Bay State Gas Co. v. Dep't of Pub. Utilities.

• Decision Date: 31 May 2011
• Docket Number: SJC–10754.
• Citation: 459 Mass. 807,947 N.E.2d 1077
• Parties: BAY STATE GAS COMPANYv.DEPARTMENT OF PUBLIC UTILITIES.
• Court: United States State Supreme Judicial Court of Massachusetts Supreme Court

459 Mass. 807
947 N.E.2d 1077

BAY STATE GAS COMPANY
v.
DEPARTMENT OF PUBLIC UTILITIES.

SJC–10754.

Supreme Judicial Court of Massachusetts, Suffolk.

Argued Feb. 8, 2011.Decided May 31, 2011.

[947 N.E.2d 1080]

Robert J. Keegan (Cheryl M. Kimball with him), Boston, for the plaintiff.David A. Guberman, Assistant Attorney General, for the defendant.Present: IRELAND, C.J., SPINA, CORDY, BOTSFORD, GANTS, & DUFFLY, JJ.

[947 N.E.2d 1081]

BOTSFORD, J.

[459 Mass. 807] Five months after the Department of Public Utilities (department) approved the request of Bay State Gas Company (Bay State or the company) to sell and transfer all the common stock of its subsidiary Northern Utilities, Inc. (Northern), Bay State filed a petition for a general increase in its natural gas distribution rates. In that rate increase filing, Bay State sought to recover from its customers approximately $1.96 [459 Mass. 808] million in costs previously offset by revenues from its subsidiary Northern. Focusing on Bay State's position during the earlier stock sale and transfer proceeding that the divestiture of its subsidiary would not have an impact on its customer rates in the near future, the department denied that request while allowing Bay State a general rate increase of $19 million. Bay State has appealed from the department's decision. We affirm.

1. Background. We outline the relevant facts based on the department's findings in the proceeding now before us, D.P.U. 09–30 (2009) (D.P.U.09–30), supplemented by the department's findings in its earlier investigation into Bay State's stock sale and transfer request, D.P.U. 08–43–A (2008) (D.P.U.08–43–A), and other relevant materials as indicated. Bay State, a Massachusetts public utility, provides retail gas distribution services to approximately 285,000 residential, commercial, and industrial customers in its three noncontiguous operating districts of Springfield, Brockton, and Lawrence. The company is a subsidiary of NiSource Inc. (NiSource), an energy holding company headquartered in Indiana. On November 30, 2005, the department approved the implementation of a performance based regulation (PBR) plan ¹ for Bay State. See Bay State Gas Co., D.T.E. 05–27 (2005). Bay State's PBR plan involved “cast-off” distribution rates based on cost of service/rate of return (COS/ROR) ratemaking principles,² thereafter adjusted annually by a “price cap” formula for the life of the plan. See generally MCI Telecomm. Corp. v. Department of Telecomm. & Energy, 435 Mass. 144, 147, 755 N.E.2d 730 (2001). The price cap formula set the conditions for annual changes to account for general inflation, but allowed for an offset to the inflation-based increase based on presumed productivity gains; adjustments also [459 Mass. 809] were possible under an earnings sharing mechanism (ESM) ³ that was part of the PBR plan. The cap applied, although in a

[947 N.E.2d 1082]

somewhat different manner, both to Bay State's aggregate rate-based revenue and to rate components applicable to classes of customers. The company's approved PBR plan was to operate for ten years, or until 2016.

Until December, 2008, Bay State owned all the stock of Northern, a New Hampshire corporation serving approximately 52,000 customers in New Hampshire and Maine. Northern was treated as a “below-the-line” asset of the company. ⁴ Bay State provided certain services to Northern, such as call center functions, accounting functions, field personnel workload coordination, and credit and collection activities. Similarly, Northern's sales staff assisted Bay State's sales function. The company and Northern charged each other for the services rendered pursuant to the terms of one or more operational service agreements between the entities; the net effect on an annual basis was a flow of $2,710,387 in revenue from Northern to Bay State in exchange for services.

At some point before November, 2008, Bay State decided to sell Northern after determining that Northern's operations required additional support services. Additionally, Bay State determined that Northern was underperforming from a rate of return perspective, and that this underperformance had a negative effect on the company's ability to attract capital. Accordingly, Bay State sought the approval of the department for the sale of Northern to Unitil Corporation (Unitil), pursuant to G.L. c. 164, § 96 (§ 96).⁵ In the proceeding that followed ( § 96 Northern proceeding), the department evaluated the proposed[459 Mass. 810] sale and transfer based on the potential impact on Bay State's customer rates, among other factors. See D.P.U. 08–43–A at 21. The Attorney General intervened as of right in the § 96 Northern proceeding, see G.L. c. 12, § 11E, and opposed the proposed sale in the absence of a rate mechanism to hold Bay State customers harmless once costs of administrative functions were spread over fewer customers. D.P.U. 08–43–A at 30–32.

On November 18, 2008, after its review, the department approved the sale of Northern to Unitil.⁶ In its decision, the department stated that in reviewing the sale it employed the “no net harm” test. ⁷

[947 N.E.2d 1083]

Id. at 25–26. It noted the Attorney General's argument that the company could expect to incur $5.5 million in stranded costs for management and back-office services previously funded by Northern ratepayers, and that the department should address the potential impact of these additional costs on Massachusetts ratepayers in the § 96 Northern proceeding itself. Id. at 30–33. However, the department also noted the [459 Mass. 811] company's contention that it proposed no rate changes as a result of the proposed stock sale; that even costs at the “absolute upper end” amount of $5.14 million annually would represent only one per cent of the company's annual revenues, a cost variance the company considered to be “insignificant,” id. at 33–34; and that in any event, because of Bay State's PBR plan, the effect of Northern's sale would not be a factor in rates prior to 2011.⁸ Id. at 35.

The department agreed with the company that the Attorney General's effort to quantify the impact of the proposed stock sale on Bay State's cost structure was premature where “Bay State's distribution rates are not presently affected by the sale of Northern.” Id. at 39, 40. Nevertheless, it “recognize[d] the Attorney General's concern regarding the potential economic harm to Bay State's customers” and directed the company “to address any measures to mitigate the potential increase in its overhead expenses in its next base rate proceeding.” Id. at 40. Accordingly, in approving the sale, the department delayed until the expiration of Bay State's PBR plan a determination “whether there are any potential cost impacts” associated with the sale and, if so, the “appropriate ratemaking treatment.” Id. at 38–39.⁹

On April 16, 2009, Bay State filed under G.L. c. 164, § 94 § 94 ¹⁰its[459 Mass. 812] petition

[947 N.E.2d 1084]

for a general increase in gas distribution rates ( § 94 rate proceeding). The company explained that its filing was motivated by two factors. First, the department had issued a directive for all distribution companies to be operating under decoupling ¹¹ plans by year-end 2012, with a preference for implementing decoupling mechanisms through a base rate proceeding. Because the company's PBR plan extended through November, 2016, the company believed it necessary to prepare a petition for § 94 base rate review in order to comply with the decoupling time frame. Second, the company faced an operating deficiency of $34.2 million caused, in the company's view, by factors including long-term inflationary pressures, unrecovered capital costs, adverse capital market conditions, and declining customer usage not anticipated when rates were set in 2005. The Attorney General intervened on April 24, 2009,¹² and represents the department in this appeal. G.L. c. 12, § 3.

After hearings in May and July, 2009, the department concluded that Bay State had the statutory right to seek rate relief, see § 94, but that establishment of new base rates subjected the company's PBR plan to termination because resetting base rates “completely changes the dynamic” of the rate plan from a customer's perspective. In the absence of a proposal from Bay State for a new PBR plan, the department employed a ratemaking approach akin to a COS/ROR model, with revenue decoupling provisions but without automatic annual base rate adjustments. It considered and rejected Bay State's claim that [459 Mass. 813] $1,960,065 in costs previously offset by revenue from Northern should be built into test-year cost of service.¹³ This figure, $1,960,065, represented the net value of adjustments Bay State argued were required in order to account for the elimination of Northern's contributions to shared services, after accounting for cost reductions Bay State's consultants, Concentric Energy Advisors (Concentric), estimated the company could achieve through service realignment.¹⁴ Bay State filed a timely appeal pursuant to G.L. c. 25, § 5, in the county court, requesting that the department's decision be set aside and the company be authorized to recover an additional

[947 N.E.2d 1085]

$1,960,065 annually in net operating costs.¹⁵ A single justice reserved and reported the case to the full court.

2. Discussion. Where a party seeks judicial review of the department's decision pursuant to G.L. c. 25, § 5:

“Our standard of review ... is well settled: a petition that raises no constitutional questions requires us to review the department's finding to determine only whether there is an error of law.... The burden of proof is on the appealing party to show that the order appealed from is invalid, and we have observed that this burden is heavy.... Moreover, we give deference to the department's expertise and experience in areas where the Legislature has delegated [459 Mass. 814] to it decision-making authority, pursuant to G.L. c. 30A,...