The City of El Paso v. Pub. Util. Comm'n of Tex.

• Citation: 344 S.W.3d 609
• Decision Date: 01 July 2011
• Docket Number: No. 03–08–00577–CV.,03–08–00577–CV.
• Parties: The CITY OF EL PASO, Appellant,El Paso Electric Company, Cross–Appellant,v.PUBLIC UTILITY COMMISSION OF TEXAS, Appellee,El Paso Electric Company and The City of El Paso, Cross–Appellees.
• Court: Court of Appeals of Texas

344 S.W.3d 609

The CITY OF EL PASO, Appellant,El Paso Electric Company, Cross–Appellant,

v.PUBLIC UTILITY COMMISSION OF TEXAS, Appellee,El Paso Electric Company and The City of El Paso, Cross–Appellees.

No. 03–08–00577–CV.

Court of Appeals of Texas, Austin.

July 1, 2011.

Norman J. Gordon, Mounce, Green, Myers, Safi, Paxson & Galatzan, P.C., Charles McNabb, City Attorney, El Paso, TX, William O. Coe, Clark, Thomas & Winters, P.C., David C. Duggins, Patrick J. Pearsall, Duggins, Wren, Mann & Romero, L.L.P., Austin, TX, for Appellant.John R. Hulme, Assistant Attorney General, Environmental Protection & Administrative Law Division, Daniel Charles Wiseman, Office of the Attorney General of Texas, Environmental Protection & Administrative Law Division, Austin, TX, for Appellee.Before Justices PATTERSON, PURYEAR and PEMBERTON.

OPINION

BOB PEMBERTON, Justice.

El Paso Electric Company (EPE) and the City of El Paso (City) sued for judicial review of a final order in a contested case, a fuel-reconciliation proceeding EPE had initiated before the Public Utility Commission (Commission) in which the City had intervened. The district court affirmed the Commission's order in full. Both the City and EPE have appealed. We will affirm the district court's judgment.

BACKGROUND

EPE is an investor-owned electric utility that provides generation, transmission, and distribution service to retail and wholesale customers in west Texas, southern New Mexico, and California. Because the Texas Legislature thus far has not extended retail competition to EPE's service territory within this state, see Tex. Util.Code Ann. § 39.402 (West 2007),¹ the Commission has continued to set EPE's retail electric service rates under traditional cost-of-service rate-making principles. See generally id. §§ 36.001–.406 (West 2007 & Supp. 2010). Under these familiar principles, simply described, the Commission sets a utility's retail electric service rates so as to ensure that revenues are sufficient to cover the utility's projected reasonable and necessary future operating expenses, plus provide a reasonable rate of return on the utility's invested capital. The rates operate only prospectively, and the utility generally bears the risk that its actual operating expenses will exceed the projections incorporated into the rate—and its retail customers the corresponding risk that rates will “over-charge” relative to the utility's actual operating expenses—until a new rate-making proceeding can be conducted. However, with regard to the sometimes-volatile expenses utilities incur on fuel to generate power for sale or in purchasing power at wholesale for resale (the latter are known as “purchased-power expenses”), there is greater flexibility in adjusting rates to account for deviations between projections and actual expenses. The component of a utility's rates that covers these types of expenses—known as the “fuel factor,” as distinguished from “base rates”—is essentially an interim or temporary rate subject to both periodic adjustment and retrospective true-up proceedings to “reconcile” revenues and actual expenses through refunds or surcharges to customers. See, e.g., Entergy Gulf States, Inc. v. Public Util. Comm'n of Tex., 173 S.W.3d 199, 206 (Tex.App.-Austin 2005, pet. denied).

EPE's most recent rate-making proceeding had been concluded by a 1995 agreed order and stipulation (1995 Stipulation/Agreed Order) under which the utility's base rates were frozen until August 2005, the utility was prohibited from circumventing the freeze by shifting costs from base rates to reconcilable fuel costs, and its recovery of fuel costs was to be governed by the version of the Commission's “fuel rule” that was in effect as of July 1, 1995. See 16 Tex. Admin. Code § 23.23 (1995), repealed by 24 Tex. Reg. 4998 (1999) (hereinafter “Former Fuel Rule”) (current version at 16 Tex. Admin. Code § 25.236 (2010)). In 2002, EPE initiated a proceeding to reconcile its eligible fuel expenses and revenues from its provision of service in Texas between January 1, 1999, and December 31, 2001 (the “reconciliation period”). EPE claimed that it had incurred a total of approximately $277 million in eligible fuel expenses in providing its electric service in Texas during the reconciliation period. The City and several other parties intervened. The Commission referred the matter to the State Office of Administrative Hearings for a contested-case hearing before a pair of administrative law judges (ALJs).

The central disputed issues relevant to this appeal concern the proper calculation of EPE's eligible fuel expenses in light of three sets of requirements under the 1995 Stipulation/Agreed Order and the Former Fuel Rule.

Capacity costs

Included in the fuel expenses EPE claimed were approximately $147 million in purchased-power expenses. The Commission staff, the City, and other intervenors argued that a portion of these expenses had actually included “capacity” charges that were not recoverable under the 1995 Stipulation/Agreed Order or the Former Fuel Rule. Although there is some debate regarding the precise nature of a “capacity” charge or how it can be identified, as we will explain below, in general the term has referred to a charge that recovers fixed costs of the wholesale seller in making assets available to generate power, as distinguished from “energy” charges that recover variable costs (e.g., fuel) incurred by the seller in generating the power itself. See City of El Paso v. El Paso Elec. Co., 851 S.W.2d 896, 898 (Tex.App.-Austin 1993, writ denied) (“The term ‘capacity costs' refers to one element of the price charged by a seller of electric power—an element that represents the seller's fixed costs in generating the power. (Another element, denominated ‘energy charges,’ represents the seller's variable costs in generating the power—the cost of fuel, for example).”); Gulf States Utils. v. Public Util. Comm'n of Tex., 841 S.W.2d 459, 461 (Tex.App.-Austin 1992, writ denied) (describing capacity costs generally as “costs associated with providing the capability to deliver energy (primarily the capital costs of facilities)”). Accordingly, capacity costs have been considered to be among the fixed costs associated with generation assets that, in theory, are collected through base rates rather than the fuel factor. Preventing what in concept would be a double-recovery of these fixed costs through both base rates and fuel reconciliations, the Former Fuel Rule explicitly barred utilities from recovering “demand or capacity costs” as part of “eligible fuel expenses.” See Former Fuel Rule § 23.23(b)(2)(B)(iv). In addition to relying on this exclusion for “demand or capacity costs,” parties opposing EPE's claim for purchased-power expenses argued that EPE's inclusion of capacity costs attempted to shift base-rate costs to fuel costs in violation of the 1995 Stipulation/Agreed Order.

Historically, wholesale purchased-power contracts had identified separately stated “capacity” or “demand” and “energy” charges—the former generally priced by megawatt (MW) of capacity guaranteed, the latter priced by megawatt hour (MWh) of energy the purchaser actually takes. However, the deregulation of the wholesale electric markets in the 1990s had brought greater variety in the pricing terms under such contracts, which in turn had raised issues regarding whether contracts that did not identify or contain explicit “capacity” charges might nonetheless represent the sale of capacity. In a prior fuel-reconciliation proceeding involving another utility, Entergy Gulf States, the Commission had determined that it could look beyond the face of what were facially “energy-only” wholesale purchased-power contracts, ascertained that the conveyed “energy” in fact included “embedded” capacity, and disallowed recovery of a portion of the utility's claimed purchased-power expenses on that basis. See Entergy Gulf States, Inc., 173 S.W.3d at 211. In determining that the Entergy contracts conveyed capacity, the Commission relied on evidence to the effect that Entergy had deliberately negotiated “energy-only” pricing terms to disguise capacity charges, as well as characteristics of the transactions that it regarded as consistent with capacity purchases. See id. These characteristics, in the Commission's view, included the fact that the utility made block purchases of power that provided the “capacity benefits” of “system-wide reliability and firmness of supply.” See id. In the absence of an explicit capacity charge, the Commission “imputed” a value for the capacity sold equal to twenty-four percent of the contract price and deducted that amount from Entergy's eligible fuel expenses. See id. This Court upheld the Commission's treatment of capacity costs against challenges that it violated the fuel rule and was not supported by substantial evidence. See id. at 209–12.

In the present proceeding, following the hearing on EPE's petition, the ALJs issued a proposal for decision (PFD) in which they reasoned, based on what they perceived to be the Commission's rationale in the Entergy case, that a wholesale power purchase contains a capacity charge whenever (1) “the purchased power's cost is above the marginal energy cost for generation” (in the view that the difference would necessarily reflect the seller's fixed costs of generation) (2) “to the extent it is used to provide energy for a system's base load or reserve requirements.” The ALJs found that EPE made purchases meeting these criteria in 1999, 2000, and 2001. Additionally, the ALJs found that a purchased-power contract between EPE and Southwestern Public Service Company (SPS) covering the year 2000 contained language that, while not containing a discrete charge for capacity, nonetheless reflected the conveyance of capacity. Similar to their methodology for identifying capacity costs in purchased-power contracts, the ALJs recommended that the imputed capacity costs...