Delmarva Power & Light Co. v. Public Service Com'n

• Decision Date: 02 April 1986
• Citation: 508 A.2d 849
• Parties: DELMARVA POWER & LIGHT COMPANY, Appellant Below-Appellant/Cross-Appellee, v. PUBLIC SERVICE COMMISSION of the State of Delaware, Appellee-Below-Appellee/Cross-Appellant.
• Court: Supreme Court of Delaware

Page 849

508 A.2d 849

DELMARVA POWER & LIGHT COMPANY, Appellant Below-Appellant/Cross-Appellee, v. PUBLIC SERVICE COMMISSION of the State of Delaware,

Appellee-Below-Appellee/Cross-Appellant.

Supreme Court of Delaware.

Submitted Sept. 24, 1985.

Decided April 2, 1986.

Upon appeal from Superior Court. Reversed and Remanded.

Richard E. Poole (argued) and W. Harding Drane, Jr. of Potter Anderson & Corroon, Wilmington, Dale G. Stoodley, Gen. Counsel, Delmarva Power & Light Co., Wilmington, for appellant/cross-appellee.

James M. Geddes (argued) of Ashby, McKelvie & Geddes, Wilmington, for appellee/cross-appellant.

Before CHRISTIE, C.J., and HORSEY and MOORE, JJ.

HORSEY, Justice:

Delmarva Power & Light Company ("Delmarva") and Public Service Commission of Delaware ("Commission") each appeal from a decision of the Superior Court which affirmed in part and reversed in part a decision of the Commission. In 1983 the Commission had disallowed Delmarva's recovery in a 1982 "fuel adjustment clause" ("FAC") proceeding of $2.26 million in expenses incurred by Delmarva under long-term contracts for purchase of low-sulfur coal for production of electricity.

Delmarva appeals in part from that portion of the Court's decision which affirmed the Commission's disallowance of $1,158,572 of expenses incurred by Delmarva over three years of a five year contract with Continental Coal Company ("Continental contract") of Huntington, West Virginia. The Commission's disallowance was based on a finding that Delmarva's management was guilty of imprudence in negotiating a contract that included an "unprecedented" price escalator clause but failed to include a "market cap" on the price of the coal.

Delmarva also appeals Superior Court's affirmance of the Commission's disallowance of $111,840 in expenses incurred by Delmarva that were associated with a 1980 contract with the Avery Coal Company ("second Avery contract") of Philipsburg, Pennsylvania. The expenses that were disallowed represented the excess cost to Delmarva of purchasing coal in the spot market after Avery was unable to meet its contract requirements due to labor strife. The Commission again found Delmarva to have acted imprudently in electing to waive its contract right to require Avery to make up its strike-interrupted deliveries at a time when the spot market price for replacement coal was lower than the Avery contract price.

The Commission appeals from that portion of the Court's decision which reversed the Commission's disallowance of $990,826 of Delmarva's expenses incurred under a second contract entered into with Avery in 1980. The Commission cited Delmarva for imprudence in failing to "bargain hard enough" over the price of the coal and in agreeing to pay three dollars more per ton than, in the Commission's view, it should have paid.

The underlying legal issue is the Commission's authority to impose on a public utility in an FAC expense proceeding a higher burden and different standard of proof than that imposed in an ordinary rate case. Finding the Legislature to have conferred such authority upon the Commission, Superior Court ruled that Delmarva's burden of proof was not met simply by its proof of a legitimate expenditure and the Commission's failure to find it to have been the result of waste, inefficiency or bad faith, the established standard for a rate case. Application of Wilmington Suburban Water Corp., Del.Supr., 211 A.2d 602, 608-609 (1965), aff'g Del.Super., 203 A.2d 817, 836 (1964).

Having discerned a legislative grant of authority to impose a higher standard of review of an FAC application, the Court found it necessary to define (or redefine) that higher standard by which the Commission is to review FAC expense applications. With some difficulty, the Court fashioned as the proper standard of review of a public utility's fuel adjustment application the standard of prudence required of a trustee to its cestui que trust. ¹ Invoking a trust concept of prudence to judge Delmarva's FAC application, the Court ruled that Delmarva was required to establish not simply the reasonableness of a claimed FAC expenditure at time of occurrence, but also its reasonableness in the light of future events that should be reasonably foreseeable. In the Court's view of FAC expense claims, a public utility should be held to the same standard of skill and caution required of a trustee to the beneficiaries of an express trust, with the degree of skill and caution required to be "commensurate with the magnitude of the risk." As applied to long-term contracts for purchase of fuel for electric power, the Court defined the applicable standard as follows:

This standard requires that the utility know what skillful persons knowledgeable in the area of fuel purchases should know and that it act to recognize and guard against potential problems. It is not chargeable with predicting future events but it is charged with foreseeing those problems which skillful persons might reasonably anticipate and, in the exercise of caution, protect against their consequences.

Application of Delmarva Power & Light Co., Del.Super., 486 A.2d 19, 26 (1984).

Superior Court then applied to the hearing record what it found to be the Commission's correct standard of review of Delmarva's FAC application. And the Court made new findings of prudence and imprudence with respect to each of the contested expense allowance claims. ²

We reverse for error of law by Superior Court (and the Commission) in the construction and application of the Delaware statute controlling fuel adjustment rate applications, 26 Del.C. § 303(b). We find the Court to have erred in several respects: one, in finding a legislative intent that a public utility's FAC expenses to be recoverable are subject to a different and higher standard of review than its ordinary operating expenses; and two, in then making new findings of what FAC expenses to allow and to disallow rather than permitting the Commission to perform its legislatively-mandated function of so finding, through remand.

We hold the Commission's standard of review of an FAC application and the utility's burden of proof thereunder to be no different than the standard of review and burden of proof controlling a public utility's application for approval of its ordinary operating expenses in a rate adjustment hearing under section 303(a). Thus, the Commission is required to allow Delmarva's applied-for FAC expenses that are found to be lawful and proper and not the result of waste, inefficiency or bad faith.

As will be seen, inefficiency in this context is not synonymous with imprudence, as the Hearing Examiner and the Commission found. (See part III, below.)

I

The purpose of a fuel adjustment clause is to permit a public utility company to pass through to its customers increases or decreases in the cost of fuel without resort to the regulatory review process typical of rate proceedings generally. Fuel adjustment clauses have been a common feature of electric utility rate schedules since the middle of the 1920's. ³ Delmarva had initiated a fuel adjustment clause as early as 1918, when its predecessor began passing through to its industrial customers a "coal charge." By 1962, Delmarva had extended its fuel adjustment pass-through charges to all rates and customers. Originally, fuel adjustments were passed through to customers monthly; but since 1978, fuel adjustments have been processed by the Commission on an annual basis.

On October 30, 1981, Delmarva filed its application for increase in 1982 of its electric fuel clause adjustments, to become effective January 1, 1982. The Office of Public Advocate ("OPA") moved to intervene. The OPA objected to the increase, charging that Delmarva had contracted to pay excessive prices for fuel consumed at a recently constructed coal-fired generating unit of its Indian River station. The Commission referred the matter to a Hearing Examiner; and this litigation resulted.

II

For an understanding of the objections that were raised to Delmarva's 1982 FAC application, it is necessary to recount some history at Delmarva's Indian River facility. We borrow liberally from both the Hearing Examiner's report and the decision of Superior Court.

In 1972 Delmarva decided to increase its electrical generating capacity at Indian River by adding a large new unit to its existing coal-burning units. The new unit would generate 400 megawatts and would cost $200 million. Because of the rapidly increasing cost of imported oil and uncertainty as to its availability, Delmarva decided to build a coal-fired plant. The plant would consume between 800,000 and 900,000 tons of coal per year. By all estimates, it was a large undertaking.

If the plant were fueled by high-sulfur coal, Delmarva would be required to purchase and install costly air scrubbers to comply with the Environmental Protection Agency's (the "EPA") air quality performance standards. If the plant were designed to burn low-sulfur coal, known as "compliance coal", Delmarva would be exempted from the EPA regulations and would avoid the expense of costly scrubbers. Delmarva elected to burn compliance coal in its new plant.

In the meantime, with the coming of the 1973-74 Arab oil embargo, the price of all types of coal doubled. This, coupled with the impact of the EPA's requirements of low-sulfur dioxide emissions, heightened the demand for compliance coal as major utilities and the steel industry shifted away from oil to coal. By then, Delmarva had also concluded that to be assured a dependable supply of compliance coal for its new plant, two-thirds of its annual tonnage should be obtained under long-term contract, with the balance through the spot market, or shorter term contracts.

Delmarva had extensive experience in procuring high-sulfur coal, but none in procuring compliance coal. Since the supply of high-sulfur coal had always exceeded demand, Delmarva's past practice had been to procure...