The regulatory compact is the idea that a utility regulator, such as the BCUC, ensures that public utilities meet their obligations in return for fair and reasonable compensation.
The “compact” can be thought of as a deal between society and public utilities for mutual benefit. Societies want to expand the availability of cheap and reliable energy but want to manage the risks associated with monopolies providing the energy.
In one sense, the regulatory compact is nothing more than a highly summarized version of the Utilities Commission Act, which sets out the rights and obligations of public utilities in BC, and which gives the BCUC the powers to oversee them. The regulatory compact is not explicitly referred to in the Utilities Commission Act, although each of the key elements are included.
It is a matter of opinion as to which of the many rights and obligations in the Utilities Commission Act are important enough to be emphasized; there are many versions of the regulatory compact, and none are definitive. A short and easy-to-remember version is “safe and reliable service for a just and reasonable rate”. However, a more comprehensive version is:
A public utility is obligated to deliver, in its service area, safe and reliable service in return for a just and reasonable rate.
Each of the key concepts in the regulatory compact are described below.
Scope
The regulatory compact is limited to regulated services provided by public utilities. The regulatory compact does not apply to companies that are not public utilities, nor to any unregulated services provided by public utilities.
The regulatory compact includes an obligation for a public utility to provide regulated services to all customers in its service area who want service.
If this obligation were not part of the compact, a utility might “cherry pick” those customers it was cheapest to serve in order to reduce its costs. In return for taking on the obligation to serve, the rate provided to the utility must be sufficient to compensate it for the costs to serve all customers.
The obligation to serve is limited to a public utility’s service area to ensure that the regulatory compact does not entitle utilities to compensation for expanding their services, at least without authority from the BCUC.
Safe and reliable service
Under the regulatory compact, public utilities must provide regulated services that the BCUC considers is safe and reliable.
If this obligation were not imposed, public utilities might cut costs and deliver unsatisfactory service. Customers usually receive regulated services from monopoly suppliers, so have no alternative.
The BCUC decides what is an acceptable level of safety and reliability, and ensures that public utilities’ rates are sufficient to compensate for the spending necessary to achieve that level.
Just and reasonable rates
In return for providing regulated services, public utilities are entitled to just and reasonable rates. The BCUC is the sole judge of whether a rate is just and reasonable in BC.
A rate is generally considered to be just and reasonable if it is sufficient to cover a utility’s cost of providing service and gives the utility the opportunity to earn a reasonable profit.
The cost of providing service typically includes operating costs, debt financing costs, and the amortization of capital used to provide service. The BCUC does not simply approve the lowest possible cost to provide service; if it is prudent for a utility to spend more than the lowest possible cost, for example to better manage the risk of forest fires burning down its transmission lines, the BCUC may even encourage it to spend more.
A public utility’s profit is usually calculated as the utility’s rate of return on equity, multiplied by its rate base; the undepreciated value of the capital it is using to provide service. The BCUC determines what is a reasonable rate of return on equity for each utility.
A rate is considered just and reasonable so long as the utility is given the opportunity to earn a profit; the utility does not need to be guaranteed to make a profit. In fact, rates are usually set in advance based on forecast costs, and if the utility over-spends its forecast controllable costs, it will earn less profit, thus giving it an incentive to be efficient.
The regulatory compact is a useful way to understand how utility regulation works in BC and how the BCUC makes its rate decisions. It is not, however, a mathematical formula to follow when setting rates. Public utility rate decisions are the judgement of the BCUC at a point in time and are influenced by many factors.
We can expect that what is considered a just and reasonable rate in ten years’ time will differ from what the BCUC would approve today, as governments consider how, and how fast, to reduce greenhouse gas emissions from the province’s energy system.