Here’s 5 reasons to use regulatory accounting for recovering impairment losses
- Jul 21, 2021 12:37 pm GMT
Change is in the Air
The overall energy industry power supply mix is slowly (?) changing, from traditional fossil fuels to renewables and more "clean" fuels. Pricing in some energy markets shows that some traditional power supply assets are not marketable, i.e., the price of power production exceeds the market price.
Evaluating these resources leads to the conclusion that the assets are "impaired" or no longer viable for use, which from an accounting perspective means their value should be written off and recognized as a loss in the current period. This is formally known as an impairment. Impairment accounting standards are covered in ASC 360 and GASB 42.
The accounting impact of an impairment results in damage to the financial statements - a significant loss is recognized in the current year's financials, bond coverage is negatively impacted, and questions arise over the collectability in customer rates of debt payments that may still be due on the impaired assets.
Luckily, accounting standards have a soft spot for this situation. FASB ASC 980, GASB 62, and FERC contain provisions for "regulatory accounting" and have options to defer the loss and systematically recognize it over future years, matching debt payments.
Convinced? Here are 5 reasons why this approach can ease your worries over the financial impact and rate recovery for impaired assets.
1. Regulatory accounting allows spreading out the impairment over the remaining debt payments on the impaired assets. This means that the loss is recognized systematically over the remaining period of the debt payments. So, customer rates include the debt payments, which will offset the amount of the impairment. This leads to a cleaner and less dramatic income statement.
2. Electric rates should be smooth and steady. Customers don't like surprises in their rates. Under regulatory accounting for the impairment, rates continue to include the debt payment, as if the impairment never happened.
3. The regulators are comfortable with this approach. Whether your organization's electric rates are approved by a state regulator, utility board, or city council, these regulators will appreciate the impact on the income statement and customer rates. Questions by bond rating agencies are averted as bond coverage is maintained, and constituents do not have grounds for complaints about any rapid rate changes.
4. The regulatory approach is an easier sell to ratepayers. Part of the impairment conversation includes the story of the move to more market-based power resources, and price changes due to a mix of more renewable power. Customers should be kept informed that they share in the risk of market power costs and the power markets. As markets change and assets may be impaired, those assets' original cost still needs to be recovered through customer rates.
5. The impairment may not be collectible in customer rates someday. Your power and utilities' organization finances may ebb and flow over the period of impairment recovery. If the regulator determines that the amount should no longer be incorporated in customer rates, then the remaining unrecognized impairment loss should be recognized in income in that year. Using regulatory accounting to that point makes sure the proper amount of impairment loss is recognized.
Implementing Regulatory Accounting Will Help Management, the Oversight Board, and Your Customers Rest Easier
The regulatory approach to recognizing impairments (and other items) is the industry best practice in managing major expenses and matching them to recovery in customer rates. It's easy to implement and explain to the affected parties. Consider using this tool to protect your organization's income statement and customer rates.
Russ Hissom is the owner of Utility Accounting Education Specialists (UAES), a company that offers online, on-demand, and custom power industry accounting and finance business process courses and thought leadership. You can reach him at firstname.lastname@example.org. The puaes.com website has a wealth of classes, articles, and other online resources that will benefit your utility or electric cooperatives’ accounting and customer ratemaking strategies.
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