MUD money

Originally published October 10, 2001 A San Francisco public power agency could buy out Pacific Gas and Electric Co., cut residential electricity rates by 20 percent, dramatically reduce the city’s reliance on fossil fuels – and still operate with a $18 million annual surplus, a Bay Guardian analysis shows. Our study’s figures directly contradict the argument that’s at the heart of PG&E’s campaign against public power: they show that a municipal electrical system can be bought and run at no cost to the taxpayers – with plenty of money left over. Our figures are all taken from public sources and are consistent with the financial reports of other major public power agencies in the state. In fact, if anything, our figures are conservative; the real benefits are almost certainly higher. The financial issues are essentially the same for a municipal utility district and for a city power agency, so our figures would apply to either the MUD, which would be created under Measure I, or the Water and Power Agency, which would be created under Proposition F. Calcuutf8g the financial feasibility of a municipal utility district or city power agency in detail is a complex process. Consultants typically charge upward of $1 million for detailed feasibility studies that use all sorts of models and assumptions to come up with the sorts of figures you can take to the bank (or to Wall Street to sell bonds). So our analysis isn’t anywhere near as detailed as what the MUD or the WPA will eventually have to produce. But we’ve covered all of the major revenues and costs; if we’re missing anything, it won’t radically change the bottom line. And it’s safe to say that we haven’t over<\h>estimated the financial viability of public power. The questions on the minds of most voters this fall are relatively simple: Can public power pay for itself? Will the MUD or the Water and Power Agency be a financial success? And our research shows that the answer is a resounding yes. We’ve run through two scenarios, a worst-case scenario and a best-case scenario. In each case, we’ve found, a San Francisco public power agency is more than financially viable. Our study is the rough equivalent of what a MUD’s or WPA’s annual energy report to the public would look like once the agency was up and running. In fact, we’ve pretty much followed the model of the Sacramento Municipal Utility District (SMUD) and the Los Angeles Department of Water and Power (LADWP), and we’ve relied on those two agencies’ figures to estimate some of what the city’s comparable costs would be. We’ve discussed our study with Ed Smeloff, the city’s top energy expert, and while he couldn’t verify our conclusions (since he hasn’t run the numbers himself), he said that there were no major costs that we had ignored. The results are summarized in the two accompanying charts. Where’s the money? Based on how other MUDs have been set up, the process in San Francisco would look something like this: The elected MUD (or WPA) directors would commission a detailed feasibility study outlining the financial future of the agency. Then they would begin negotiations with PG&E to buy the company’s local transmission and distribution system. If PG&E wouldn’t sell, the MUD or WPA would seize the system through the power of eminent domain. The agency would then issue revenue bonds to cover the cost of the acquisition and start-up, hire a staff, and go into the retail power business. Sales of electricity would bring in revenue that would cover operating costs and pay off the revenue bonds; any money left over at the end could be turned back to the city’s General Fund, used to reduce rates, or used for conservation and environmental projects. So the first step in analyzing the finances of a MUD is to figure out how much revenue would be available each year. That’s a relatively simple calculation. According to the California Energy Commission, PG&E currently sells about 5.4 billion kilowatt-<\h>hours of electricity to customers in San Francisco. (This figure doesn’t include energy used by the city government, since government agencies use power from the city’s Hetch Hetchy dam.) Residential, commercial, and industrial customers all pay different rates. If a MUD sold power at current PG&E rates (as provided to us by PG&E spokesperson Ron Low), it would bring in $562 million in revenue (enough to create a big annual surplus – roughly $36 million.) But a MUD or power agency almost certainly wouldn’t sell power at PG&E’s high rates – one major attraction of public power is that it offers cheaper electricity. So in both of our scenarios, we assumed that the rates would be at least 10 percent below PG&E’s rates. In fact, as our study shows, rates could drop as much as 20 percent without harming the MUD or WPA’s viability. What’s it cost? There are three basic categories of costs that the agency would have to cover. The first is payments on the bonds, the second is generating or buying power, and the third is basic operations and maintenance (paying the staff to keep the system up and running, to send out bills, to read meters, as well as operating the repair trucks, etc.). Electricity can’t just be delivered to the doorsteps of customers like canned ham in a UPS box. It has to be distributed through a network of transformers, substations, wires, and poles and measured with individual meters. And until the public power agency owns that distribution network, it can’t sell a single kilowatt. Unfortunately, the system that’s now in place in San Francisco is owned by PG&E – and almost everyone involved agrees that it would be cheaper, easier, and quicker for the city to take over that system than to build a new one from scratch. That’s what SMUD did and what most other public agencies that have gotten into the power business in the past half century have done. A MUD or a city power agency would have the right to seize PG&E’s property by eminent domain. But PG&E would be entitled under law to fair compensation for the taking of its property, and one of the most complex, bitter – and crucial – issues involved in establishing public power will be the price tag. “This is not an easy case at all,” Richard Epstein, a professor of law at the University of Chicago and a national expert on eminent domain, told us. “I can guarantee you that nobody, but nobody, has any idea right now what fair compensation would be.” The issue will almost certainly be settled in court. PG&E insists that its San Francisco property is worth a small fortune – as much as $1.4 billion. In a 1996 study the Economic and Technical Analysis Group suggested that the price could be anywhere from $315 million to $1.2 billion. The ETAG study, which was highly favorable to PG&E, suggested that the most likely figure was around $795 million. The reason those figures are so widely divergent is that there are numerous ways of evaluating what a utility’s property is worth. The simplest is to establish what PG&E originally paid for the property, then factor in depreciation. That’s how insurance companies decide what they have to pay you if your car is stolen. The process generally leads to a low figure favorable to the city. But courts have recently been somewhat more friendly to an analysis that recognizes that utility property is more valuable than, say, a private car, because the utility property produces income. One way to address that is by valuing the property at its replacement cost and factoring in the value of a “going concern” – which, of course, leads to a much higher price. Real market value But there’s another way to look at the issue, and that involves going to the state agency that appraises the actual market value of PG&E’s property for tax purposes: the Board of Equalization. Every year the board’s appraisers evaluate exactly what PG&E’s property is worth – and the agency’s record is pretty good. When California’s private utilities sold 22 power plants under deregulation, the board checked its appraisals against actual market prices, and while sale prices for some plants varied from estimates, the board was accurate to within 1 percent overall, chief appraiser Harold Hale told us. The Board of Equalization estimated that as of January 2001, all of PG&E’s property in San Francisco was worth $962,140,298. That includes property that isn’t at all relevant to running an electric utility. The value of the property actually used in the electricity business, the board says, is $753,978,471. But that figure includes PG&E’s huge 77 Beale St. headquarters office complex, which the city almost certainly wouldn’t want or need to buy in an eminent domain action. If you subtract 77 Beale St. (which one real estate expert we contacted said was worth about $225 million as of Jan. 1), then the value of the property the city might actually buy is about $528 million. It may be even less than that: the real estate market has fallen almost 15 percent since Jan. 1, according to our expert, a senior executive at one of the city’s biggest firms, who asked not to be identified by name. However, to be conservative, we’re sticking with the Jan. 1 figure. Epstein, who has worked as a consultant fighting municipalization efforts and thus isn’t inclined to be biased in favor of a public buyout, agreed that using the Board of Equalization figures is “certainly a good place to start.” There’s no guarantee that the courts will accept this approach (although, with PG&E in bankruptcy court right now, it’s also entirely possible, experts say, that PG&E might be forced to accept a much lower value for its property and sell it without a fight, in order to pay off some creditors with cash). So we also analyzed a worst-case scenario, essentially accepting the figures of ETAG’s much maligned report and assuming that, under a replacement cost-<\d>plus-<\d>”going concern” analysis, the city would have to spend $795 million to take over the system. (Even ETAG concluded that it’s unlikely the final price would be as high as PG&E’s estimate; nobody whose property is up for seizure starts off by quoting a realistic price.) No matter what the price, the bond sale will have to include some money for contingencies – the actual cost of the bond sale, start-up cash, etc. We’ve added $50 million for those costs. Paying the staff, buying power PG&E doesn’t publicly reveal its operating costs for San Francisco (or any other specific service area). And it’s difficult to use the company’s system-<\h>wide operating costs as a basis for estimating San Francisco costs, since the population of San Francisco is so much denser than in most of the company’s northern California territory. The denser the population, the cheaper it is to serve; the distance between customers is smaller, so you need less transmission line per customer. Reading meters is faster, since the employee doing that work doesn’t have to drive long distances between each house. Repairs and maintenance are cheaper for the same reason. And PG&E’s costs aren’t a fair comparison for a public power agency anyway: PG&E pays huge executive salaries (see “Public Power vs. PG&E,” page 24), which are included in the operations overhead. So we based our cost estimate on LADWP, which is about as close a comparison to San Francisco as we could find. Los Angeles is not quite as dense as San Francisco, so the L.A. figures are almost certainly higher than what San Francisco would pay, but they provide a reasonable, if conservative, estimate. LADWP’s cost per customer is $383; multiplied by the number of customers in San Francisco, that cost is $131 million a year. Then there’s the question of generating or buying the electricity. Here San Francisco has a huge advantage over other public power agencies: The city owns a large hydro<\h>electric dam that can generate enough to cover some of the local power needs – and it’s already paid for. Power from the Hetch Hetchy dam is cheap: the cost of operating the system is only about 2¢ a kilowatt-<\h>hour. Unfortunately, the city also has to pay PG&E to ship the power over its lines to the city borders, since the city has no complete transmission line to carry the power here; San Francisco pays PG&E $9.6 million a year in what’s known as “wheeling fees.” San Francisco currently sells most of the available Hetch Hetchy power to the Turlock and Modesto Irrigation Districts. Our analysis assumes that those contracts will be broken and that much of the power – 425 million kilowatt-<\h>hours’ worth – will be available to the MUD or WPA. The city also has a very expensive contract with Calpine to provide backup energy when water is low at the dam. The wheeling fees and Calpine deal boost the actual cost of Hetch Hetchy power to about 4¢ a kilowatt-hour. But the Calpine deal ends in five years, at which point Hetch Hetchy power will be far less expensive – and the MUD’s costs will go down. Green power Our analysis is based on the assumption that San Francisco will move as rapidly as possible to reduce its reliance on fossil fuels (see “Green City,” 9/26/01). Not all of the alternative-<\h>energy sources that should ultimately be part of the city’s mix are likely to be online when the MUD starts operating, so we’ve again been conservative, assuming in our worst-case scenario only a modest amount of solar power to supplement Hetch Hetchy power. In our best-case scenario we assume that the city will be able to develop 200 megawatts of solar and wind power – five times as much as projected in the solar bond measure, Proposition B, and enough to power 200,000 homes. The cost of solar and wind is easy to determine: it’s the cost of the interest on the bonds needed to buy and install the windmills and panels. Once they’re up and running, they cost very little to operate – and the fuel, of course, is free. Based on the San Francisco Public Utilities Commission staff’s analysis of Prop. B), 40 megawatts of solar, wind, and efficiency programs – the equivalent of 98 million annual kilowatt-<\h>hours – will cost about $7.5 million a year. Our ambitious plan – for five times that much solar and wind power- would cost $38 million a year. (Again, the actual costs will probably be lower; once a big agency orders a large amount of solar- or wind-<\h>generating facilities, the price goes down substantially.) The rest of the power the city needs will have to be bought on the open market. Because the market is so volatile, it’s hard to say exactly what that cost would be. But futures contracts for power are listed on the New York Mercantile Exchange Web site, and they’re currently running at less than 4¢ a kilowatt-hour. That price is expected to decline in the future. Again, we’ve stuck to conservative numbers, assuming the MUD or WPA would have to pay 6.9¢ a kilowatt-<\h>hour for power generated locally, by Mirant Corp.’s Potrero Hill power plant (one energy expert told us that Mirant is unlikely to accept less than the 6.9¢ the state is now paying for power), and 5.5¢ a kilowatt-<\h>hour for power bought from out-of-town sources. We assumed that the Potrero plant would operate at its capacity. The power the city would import can’t exceed the amount that can be carried along the one transmission line leading into San Francisco, and our projection meets that criterion. PG&E pays a substantial amount of taxes to the city, and almost all of the San Francisco-<\d>Brisbane MUD Board candidates have pledged to make sure that, at the very least, the city’s General Fund doesn’t lose any money if the private utility is replaced with a public agency. So part of the MUD’s expense would be the payment of a fee to replace what PG&E paid in taxes. The utility pays three major taxes: property taxes, a franchise fee, and business taxes. Based on the Board of Equalization’s assessed value for PG&E ($962 million) and the city’s property tax rate, PG&E’s property taxes are about $1 million. The franchise fee – 1.5 percent of sales – adds another $8.4 million. It’s impossible to say how much PG&E pays San Francisco in business taxes, since that figure is not public, but even at several million dollars a year, it wouldn’t significantly change our bottom line. Unanswered questions There are plenty of questions our analysis doesn’t – and can’t – answer, factors that are impossible at this point to predict with any accuracy. PG&E customers, for example, have to pay a substantial surcharge on their electric bills for what’s known as the CTC, or competitive transition charge. In essence, that’s the money ratepayers have been forced to cough up to cover the cost of PG&E’s bad investments in nuclear power. It’s possible that a San Francisco power agency would have to include some of those charges in its bills – but according to Mindy Spatt, media director at TURN, it’s unlikely. The CTC is expected to end next year and probably wouldn’t be a factor by the time the MUD or WPA was up and running. It’s also unclear whether the MUD or WPA would have to pay a share of the costs of the expensive long-term power contracts that the state Department of Water Resources has signed to buy power for the bankrupt PG&E. There would almost certainly be some substantial legal fees, possibly in the millions of dollars, that would reduce the surplus during the first few years (but not once the eminent domain issues were settled). Most of the MUD candidates have voted to shut down PG&E’s Hunters Point plant, and it’s unclear how much it will cost to decommission that facility. The MUD or WPA could also buy the Potrero plant (it recently sold for $330 million) and pay less for the power generated there. And, of course, it’s uncertain how much electricity will cost on the open market in the next few years. That’s why the MUD or WPA would probably want to move aggressively to increase its own generating capacity. But if power prices go up, one thing is clear: PG&E’s prices will go up higher, and faster, than the prices of a public power agency. Voters won’t have to take our word alone on the subject. The public will have more information on San Francisco’s energy plans in the coming weeks. The county’s Local Agency Formation Commission is planning to bring in experts on public power and energy for hearings, and Smeloff is hiring Amory Lovins’s Rocky Mountain Institute to assess the city’s energy alternatives. Both reports are expected before the Nov. 6 election. Our analysis isn’t that radical or unusual; it just confirms the experience of every other major public power agency in the state. We’ve found what just about everyone who’s gotten out from under the private utilities already knows: public power is cheaper. It’s that simple. Public power in San Francisco: Best-case scenario (Low rates, extensive renewable energy) Revenue1 Residential sales 1.481 billion kwh @ 11.5¢ per kwh $170 million Commercial/industrial sales 3.942 billion kwh @ 9.5¢ per kwh $374 million TOTAL $544 million Expenses Payment on revenue bonds $578.9 million @ 8 percent2 $50.9 million Cost of power * <\i>Hetch Hetchy 425 million kwh @ 4¢ per kwh3 $17 million * <\i>Solar, wind, efficiencies 500 million kwh4 $38 million * <\i>Potrero Hill plant 1.6 billion kwh @ 6.9¢ per kwh $110 million * <\i>Contract purchases 2.90 billion kwh @ 5.5¢ per kwh5 $160 million Operations and maintenance6 $131 million Replace PG&E’s city taxes7 $9.4 million Public benefits8 $10 million TOTAL $526 million Surplus $18 million This chart shows how a San Francisco public power agency could take over Pacific Gas and Electric Co., reduce the city’s reliance on fossil fuels, provide all of the electricity the city needs, and still have money left over. The analysis would apply to either a municipal utility district or a city water and power agency. Proposals for both are on the November ballot. (The MUD proposal would include both San Francisco and Brisbane, but since Brisbane is a very small area – only about 4,000 residents – and since it’s difficult to get accurate data on Brisbane’s current usage, our numbers include only San Francisco. The cost of providing service to Brisbane and the revenue from that jurisdiction would not significantly change the analysis.) The scenario presented here is an optimistic one – although, based on our research, the figures are quite realistic. All of the figures we’ve used are conservative – if anything, our analysis underestimates the financial viability of the MUD or a city WPA. The bottom line: Even with residential rates 20 percent below what PG&E currently charges, and with a huge investment in solar and wind power (five times the size of what the city is currently planning), the MUD or WPA would run a large surplus. This study reflects what a MUD or WPA would be facing several years into its existence. In the first few years, the agency would probably have to buy more power on the open market and would generate less from solar and wind (which take time to set up). But on balance that probably lowers the cost of power (solar is comparatively expensive). There are certain to be factors that we missed – although our cost and revenue projections are very similar to what we found in the annual reports of other large public power agencies such as the Sacramento Municipal Utility District (SMUD) and the Los Angeles Department of Water and Power (LADWP). But we’ve accounted for every foreseeable big-ticket item, and the projected surplus is large enough to cover unexpected costs. 1Revenue is based on sales of 5.4 billion kilowatt-hours: the amount PG&E currently sells in San Francisco, according to the state Energy Commission. A MUD or WPA could set rates at any level it wanted; for this analysis, we set residential rates at 20 percent below PG&E’s current rate of 14¢ a kilowatt-hour rate (which is projected to rise sharply). We assumed that commercial and industrial rates would be at the low end of PG&E’s scale. 2This assumes the MUD or WPA can buy PG&E’s assets at current market value, as assessed by the state Board of Equalization as of Jan. 1, 2001 (see story for details). Ken Bruce of the Board of Supervisors’ Budget Analysts Office told the Bay Guardian that 8 percent would be a reasonable projection for the interest on revenue bonds. 3Hetch Hetchy currently generates about 1.7 billion kilowatt-hours a year, and half of that goes for city government needs – Muni, the lights at City Hall, etc. We assumed that the city would pay the MUD what it pays now – the actual cost of generating the power – so the power sold to the city would be a financial wash. Thus it’s not in our analysis as either a cost or a revenue item. The cost we project for Hetch Hetchy power is high – it includes unfavorable contracts that will expire in five years (see story). The actual future cost would be closer to 2¢ a kilowatt-hour. 4The cost of solar and wind is based on financial estimates for Prop. B. 5It’s impossible to determine exactly what it would cost the MUD or WPA to purchase power in the future, but future contracts currently listed on the New York Mercantile Exchange are going for less than 4¢ a kilowatt-hour, and that price is expected to drop. Again, we took a conservative estimate; actual costs might be lower. 6Based on the cost per customer of operations and maintenance at LADWP (see story). 7The MUD would have no obligation to pay city taxes, but almost all of the candidates for MUD director have pledged to make sure the city doesn’t lose money – in other words, the MUD would almost certainly pay fees equivalent to what PG&E was paying in taxes (see story). 8The state mandates that power companies or agencies spend 2 percent of revenues on “public benefits” – conservation, environmental programs, and the like. Public power in San Francisco: Worst-case scenario (Moderate rates, less renewable energy) Revenue Residential sales 1.481 billion kwh @ 12.6¢ per kwh1 $186 million Commercial/industrial sales 3.942 billion kwh @ 9.5¢ per kwh2 $374 million TOTAL $560 million Expenses Payment on revenue bonds $850 million @ 8 percent3 $74.4 million Cost of power * <\i>Hetch Hetchy 425 million kwh @ 4¢ per kwh $17 million (includes wheeling and backup)4 * <\i>Solar, wind, efficiencies 98 million kwh5 $7.5 million Purchased power6 * <\i>Potrero Hill plant 1.752 billion kwh @ 6.9¢ per kwh $120 million * <\i>Contract purchases 3.098 billion kwh @ 5.5¢ $170 million Operations and maintenance7 $131 million Replace PG&E’s city taxes8 $9.4 million Public benefits9 $10 million TOTAL $539 million Surplus $21 million This chart shows how a public power system in San Francisco would operate if some of the worst-case assumptions are true: if, for example, the municipal utility district or power agency had to spend $800 million to buy out PG&E’s system (the highest likely figure, even according to pro-PG&E studies) and if the MUD was unable to fund and site affordable renewable-energy systems and was thus forced to rely on buying a large amount of its power from the Potrero Hill plant (owned by Mirant Corporation) and from other generators through long-term contracts. Even under those circumstances, the chart shows, the MUD could cut residential rates by 10 percent, keep commercial and industrial rates at the low end of PG&E’s rates, and still end the year with a surplus. As in all of our calculations, the numbers are very conservative; expenses would probably be considerably lower. 1The MUD could set rates at any level it wanted; for this scenario, we’ve set residential rates at 10 percent below PG&E’s current rates. 2The commercial/industrial rate is at the low end of PG&E’s equivalent rate. 3See story for details on the $850 million figure. The bond rate of 8 percent is based on an estimate from Ken Bruce of the Board of Supervisors’ Budget Analyst’s Office. 4See story and “Public Power in San Francisco: Best-Case Scenario” for details. 5This is the amount of solar and wind power projected in the city’s report on the solar bond measure, Proposition B. 6See story and “Best-Case Scenario” for details. 7Based on comparable costs per customer at LADWP. 8See story. 9See story.