Agenda Date: November 8, 1995 Item Number: DOCKET: UG-951064 Company Name: Cascade Natural Gas Corporation Staff: Phillip Popoff, Utilities Rate Research Specialist RECOMMENDATION: Issue an Order lifting the suspension of Docket UG-951064, and permit the rates filed under the special contract to become effective November 9, 1995. Additionally the Commission should take no action on Cascade's request for rate making treatment of this contract. DISCUSSION: On September 11, 1995, Cascade Natural Gas (Cascade or the Company) filed a special contract with Boise Cascade Corporation (Boise), to prevent bypass. In addition to finding that the special contract meets WAC 480-80-335, Cascade requested the Commission find this contract was prudently entered, and also to make several statements regarding how this special contract should be treated for ratemaking purposes. On October 11, 1995, the Commission issued a Complaint and Order suspending this special contract. Cascade's filing meets the minimum requirements under WAC 480-80-335. In addition to these minimum requirements, Staff investigated Cascade's bypass analysis, and conducted its own analysis regarding the rate Cascade obtained under the special contract. The following is a discussion of the special contract and Staff's analysis. Boise Cascade has a processing plant near Wallula, WA, which currently receives gas distribution service under Cascade's tariff. Cascade's distribution system in this area is connected to Northwest Pipeline (NWP). Boise's plant is approximately five miles from Pacific Gas Transmission Pipeline (PGT). Boise approached Cascade over two years ago, threatening to build a bypass line to PGT. Boise claimed that its bypass line would result in avoiding Cascade's distribution charges, and also allow Boise to obtain upstream transportation capacity on PGT. Based on a comparison of NWP and PGT full tariff, firm rates, Boise claimed it could save approximately $288,000/yr in transportation savings, in addition to avoiding Cascade's distribution charges. Docket UG-951064 Page 1 To prevent bypass, the Companies negotiated this special contract, dated August 8, 1995. The special contract provides Boise with two concessions: 1) it provides that Cascade take-back and attempt to remarket 3,500 MMBtu/day of firm transportation capacity on Northwest Pipeline, which Boise had contracted for from Cascade until the year 2000; and 2) provides Boise a discounted distribution rate. Cascade has already resold the capacity to a third party, at Northwest Pipeline's maximum tariff rate, for the full four years. According to the capacity contract, Boise had this take-back option available, even without the bypass threat. In any case, since the transportation capacity has been resold for the full rate and term, stranded capacity costs do not appear to be a concern. Turning to the issue of the discounted distribution rate, Cascade submitted bypass analysis information in its original filing, which concerned Staff for two reasons. First, Staff was concerned that transportation savings based on maximum tariffed rates between pipelines overstates the savings Boise would realize by utilizing PGT rather than NWP. Last year, Boise utilized interruptible transportation capacity for more than 50% of its gas supply. Further, Boise released its full cost NWP capacity back to Cascade, so Boise is no longer paying the full tariffed rate for any NWP capacity. The $288,000 in savings that Boise claimed it could realize was based on paying the full tariff rate for firm capacity on both pipelines. Since this is not the capacity Boise utilizes, such a comparison most likely overstates the savings Boise could expect to realize. Cascade, however, accepted this level of savings as undisputed. A second concerning aspect of Cascade's analysis was that the Company did not utilize Boise's capital structure or financial information, to estimate Boise's financing costs. Without utilizing Boise's financing costs, Cascade would not be able to accurately estimate Boise's cost of bypass. Staff conducted its own preliminary bypass analysis. Staff's analysis used financial information for Boise Cascade, obtained through public sources, and attempted to estimate Boise's capital costs. The analysis also utilized information Cascade provided. Staff attempted to estimate the highest level of revenue Boise would be willing to pay Cascade for distribution service, by determining the distribution rate that would drive the net present value of Boise's expected bypass savings to zero. Based on Staff's preliminary analysis, the rate Cascade obtained under the special contract appears to be in line with Staff's estimate of Boise's maximum willingness to pay, under several different, reasonable scenarios. There could be several different, reasonable approaches to estimate the rate that would eliminate Boise's incentive to bypass. It is important to stress that examining different approaches at this time would simply refine the expost analysis of the contract, rather than support Cascade's ex ante decision making process. The actual transportation cost differential Boise could expect to realize and Boise's capital costs are important pieces of information under the Commission's test for prudence, which includes what Company management "...knew or reasonably should have known to be true at the time they made a decision." These are factors Staff believes Cascade should have known when it signed the special contract with Boise. The contract rate is not the only important criterion that must be considered, costs are another important element. Cascade explained that the revenue generated from this special contract exceeds the cost of plant dedicated to Boise. This indicates that stranded investment as a result of the lower distribution rate may not be a concern. Additionally, the special contract revenue exceeds the incremental cost of serving Boise, which indicates that the contract most likely will not result in economic subsidies for Boise. Staff recommends the Commission deny Cascade's request for an upfront determination of ratemaking treatment of this special contract. WAC 480-80-335 explains that the Commission's decision to approve a special contract shall not determine ratemaking treatment, unless otherwise provided by the Commission. Staff does not believe this special contract should be considered as an exception for several reasons. First, the rule allows the Commission flexibility to defer ratemaking consideration until a Company's ratecase, where the impact of this decision on all ratepayers can be considered. The Boise contract is a large reduction in revenue from an existing customer, which could have a negative impact on other existing customers. This negative impact needs to be considered in the context of all other changes in the Company's revenues and costs, which are thoroughly examined in a general rate case. In addition to uncertainty of the impact this contract will have on other ratepayers, Staff believes additional public input should be obtained before making an upfront ratemaking decision. Public Counsel, the Northwest Industrial Gas Users, or any other interested members of the public have not provided input on this special contract filing. It is important to note that bypass issues are a topic in the Gas Industry NOI. The NOI process would provide a more comprehensive investigation into the benefits and costs of upfront ratemaking approval. The NOI can be expanded to specifically include an investigation into upfront ratemaking treatment for special contracts. Such an examination should include examining what types of special contracts should be eligible for upfront approval, the information Companies should submit to obtain regulatory pre-approval, and how the Commission and other parties would have to realign resources to accommodate upfront analysis of such requests. Staff suggests that the NOI process will provide a better setting to explore these issues than the current special contract filing. Therefore, Staff recommends that the Commission find Cascade's special contract filing meets the requirements under WAC-480-80-335. Staff recommends that the type of special contract and analysis provided by Cascade in this filing should not warrant pre-approval of either prudence or ratemaking treatment.