Dominion Power 2005 Annual Report Download - page 48

Management’s Discussion and Analysis of Financial Condition and Results of Operations, Continued
46 Dominion 2005
Retail choice has been available to all of our Virginia regulated
electric customers since January 1, 2003. We have also separated
our generation, distribution and transmission functions through the
creation of divisions. State regulatory requirements ensure that our
generation and other divisions operate independently and prevent
cross-subsidies between generation and other divisions.
In 2004, the Virginia Restructuring Act and the Virginia fuel fac-
tor statute were amended. The amendments extend capped base
rates to December 31, 2010, unless modified or terminated earlier
under the Virginia Restructuring Act. The amendments also:
•Lock in our fuel factor provisions until the earlier of July 1,
2007 or the termination of capped rates under the Virginia
Restructuring Act, with no adjustment for previously incurred
over-recovery or under-recovery of fuel costs, thus eliminating
deferred fuel accounting for the Virginia jurisdiction;
•Provide for a one-time adjustment of our fuel factor, effective
July 1, 2007 through December 31, 2010 (unless capped rates
are terminated earlier under the Virginia Restructuring Act),
with no adjustment for previously incurred over-recovery or
under-recovery of fuel costs; and
•End wires charges on the earlier of July 1, 2007, or the
termination of capped rates.
Fuel prices have increased considerably since our Virginia fuel
factor provisions were frozen, which has resulted in our fuel
expenses being significantly in excess of our rate recovery. We
expect that fuel expenses will continue to exceed rate recovery until
our fuel factor is adjusted in July 2007.
When our fuel factor is adjusted in July 2007, we will remain
subject to the risk that fuel factor-related cost recovery shortfalls
may adversely affect our margins. Conversely, we could experience
a positive economic impact to the extent that we can reduce our
fuel factor-related costs for our electric utility generation-related
operations.
We anticipate that our unhedged natural gas and oil production
will act as a natural internal hedge for fuel used in electric genera-
tion. If gas and oil prices rise, it is expected that our exploration and
production operations will earn greater profits that will help mitigate
higher fuel costs and lower profits in our electric utility generation
operations. Conversely, if gas and oil prices fall, it is expected that
our electric utility generation operations will incur lower fuel costs
and earn higher profits that will help mitigate lower profits in our
exploration and production operations. We also anticipate that the
fixed fuel rate will lessen the impact of weather on our electric utility
generation operations. During periods of mild weather it is expected
that our electric utility generation operations will burn less high-cost
fuel because customers will use less electricity, thereby mitigating
decreased revenues. Alternatively, in periods of extreme weather,
our higher fuel costs from running costlier plants are expected to be
mitigated by additional revenues as customers use more electricity.
Other amendments to the Virginia Restructuring Act were also
enacted in 2004 with respect to a minimum stay exemption program,
a wires charge exemption program and the development of a coal-
fired generating plant in southwest Virginia for serving default service
needs. Under the minimum stay exemption program, large customers
with a load of 500 kilowatts or greater would be exempt from the
twelve-month minimum stay obligation under capped rates if they
return to supply service from the incumbent utility at market-based
pricing after they have switched to supply service with a competitive
service provider. The wires charge exemption program would allow
large industrial and commercial customers, as well as aggregated
customers in all rate classes, to avoid paying wires charges when
selecting electricity supply service from a competitive service provider
by agreeing to market-based pricing upon return to the incumbent
utility. For 2006, our wires charges are set at zero for all rate classes.
In February 2005, we joined a consortium to explore the develop-
ment of a coal-fired electric power station in southwest Virginia.
Stranded costs are generation-related costs incurred or commit-
ments made by utilities under cost-based regulation that may not
reasonably be expected to be recovered in a competitive market. At
December 31, 2005, our exposure to potential stranded costs
included long-term power purchase contracts that could ultimately
be determined to be above market; generating plants that could
possibly become uneconomical in a deregulated environment; and
unfunded obligations for nuclear plant decommissioning and
postretirement benefits not yet recognized in the financial state-
ments. We believe capped electric retail rates will provide an oppor-
tunity to recover our potential stranded costs, depending on market
prices of electricity and other factors. Recovery of our potential
stranded costs remains subject to numerous risks even in the
capped-rate environment. These include, among others, exposure
to long-term power purchase commitment losses, future environ-
mental compliance requirements, changes in certain tax laws,
nuclear decommissioning costs, increased fuel costs, inflation,
increased capital costs and recovery of certain other items.
The generation-related cash flows provided by the Virginia
Restructuring Act are intended to compensate us for continuing to
provide generation services and to allow us to incur costs to restruc-
ture our operations during the transition period. As a result, during
the transition period, our earnings may increase to the extent that
we can reduce operating costs for our utility generation-related oper-
ations. Conversely, the same risks affecting the recovery of our
stranded costs, may also adversely impact our margins during the
transition period. Accordingly, we could realize the negative eco-
nomic impact of any such adverse event. Using cash flows from
operations during the transition period, we may further alter our cost
structure or choose to make additional investment in our business.
Ohio Energy Choice Pilot Program
In April 2005, we filed with the Public Utilities Commission of Ohio
(Ohio Commission) a proposal for a two-year pilot program to
improve and expand our Energy Choice Program. Under the current
structure, non-Energy Choice customers purchase gas directly from
us at a monthly gas cost recovery, or GCR, rate that includes true-
up adjustments that can change significantly from one quarter to
the next. We propose to replace the GCR with a monthly market
price that eliminates those adjustments, making it easier for cus-
tomers to compare and switch to competitive suppliers. A ruling on
this proposal is expected by the end of the first quarter of 2006. By
the end of the transition period, and subject to Ohio Commission
approval, we plan to exit the gas merchant function in Ohio entirely
and have all customers select an alternate gas supplier. We will
continue to remain the provider of last resort in the event of default
by a supplier.
Energy Policy Act of 2005 (EPACT)
In August 2005, the President of the United States signed EPACT.
Key provisions of the Act include the following:
•Repeal of the 1935 Act in February 2006;
•Establishment of a self-regulating electric reliability organization
governed by an independent board with FERC oversight;