To keep electricity rates down at the height of the economic downturn, AEP Ohio agreed to collect money spent on fuel over several years using a state-approved formula. But regulators overstepped their authority when they later changed the formula, the Ohio Supreme Court ruled today.

In a 4-3 decision, the court found Ohio Power Co., one of the major subsidiaries of AEP Ohio, could collect the deferred fuel costs from customers at the rate agreed upon with the Public Utilities Commission of Ohio in 2009. The PUCO argued it was within its rights to use another formula when the company started to collect fuel costs in 2012. However, the court reversed the commission’s decision, finding the delay in imposing the new formula was unreasonable.

Writing for the majority, Justice Sharon L. Kennedy explained that the PUCO has the right to modify the orders it makes regarding utility company operations, and it can take a new course when it is “lawful and reasonable.” In this case, the commission overstepped the authority it is granted by the Ohio Revised Code.

“The commission’s modification power, however, is not without limits,” Justice Kennedy wrote.

The Original Collection Formula
In March 2009, the PUCO approved an electric security plan (ESP) from AEP. ESPs were established under Ohio’s then newly implemented de-regulation of the electric utility market. With the economic downturn and a requirement to cap rate increases, AEP proposed to minimize increases of consumer electric rates by seeking commission approval to defer the costs to purchase fuel and phase in the recovery at a later time. Because the utility had to wait to recover its costs, the utility was allowed to assess “carrying charges,” a type of finance charge, on the deferred amounts and to recover those costs from all customers, even those leaving for another supplier.

The PUCO approved AEP’s proposal that the carrying costs be calculated by the weighted average cost of capital (WACC), and the plan was supposed to run through 2011 with AEP collecting its deferred fuel costs by tacking on a rider to electric bills from 2012 until 2018.

Justice Kennedy noted that various parties challenged the PUCO’s approval of AEP’s electric security plan, but Industrial Energy Users of Ohio did not challenge the use of the WACC to calculate the carrying charges.

In September 2011, AEP applied to the commission to start billing for the deferred fuel expenses and carrying charges. The PUCO adjusted the carrying charges so that beginning in 2012, the charges would be based on the company’s long-term-cost-of-debt rate. Justice Kennedy indicated the long-term-cost-of-debt rate carried a 5.34 percent interest rate, which was less than half the WACC’s 11.5 percent rate. That effectively reduced the carrying charges by more than $130 million.

AEP argued against the reduction, but Industrial Energy Users argued that the total amount the company should be able to recover for fuel should be reduced because AEP was able to benefit from accumulated deferred income taxes. The benefit of the reduced taxes should be passed on to customers by charging less, the group claimed.

The PUCO rejected both claims, and the parties appealed to the Supreme Court.

Modification Came Too Late
AEP argued to the court that state law has a specific provision regarding PUCO modifications of ESPs in R.C. 4928.143(C)(2)(a). When considering a plan, the commission can do one of three things: (1) approve; (2) modify and approve; or (3) disapprove. Justice Kennedy noted that if the commission modifies and approves, the utility may withdraw its application, which terminates it, and file a new offer. AEP claimed that since the commission waited until 2012, which was after the expiration of the plan that ran through 2011, it was given no time to withdraw and file a new offer as the law allows.

“If the commission makes a modification to a proposed ESP that the utility is unwilling to accept, R.C. 4928.143(C)(2)(a) allows the utility to withdraw the ESP application. The modification made below, however, occurred after the ESP had expired, making it impossible for Ohio Power to exercise its statutory right to withdraw the ESP,” Justice Kennedy wrote.

The majority also found that Industrial Energy Users was barred from arguing for the benefit of the tax deduction by the rule of collateral estoppel. The majority found that the issue was first challenged during the ESP proceedings and that the commission rejected the argument.  No party appealed that ruling to the court.

Majority Votes
Joining the majority opinion were Chief Justice Maureen O’Connor and Justices Judith Ann Lanzinger and Judith L. French.

Dissenting Opinion
Justice Paul E. Pfeifer stated the modification does not impact the ESP. Instead, after considering all the factors, the PUCO found the rate of return for the recovery was excessive. He wrote that at the time the commission initially assessed the rate, the economic environment was “riddled with uncertainty,” and the rate was determined to be reasonable. But after the seeing the start of an economic recovery, the PUCO changed the rate to be more in line with what it historically has granted AEP and that 5.34 percent was still “an excellent rate.”

Justice Pfeifer recalled the court’s September 2014 decision granting AEP the right to retain $368 million in charges that the PUCO ruled unjustified (In re Application of Columbus S. Power Co), and deemed this charge “unwarranted” as well.

“These munificent windfalls do not materialize from thin air; they are commandeered from hardworking Ohioans,” he wrote.

Justices Terrence O’Donnell and William M. O’Neill joined the dissent.

2012-2008. In re Application of Ohio Power Co., Slip Opinion No. 2015-Ohio-2056.

View oral argument video of this case.

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