It determines how much utility customers will have to pay and how much profit the utility will make, but it is designed in a way that discourages innovation. The revenue requirement is the key outcome of a rate case. Revenue requirement-a disincentive to innovate Let’s take a closer look at the parts of this formula. This is the basic formula that governs how a utility makes money: Revenue Requirement = (Rate of Return on Equity)*(Value of Assets After Depreciation) + Expenses In public proceedings called “rate cases,” utilities appear before a dedicated state agency known as a utility commission (it’s the Utilities and Transportation Commission in Washington and the Public Utility Commission in Oregon) and lay out their argument for how much money they need to bring in to run their business and make a reasonable profit, namely the “revenue requirement.” In practice, that means before a utility can earn money, it needs to convince regulators how much it should make. Instead, they are “regulated monopolies” in which public officials guarantee the companies a monetary return on their investments while also fixing prices for consumers. Utilities do not operate in a normal free market system where prices and profits are determined by the willingness of consumers to pay. In short, the more infrastructure that a utility builds, the higher the profits it can generate. That’s right, utilities do not earn profits on the products they sell-gas, water, and power are provided “at cost” to consumers-but rather from the investment in the assets (the pipes, substations, transmission lines, etc.) that are used to provide the service. Utilities’ profit doesn’t come from the natural gas or water or electricity they provide to customers. Utilities inhabit a world of special accounting rules and pre-established investment returns, where ordinary business incentives often do not matter, and where changing course is exceedingly hard. The utility business is not like most other businesses. Understanding how we can realign utility profit incentives is key to decarbonizing the Northwest. And, utilities may see third-party-owned climate-friendly energy systems like solar panels and batteries as a threat to their business model. Today, utilities are primarily incentivized to build new infrastructure-more pipes and wires-rather than boost efficiency, make repairs, or invest in operations. To decarbonize, policymakers will need to fundamentally change how utilities make money. That two-pronged approach is central to every serious study of decarbonization, even in places like Cascadia where we already boast relatively low-carbon power systems. To achieve our climate goals in the Northwest (or any other region in North America), we’ll need to clean up the power grid while also shifting whole sectors of the economy from dirty fuels to electricity.
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