Dominion Power 2002 Annual Report Download - page 50

Management’s Discussion and Analysis of Financial Condition
and Results of Operations, Continued
In December 2002, the Task Force requested the Virginia
Commission to convene a work group on stranded costs. The
work group will attempt to develop a consensus methodology
for determining the over- or under-recovery of stranded costs.
The Virginia Commission will report the work group’s findings
to the Task Force by July 1, 2003. No assessment can be made at
this time concerning future developments.
Changes to Cost Structure—While the Virginia Restructur-
ing Act did not define specific generation-related costs to be
recovered, it did provide generation-related cash flows (through
the combination of capped rates and wires charges billed to cus-
tomers) during the transition period. The generation-related
cash flows provided by the Virginia Restructuring Act are
intended to compensate Dominion for continuing to provide
generation services and to allow Dominion management to
incur costs to restructure such operations during the transition
period. As a result, during the transition period, Dominion may
realize an increased rate of return on its generation-related oper-
ations to the extent that management can favorably alter the
cost structure underlying its utility generation-related opera-
tions. Conversely, the same risks affecting the recovery of
Dominion’s stranded costs, discussed above, may also adversely
impact its cost structure during the transition period. Accord-
ingly, Dominion could realize the negative economic impact of
any such adverse event. In addition to managing the cost of its
generation-related operations, Dominion may also seek oppor-
tunities to sell available electric energy and capacity to cus-
tomers beyond its electric utility service territory. Using cash
flows from operations during the transition period, Dominion
may further alter its cost structure or choose to make additional
investment in its business.
The capped rates were derived from rates established as part
of the 1998 Virginia rate settlement and do not provide for spe-
cific recovery of particular generation-related expenditures,
except for certain regulatory assets. See Note 19 to the Consoli-
dated Financial Statements. To the extent that Dominion man-
ages its operations to reduce its overall operating costs below
those levels contemplated by the capped rates, Dominion’s earn-
ings may increase. Since the enactment of the Virginia Restruc-
turing Act, Dominion has been reviewing its cost structure to
identify opportunities to reduce the annual operating expenses
of its generation-related operations. For example, in 2001
Dominion terminated certain long-term power purchase agree-
ments resulting in an after-tax charge of $136 million. By avoid-
ing fixed capacity payments that would have otherwise been
required under the contracts, annual after-tax earnings will
increase by approximately $30 million during the transition
period. See Note 27 to the Consolidated Financial Statements.
Also in 2002 and 2001, Dominion revised the estimated
useful lives of its electric generation, transmission and distribution
assets. The changes in estimates were based upon expected life-
extensions of nuclear plants and new engineering studies of the
other assets. As a result of these changes, annual after-tax earnings
will increase by approximately $88 million during the transition
period. See Note 2 to the Consolidated Financial Statements.
RTO
The Virginia Restructuring Act requires that Dominion join a
RTO. FERC encourages RTO formation as a means to foster
the formation of wholesale markets. FERC Order No. 2000
requires each public utility that owns or operates transmission
facilities to make certain filings with respect to RTO formation,
but will rely on voluntary formation of RTOs to advance its
energy policies. By joining a RTO, Dominion’s regulated electric
utility subsidiary, Virginia Power, would transfer functional
control of its transmission assets to a RTO, a third party.
In September 2002, Dominion and PJM Interconnection,
LLC (PJM) entered into the PJM South Implementation
Agreement. The agreement provides that, subject to regulatory
approval and certain provisions, Dominion will become a
member of PJM, transfer functional control of its electric
transmission facilities to PJM for inclusion in a new PJM South
Region, integrate its control area into the PJM energy markets
and otherwise facilitate the establishment and operation of
PJM as the RTO with respect to Dominion’s transmission facili-
ties. The agreement also contemplates additional agreements
and transmission tariff provisions to be negotiated by the parties
and allocates costs of implementation of the agreement among
the parties.
Dominion intends to file for FERC approval to join PJM in
the future. Dominion will also seek authorization from the Vir-
ginia Commission and the North Carolina Utilities Commis-
sion to become a member of PJM at that time. Dominion will
incur integration and operating costs associated with joining a
RTO. Dominion has deferred certain of those costs for future
recovery and is giving further consideration to seeking regula-
tory approval to defer the balance of such costs.
In December 2002, American Electric Power, Common-
wealth Edison Company, Dayton Power and Light Company
(collectively, the New PJM Companies), PJM and Dominion
tendered a joint filing with FERC. The joint filing proposes to
(1) include the New PJM Companies’ transmission facilities
within PJM functional control; (2) establish a transmission
rate for the existing PJM region, Dominion and the New PJM
Companies; (3) adopt a transitional rate method to maintain
transmission revenue for Dominion and the New PJM Compa-
nies and (4) amend certain agreements on file with FERC
concerning the PJM energy market, planning processes and
system operations as related to the integration of the New PJM
Companies into PJM.
48 Dominion ’02 Annual Report