Dominion Power 2006 Annual Report Download - page 51

MANAGEMENT’S DISCUSSION ANDANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED
Retail choice was made available to all of our Virginiaregu-
lated electric customers since January 1, 2003. We have separated
our generation, distribution and transmission functions through
the creation of divisions. State regulatoryrequirements ensure
that our generation division and other divisions operate
independently and prevent cross-subsidies between our generation
division andother divisions. Additionally, in 2005 we became a
member of PJM, an RTO, and have integrated our electric
transmission facilities into the PJM wholesale electricity markets.
Under the 1999 VirginiaRestructuring Act, our base rateshave
been capped until December 31, 2010, unless modified earlier.
2004 amendments to the 1999 VirginiaRestructuring Act
addressed aminimum stay exemption program,awires charge
exemption program and the development of acoal-fired generat-
ing plant in southwest Virginia.
VIRGINIA FUEL EXPENSES
In May 2006, Virginialawwas amended to modify theway our
Virginiajurisdictionalfuel factor is set during the threeand
one-half year period beginning July 1, 2007. The bill became law
effective July 1, 2006 and:
Allows annual fuel rate adjustments forthree twelve-month
periods beginning July 1, 2007 and onesix-month period
beginning July 1, 2010 (unless capped rates are terminated
earlier under the 1999 VirginiaRestructuring Act);
Allows an adjustment at the end of each of the twelve-month
periods to account fordifferences between projections and
actual recovery of fuelcosts duringthe prior twelve months;
and
Authorizes the VirginiaCommission to defer up to 40% of
any fuel factor increase approved for the first twelve-month
period, with recovery of the deferred amount over the two and
one-half year period beginning July 1, 2008 (under prior law,
such a deferral was not possible).
Fuel prices have increased considerably since our Virginia fuel
factor provisions were frozen in 2004, 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.
While the 2006 amendments do notallowusto collect any
unrecovered fuel expenses that were incurred prior to July 1,
2007, once our fuel factor is adjusted, the risk of under-recovery
of prudently incurred fuel costs until July1, 2010 is greatly
diminished.
STRANDED COSTS
Stranded costs are generation-related costs incurred or commit-
ments made by utilities under cost-based regulation that maynot
be reasonably expected to be recovered in acompetitive market.
At December 31, 2006, our exposure to potential stranded costs
included long-term power purchasecontracts that could ulti-
mately be determined to be above marketprices; generating plants
that could possibly become uneconomical in aderegulated envi-
ronment;and unfundedobligationsfor nuclear plant decom-
missioning and postretirement benefits. Webelieve capped
electric retail rates will provide an opportunity to recover our
potential stranded costs, depending on market prices of electricity
and other factors. Recovery of our potential stranded costs
remains subject tonumerous risks, even in the capped-rate
environment.These risks include, among others, exposure to
long-term power purchasecommitment losses, future environ-
mental compliance requirements, changes in certain taxlaws,
nuclear decommissioning costs, increased fuel costs, inflation,
increased capital costs and recovery of certain other items.
The generation-related cashflows provided by the 1999 Virginia
RestructuringActareintended to compensate us for continuing to
provide generation services andto allowusto incur costs to
restructure suchoperations during the transition period. As aresult,
duringthetransitionperiod,our earnings may increase to theextent
that we canreduce operating costs for our utility generation-related
operations. Conversely, the samerisks affecting the recovery of our
stranded costs mayalso adversely impact ourmarginsduring the
transition period. Accordingly, we could realize the negative
economic impact of any such adverse event. Using cash flows from
operations during the transition period, we may further alter our
cost structure orchoose tomake additional investments in our busi-
ness.
2007 VIRGINIA RESTRUCTURING ACT AMENDMENTS
In February 2007, both houses of theVirginia General Assembly
passed identical bills that would significantly change electricity
restructuring inVirginia. The bills would end capped rates two years
early, on December 31, 2008. After capped rates end, retail choice
would beeliminated for allbut individual retail customers with a
demand of more than 5Mwand alimited number of non-
residential retail customers whoseaggregated load would exceed
5Mw.Also,after theend of capped rates, the Virginia Commission
would set the base rates ofinvestor-owned electric utilities under a
modified cost-of-service model.Among other features, the currently
proposed model would provide for the Virginia Commission to:
Initiate abaserate casefor each utility during the first six
months of 2009, as aresult ofwhich theVirginia Commission:
establishes areturn on equity (ROE) no lower than that
reported by agroup of utilities within the southeastern
U.S.,with certain limitations on earnings and rate adjust-
ments;
shall increase baserates, ifneeded, toallow the utility the
opportunity to recover itscosts and earn afairrate ofreturn,
if the utility is found tohave earnings morethan 50 basis
points belowtheestablished ROE;
mayreduce rates or,alternatively, order acredit tocustom-
ers if the utility is foundto have earnings more than 50
basis points above the established ROE; and
mayauthorize performance incentives, if appropriate.
After the initial rate case, review base ratesbiennially, as a
result of which the Virginia Commission:
establishes an ROE no lower than that reported by agroup
of utilitieswithin thesoutheastern U.S.,with certainlimi-
tations on earnings and rate adjustments; however, if the
VirginiaCommission finds that such ROE limit at that
time exceeds the ROE set at the time of the initial base rate
case in 2009 by more than the percentage increase in the
Consumer Price Indexin the interim, it mayreduce that
lower ROE limit toalevel that increases the initial ROE by
only as much as the change in the Consumer Price Index;
50 DOMINION2006 Annual Report