Gas Co.’s Success Opens Debate
While consumers suffer soaring energy bills and the big electric utilities lurch toward insolvency, the news is not all dire at Southern California Gas Co.
Through vigorous deal making, the Sempra Energy subsidiary has consistently beaten the volatile natural gas market during the last year, and the company stands to reap millions of dollars in savings through a state incentive program that rewards utilities for keeping costs down.
For several years, the utility has been splitting the savings 50-50 with ratepayers whenever the company’s gas costs fall slightly below market levels. Those savings, Gas Co. executives acknowledged, have shot to unprecedented heights during the state’s power crisis.
Now, in this climate of high consumer gas bills and runaway market prices, regulators are taking another look at the program. The question before the Public Utilities Commission: Should Gas Co. ratepayers, who endured huge bill increases this winter, get a bigger share of the savings?
The total windfall under the incentive program has in some years exceeded $20 million. But the amount for the last 12 months is expected to multiply many times over, company executives said, partly because the Gas Co. has done so well in the wild market by selling, lending and trading gas as well as buying it.
“The recent market conditions . . . could possibly result in some unintended consequences that result in shared savings of benefits that may be more appropriately allocated entirely to ratepayers,” the PUC’s consumer protection arm, the Office of Ratepayer Advocates, reported Oct. 30, even before the latest upward market spirals.
Gas Co. representatives express frustration, saying they have done what the state has requested under its gas-cost incentive program: Buy smarter, and pass the savings along to its 5 million residential and small-business customers. The company contends it has worked hard to keep bills down and should be rewarded for taking risks to obtain gas at the lowest possible cost.
“The PUC, every time we do well, raises the bar on us,” said Jim Harrigan, director of gas acquisition. “I don’t necessarily agree with it.”
By virtue of its purchasing power and storage and pipeline capacity, the Gas Co. has become a big player in the regional natural gas market. In the company’s bustling trading room at its Los Angeles headquarters, 15 employees track price movements, pipeline supplies and even the weather via computer, while cutting deals and arranging gas shipments.
Although the Gas Co. buys the commodity for its customers, the company also sells to marketers, other utilities and producers. State officials say the number of transactions by the company has risen steeply to 10,000 to 20,000 a year, including gas sales along California’s border, where prices have rocketed.
The PUC created the cost incentive program for the state’s three major gas utilities--San Diego Gas & Electric Co. in 1993, Southern California Gas the next year and PG&E; Corp.’s Pacific Gas & Electric Co. in 1997. Like Southern California Gas, SDG&E; is a subsidiary of Sempra Energy.
The program was designed to give utilities added motivation for obtaining gas at the best price for customers. It replaced lengthy and contentious reviews by the PUC, which assessed whether utilities had purchased gas at reasonable prices and sometimes ordered them to return millions of dollars to customers.
An annual audit of the Gas Co. program and a staff evaluation requested by the PUC recently concluded that the program has achieved many of its goals, but it also proposed adjustments that would give customers a greater share of the rewards.
“These incentives were designed in less volatile times,” said program supervisor Mark Pocta of the Office of Ratepayer Advocates, which conducted the audit. “There is a question of how much should go to ratepayers and shareholders.” His office also plans to assess whether the Gas Co.’s trading had any negative effects on the gas market, resulting in diminished supplies or higher prices for other utilities and their customers.
Under the program, the Gas Co. shares risks and rewards with its ratepayers, but since the program was launched, it has consistently produced awards. If the cost of gas is 0.5% or more below a benchmark based on monthly gas market indexes, the company and its customers split the savings 50-50.
California’s gas utilities are not allowed to profit on their raw commodity costs; they merely pass along those costs to ratepayers with no markup. The savings under the incentive program are automatically reflected in consumers’ monthly gas bills but are not itemized.
At the end of the year, the utilities request their share of the savings, and the PUC has routinely granted approval. Then the companies, and thus their shareholders, are paid through customer utility bills.
The resulting bill increases typically have been modest, less than 1%. But as the awards increase, regulators say, the effect on customers will become more significant unless the present structure is changed.
“There’s no question, when you start to talk about $100 million [or more in savings], and add [the company’s award] into rates in a year, it will make a noticeable difference,” said Los Angeles economist Jeff Leitzinger, president of Econ One, who has done consulting for the Gas Co.
Still, he said, ratepayers should bear in mind that they already benefit from below-market gas and transportation costs.
In the early years of the program, records show, the Gas Co.’s awards went from zero to $3.2 million, $10.6 million, $2 million and $7.7 million. Last year’s award of $9.8 million is awaiting PUC approval.
This year’s proposed award, covering the period through the end of this month, has not yet been submitted by the Gas Co. But the utility has provided monthly figures and oral updates on a confidential basis to PUC officials, who declined to provide figures.
Harrigan of the Gas Co. said the savings are expected to multiply “many times over,” largely because the company was well-equipped for the market fluctuations and tried to insulate its customers from high gas prices.
“Any trading company, especially one with assets like we have, has benefited from volatility in the market,” he said.
Harrigan said, however, that he does not believe the company’s level of activity has adversely affected the market and that its trading pales in volume to that of unregulated energy companies.
Anne Smith, the Gas Co.’s vice president of customer service and marketing, said the utility will not release figures for this year’s incentive program until they are filed with the PUC in June.
“I don’t want to interrupt that process,” Smith said, noting that the PUC ultimately will determine the company’s award. “I think they need to focus on what [the Gas Co.] has done for the ratepayers. It has been immense.”
Although the typical monthly gas bill has risen to $80 from $50 a year ago, Gas Co. customers tend to have lower rates than those of other California utilities.
The company’s gas procurement cost in February was 66 cents per therm, or 100 cubic feet. That’s more than twice last year’s cost but only about half what sister company SDG&E; paid for its 740,000 customers in February. It’s also much lower than the $1.09 per therm PG&E; pays.
“We were as upset about the overall [gas price] increase as anyone else,” Harrigan said. “I would rather see the prices of a year ago, even though we managed to do a little better in the [recent] environment.”
When it comes to keeping down costs, regulators say, the Gas Co. has advantages over other utilities in the marketplace. For one, the company has so much pipeline capacity at major gas basins that it purchases a relatively small portion of its needs--about 10% to 15%--at the California border, where prices in December briefly rose to the equivalent of $6 per therm, or 20 times those a year earlier.
This presents opportunities.
“At the beginning of the month, they forecast a certain amount of gas they have to buy,” said Pocta of the Office of Ratepayer Advocates. “If they go out and buy and do not need to use as much because the weather is more moderate than expected, they can either inject the gas into storage or they can make sales at the border.”
With gas price run-ups like those seen in the last year, Pocta said, “there is a question: Should that benefit be shared, or flow entirely to ratepayers?”
Customers, he pointed out, may be entitled to additional benefits because they pay for the interstate and intrastate pipeline capacity and the gas storage that give the company the flexibility to make advantageous deals.
“By the same token, we want [the Gas Co.] . . . to go into the market and generate cost savings that can be passed on to the customers,” he added. “We want them to have incentives. The question is how to balance them.”
Under deregulation, the Gas Co. adopted the nontraditional role of marketer, according to a PUC Energy Division report in January. The company makes gas sales at various locations. It engages in exchanges. It makes futures transactions to help stabilize costs.
“They look for ways to lower the gas cost,” said Richard Myers, program supervisor at the Energy Division. “Before they were lots more risk-averse. Now they feel they can take risks and make money for shareholders, and it is a benefit for ratepayers at the same time.”
The incentive programs are tailored to individual utilities, so it is difficult to compare them. Records show that the shared savings at SDG&E;, a much smaller utility, declined steadily from $9.2 million in the 1996-97 cycle to $560,000 in 1999-2000.
Spokesman Ed Van Herik said the falloff largely represents a drop in gas purchases, especially as the company sold off its own gas-fired electricity-generating plants. He said the company does not yet know how much savings have accrued in the last year.
In an annual report to the PUC in February, PG&E; said it had no savings under the incentive program and thus it is not entitled to any award for the 1999-2000 cycle.
The Utility Reform Network, a San Francisco-based consumer advocacy group, said it will closely watch the PUC’s evaluation of the incentive program at the Gas Co.
“We want to make sure, given the dramatic changes in the gas market and prices, ratepayers are not left out of the [additional] benefits,” TURN attorney Marcel Hawiger said. “We’ll look to see whether the mechanism should be changed.”
Severin Borenstein, director of the Energy Institute at UC Berkeley, said the program should be changed to provide more incentive for utilities to enter long-term contracts that would smooth out volatility in the market.
“Unfortunately, under the system,” he said, “the only incentive is to beat the [spot] market.”
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Natural Gas, Unnatural Times
Natural gas has undergone an unprecedented period of volatility, with futures prices having stabilized recently after spiking to record highs. The Gas Co. has done well in the wild market by selling, lending and trading the commodity, which remains at prices twice those of a year ago. Weekly closes, in dollars per million British thermal units, the standard measure for large trades:
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West Coast Prices
West Coast average spot price: High 53.38
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National Prices
New York Mercantile Exchange: High 9.775
