to create   an internal order number for each specific DERS project once the customer signed the feasibility agreement. Under that tracking number SoCalGas must track all costs and revenues associated with that customer project to that particular order number rather than using the general accounting number. In addition the Commission ordered SoCalGas to create an internal order number to track all employee time and resources associated with developing or litigating the tariff to ensure that these cost are borne by shareholders and not ratepayers.

Gas Utility Ownership of Electricity Generation

A major controversy in this proceeding was whether a gas utility should own, operate and maintain electric generation facilities on or adjacent to a customer’s premises. The proposed tariff allowed SoCalGas to design, install, own, operate and maintain the energy systems. In its original application SoCalGas said that it did not intend to become an electric utility. The issue before the Commission was whether the new service required SoCalGas to obtain   a new Certificate of Public Convenience and Necessity (CPCN) to allow it to construct and own electricity generation facilities.

The Commission ruled that given the unique business model that the tariff represented, the Commission was not convinced that a CPCN to own facilities on the customer’s premises was necessary because SoCalGas did not plan to distribute electricity from the customer owned facility for sale to external retail customers; nor did SoCalGas intend to own the energy produced by the system.

The Commission ruled that the provision of gas for electricity on a specific customer property especially on such a small scale does not make SoCalGas an electric utility. The Commission did say however that they were allowing SoCalGas to design, own, install and operate electric facilities on customer premises on a limited basis only in order to facilitate the adoption of CHP service.

Impact on Competition

The California Commission was concerned that the new service might reduce competition in this marketplace. In California micro grids are competitive services.

To avoid anti-competitive impact, the Commission limited the tariff service to markets using systems with a capacity below 20 MW. The Commission was convinced that this was the underserved market and participation by utilities in a range above 20 MW was not necessary.

The Commission also ruled that the new tariff services must be promoted on a neutral basis through the SoCalGas website through the use of competitively neutral scripts. In addition, the information on the SoCal website was required to outline other service providers who offered similar services. SoCalGas was also required to deliver periodic market development reports to provide the Commission with information needed for its ongoing oversight.

Of particular interest was the requirement that SoCalGas not tie the provision of DERS Tariff to any other SoCalGas service. In addition, there was a specific requirement that customers could if they wished supply their own gas.

The Commission also introduced technology limitations. The new service was limited to CHP or cogeneration which the Commission defined as producing electricity and useful thermal energy in an integrated system. Technologies that do not produce both electricity and thermal energy do not qualify and cannot be provided under the tariff.

Finally, the decision sets a ten-year program sunset on the tariff. This recognizes that the service was in the nature of a pilot program. SoCalGas objected to the sunset date. The Commission ruled that they did not have adequate evidence to support a program longer than 10 years and the time limit would help to Commission determine if there had been any anticompetitive impact from the new service.

Some parties also wished to place capital limits on the program The Commission concluded that because SoCalGas was using shareholder funds, it was unnecessary to limit the capital amount given the ten-year term and the 20 MW cap.

Selling Power to the Grid

Another issue that arose was the extent to which tariff customers could sell excess power to the grid. California had existing programs that provided this option. SoCalGas argued that each installation should adhere to the Commission’s existing Rule 21 standards and each customer should be eligible under state programs that permit the sale of power to the grid.

Under the California programs only facilities under 20 MW are eligible for the CHP feed   in tariff.7 In order to be eligible for that, tariff CHP systems must achieve an energy conservation efficiency of 62 per cent for topping cycle CHP and 60 per cent for bottom cycle CHP.8 To date only a few facilities have signed CHP feed in tariffs in California.

Under the California program customers are permitted to export 25 per cent of their output to the grid on an annual basis. The Commission in this decision adopted the existing standard.

What’s Down the Road?

The California decision in SoCalGas represents an important turning point in the continuing utility death spiral controversy. The California Commission saw an underserved market and a utility prepared to serve that market.

The California Commission understands, as most regulators do, that traditional energy regulation requires some innovation to meet the changing market demands and the new technology now available to customers. Technology offers important economies to customers. But technology also offers important opportunities to utilities.

The California Commission adopted a measured approach. SoCalGas certainly did not get everything they wanted but they did get the essential part – a tariff offering.

There will of course be future issues. This is one of the first micro grid regulatory decisions. Micro grids are the new engine of growth in energy markets and new market models are important. In California micro   grids are competitive markets. That in itself is an important   policy   decision.   California took steps to preserve that competition but it also resisted the temptation to exclude the utility.

It turns out that utilities are often the early adopters of technology. They have substantial financial resources, technical expertise and market connections. There is no reason why regulators cannot harness those capabilities to develop emerging markets.

This initiative is also a pleasant departure from the practice of governments making technology choices through crack cocaine of energy policy feed-in tariffs. Here there is no guaranteed buyer. The market will determine the utility of this new technology. And shareholders not ratepayers will bear the financial risk.

There will be new challenges. This decision is clearly limited to facilities on or near a specific customer premise. The next decisions will likely concern situations where there is a group of customers Microgrids are not by definition limited to single customers.

The next decision may also face the situation where an electricity distributor wants to provide a similar service. We might call it a reverse SoCalGas. There is no apparent reason why that initiative should be resisted.

Finally, it is important to recognize the importance of a tariff. The existence of a tariff was important to the utility, but it is also important to the customer. A tariff creates a clear and well defined service offering for all customers. There can be no discrimination between customers. There can be no predatory pricing. This tariff, like all tariffs, is under the close supervision of a regulator. That offers customer’s the additional security that is often critical in the deployment of new technology.

At the end of the day the California Commission had one goal – how to best overcome the barriers to entry this technology faced. The DERS Tariff may be the solution. To be fair, the tariff was also driven by California’s goal to reduce greenhouse gas emissions. SoCalGas estimated that the program would result in a $60 million investment in CHP by 2020 reducing GHG by 32,000 metric tons.

The ratemaking technique is also innovative. This is really ratemaking by contract. But the basic ratemaking principles under cost of service regulation apply. There is no reason why specific services like this cannot be priced on the administered basis proposed here. This   is the kind of light handed and efficient regulation required in competitive markets.

Allowing regulated utilities to participate in competitive markets is a necessary but delicate balancing act. The SoCalGas decision is a major step in the development of an important technology and an important business model. Widespread adoption of micro grids will transform the electricity marketplace bringing significant cost reductions to consumers and new income opportunities to utilities.


* Gordon E. Kaiser, FCIArb, Jams Resolution Center, Toronto and Washington DC, Energy Arbitration Chambers, Calgary and Houston. He is a former vice Chair of the Ontario Energy Board; and an Adjunct Professor at the Osgoode Hall Law School, the Co-Chair of the Canadian Energy Law Forum and a Managing Editor of this publication (The Energy Regulation Quarterly).

  1. Fortis Alberta v. Alberta Utilities Commisssion, 2014 ABCA 295 .
  2. Re TransCanada Pipelines Limited (March 2013), RH-003-2011 (National Energy Board); Re Utility Asset Disposition (26 November 2013), 2013-47 (Alberta Utilities Commission); Re Generic Cost of Capital Decision (8 December,2011) 2011-474 (Alberta Utilities Commission ).
  3. Re Application of Southern California Gas Company to Establish a Distributed Energy Resource Tariff (1 October 2015), A.14-08-007 (California Public Utilities Commission)[Southern California Gas Decision].
  4. California Energy Commission, Combined Heat and Power: Policy Analysis and 2011-2030 Market Assessment, prepared by ICF International, CEC-20002-12-002 (Sacramento: CEC, February 2012).
  5. Southern California Gas Decision, supra note 3 at 2.
  6. Ibid at 71.
  7. Waste Heat Recovery and Carbon Emissions Reduction Act, AB 1613,Chapter 713, Statutes of 2007.
  8. California Energy Commission, Guidelines for Certification of Combined Heat and Power Systems Pursuant to the Waste Heat and Carbon Emissions Reduction Act, Public Utilities Code, Section 2840 et seq. at 7, CEC-200-2015-001-CMF (Sacramento, CEC, February 2015).

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