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FERC Compliance Report - Regulatory View of Electric Industry Accounting Best Practices

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Owner Utility Accounting Education Specialists - utilityeducation.com

Russ is the owner of Utility Accounting Education Specialists a firm that provides power utilities consulting services and online/on-demand courses on accounting, finance, FERC best-practices,...

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Best practices in accounting for electric utilities and gas utilities

While your utility may not be regulated by the Federal Energy Regulatory Commission {FERC), it’s always interesting and valuable to read what’s on the radar for the regulators. This article discusses a recent FERC compliance audit report on issues from auditors that it deems to be not in the interest of good ratemaking or reporting for regulated electric utilities and gas utilities. It can be helpful to consider this FERC view when considering items to include in electric rates or accounting approaches to take on various transactions.

If FERC regulates your organization, you definitely should read on.

 Key Points on the FERC 2021 Compliance Report

 

 1. The 2021 FERC Report on Enforcement details areas examined for electric and gas accounting and rate filings compliance with FERC directives and orders.

2. The Report outlines specific instances of transactions considered to be non-conforming.

3. The Report includes valuable information for consideration by any electric or gas co-op or utility in its general accounting and developing cost of service studies and customer rates.

The FERC 2021 Report on Enforcement

That sounds like an ominous title, but it is a report prepared by the FERC Office of Enforcement staff. The Report is issued to inform the public and regulated entities of its activities during the most recent Federal Year, ending September 30, 2021. It covers a number of areas from the Division of Investigations, the Division of Audits and Accounting, and the Division of Analytics and Surveillance.

While the entire Report makes for a good read and gives you a feel for current issues in the electric markets (the analysis of market data on pricing and transactions that FERC does that leads to further investigation is interesting), our discussion in this article is on the report section from the Division of Audits and Accounting, beginning on page 45 of the Report).

FERC and electric and gas rates, why should this matter to you?

FERC regulates interstate rates for electric transmission and wholesale power rates, and interstate natural gas rates. While this may not impact your electric or gas co-op or utility, it is worth noting what items FERC questions in its review and approval of electric rate and other compliance proceedings. FERC’s approach defines the best practices allowable in developing electric cost of service studies and designing electric rates.

The FERC Division of Audits and Accounting noted items that needed addressing in their audits. Items of note are discussed next.

Issues with allocating labor and overheads to construction projects

Enterprise Resource Planning (ERP) software platforms in which all software modules (financial reporting, general ledger, timekeeping and payroll, accounts payable, materials management, work orders, and Human Resources) are integrated are the standard used in large and some mid-sized utilities and cooperatives. There are still many co-ops and utilities that rely on systems that may be disconnected, leading to the need for manual entries and processes.

The FERC report notes: “Companies have charged labor and labor-related costs to construction projects without using an appropriate cost allocation method or time tracking process to ensure capitalized labor costs have a definite relation to construction. Specifically, DAA has observed that allocation methods were not properly designed, nor were the allocation results sufficiently monitored to ensure that costs charged were appropriately allocated to capital projects when employees: (1) performed activities that only supported the operations of the existing infrastructure; (2) spent a portion of their time performing construction-related activities and a portion on other jurisdictional activities; or (3) performed activities supporting both jurisdictional and non-jurisdictional activities.”

In simpler terms, this indicates a preference for direct timekeeping systems and, when that is not possible, for utilities to use allocation methods that are appropriately designed to take into account the various activities of utility personnel that aren’t working 100% of their time on construction projects.

Our comments

If you cannot directly charge time to projects efficiently in your utility, we advocate several methods for allocating non-construction labor overheads:

  • Time studies of activities for a month, then using the percentage allocation for the entire year

  • Industry standard formulas, such as the Three-Point or Massachusetts Formula

It is best to have a system in place that correctly and consistently allocates costs to projects. It is vital and appropriate to ensure construction projects include support costs, including labor-related overheads.


Issues with applying the Allowance for Funds Used During Construction (AFUDC)

AFUDC is the cost of capital of funds used in construction projects. When funds are designated for specific activities (investments, construction, programs), there is an opportunity cost of using the funds rather than keeping them idle. The FERC Uniform System of Accounts includes a detailed explanation of how AFUDC should be calculated. Basically, the calculation consists of the interest cost of funding construction projects with a combination of short-term debt, long-term debt, investor-financing (common and preferred stock), and internal reserves. AFUDC rates vary from 5% of the total project costs for municipal utilities to 10% or more for investor-owned utilities, so the balance of AFUDC in a project can be substantial.

The FERC report includes some of the following:

  • Including commitment fees for lines of credits from lenders

  • Improperly excluding short or long-term debt amounts from the AFUDC calculation

  • Improper calculations of the use of internal funds in projects

  • Improper use of non-utility items in income in calculating the balance of equity

  • Other items that are addressed in FERC Order 561 on various minor charges that should not be included in the calculation

Our comments

We recommend including AFUDC in all construction activities in your electric co-op or utility. A best practice is to follow the FERC Uniform System of Accounts calculation using planned project funding and debt and equity amounts recorded in your organization’s latest audited financials. Once calculated, stick to using the AFUDC rate for the entire year. The rate should be adjusted annually.

Issues with amounts included in electric rate filings

The FERC Division of Audits reviews utility rate applications by utilities to determine items that should or should not be included in formula rate recovery mechanisms and differences between amounts reported in the Annual FERC Form 1 and rate applications.

Some areas noted in their Report:

  • Improperly excluding revenue credits for transmission-related areas, such as pole attachment or rental revenues

  • Refunds of income taxes not included in rate filings

  • Issues related to deferred income taxes adjustments

  • Recovery of storm damages

  • Improper accounting for Investment Tax Credits (ITC) for equipment

  • Improperly including merger and consolidation costs

  • Including unapproved Asset Retirement Obligation (ARO) costs

  • Including regulatory assets in rate filings where FERC had not approved recovery of those regulatory assets

  • Improperly including administrative and general costs in rate filings for non-utility expenses (examples cited included lawsuit settlements, lobbying expenses, charitable contributions, storm damage to distribution systems (FERC is transmission and wholesale rates only), and penalty payments

The Report noted similar issues with gas rate filings in administrative and general charges in rate filings.

Our comments

Whether or not your utility is regulated by FERC, reviewing the list of areas the Report mentions is a good practice when preparing your next cost of service study. Including supporting documentation for items included in the cost of service studies will make it easier to discuss why an item was not included with management, oversight Boards, and ratepayers.

What should you do with this information?

This information includes insights into best practices in accounting and electric and gas rate development from the regulator point of view. While we advocate innovation in electric accounting, it is helpful to consider the regulator view when considering transactions to include in cost of service studies or accounting approaches.

 

About Russ Hissom - Article Author

Russ is the owner of Utility Accounting Education Specialists. Russ is passionate about the Electric and Telecom Industries and his goal is to share industry best practices to help better your business and enhance your career knowledge. He has over 35 years serving electric investor-owned and public power utilities, electric cooperatives, and telecom providers as a past partner in a national public accounting and consulting firm's energy practice. Russ was named one of the 2021 Top Voices in the Energy Central Community by EnergyBiz Network.

 

Find out more about Utility Accounting Education Specialists here or you can reach Russ at russ.hissom@utilityeducation.com


The material in this article is for informational purposes only and should not be taken as legal or accounting advice provided by UAES. You should seek formal advice on this topic from your accounting advisor.

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