LAUF as a regulatory problem

Public utility regulation has an obligation to induce high-quality utility performance, whether in customer service, physical operation of the utility system, service reliability, cost controls, or the adoption of new technologies. The economics literature emphasizes that public utility monopolies left unregulated, or regulated ineffectively, would perform suboptimally. They would set prices too high, price discriminate among customers, provide an inferior quality of service, deploy a

What is LAUF gas?

A generic definition of LAUF gas is metered gas receipts minus metered gas deliveries to end-use customers; that is, the volumetric difference between the gas injected into a distribution system and the gas measured at customers’ meters. The routine operation of a gas utility will inevitably result in LAUF gas if only because of measurement errors, company usage, and leaking pipes. Lost gas also translates to dollars.¹⁰

Limits to LAUF as a performance metric

The central challenge with LAUF gas is to establish a reasonable standard for evaluating individual utility performance. Because of unique conditions, the application of standards should account for relevant differences across utilities. LAUF gas can be judged in terms of trends for individual utilities, but these trends may embed historically subpar performance. Without clear standards, much of the understanding of LAUF gas is highly speculative.

Several factors have contributed to the

Overview of current regulatory practices in the U.S.

NRRI sent out a qualitative survey to U.S. state public utility commissions in mid-January 2013 inquiring into their policies and practices involving LAUF gas (see Appendix). The 14 questions covered: (1) the importance that regulators place on LAUF gas, (2) perceptions about the effectiveness of utilities in managing LAUF gas, and (3) criteria applied by regulators in evaluating LAUF-gas levels; and (4) the incentive provided to utilities to manage their LAUF gas.

NRRI received responses from

The incentive problem for regulated utilities

A key concern for regulated utilities is whether they have a weak incentive for managing LAUF gas. This problem is especially acute when a utility is able to pass through LAUF-gas costs to their customers with minimal regulatory scrutiny. Several respondents to NRRI survey stated that utilities have little or even no incentive to mitigate LAUF gas. Whether or not these observations are valid or even represent a commission’s position, the responses indicate the perception of an incentive problem.

Regulatory processes and tools to manage LAUF gas

The following discussion illustrates a general approach that regulators can apply to review a utility’s performance in a specific functional area such as LAUF gas. Although commissions observe a utility’s actual performance in specific areas, such as the level of LAUF gas, they need additional information to assess how utility management affected those outcomes. Because they lack the required information to identify a hypothetical optimal performance, commissions must rely on alternative tools,

Illustration of a LAUF gas incentive mechanism

The following illustrates an incentive mechanism for LAUF gas. Assume that a commission has approved an incentive mechanism for LAUF gas, defined as a percentage of gas received for delivery to customers. The mechanism is as follows:laufcf=laufca+s·(laufcb−laufca)orlaufa·(1−s)+laufb·swhere laufc_f is the LAUF-gas costs flowed through to customers, laufc_a equals actual LAUF-gas costs incurred by the utility, “s” is the sharing parameter, and laufc_b equals the “benchmark” LAUF-gas cost. A

Benchmarking challenges for regulators

Establishing a LAUF-gas cost benchmark is pivotal for assessing prudence as well as dividing up costs and benefits between the utility and customers. Setting the optimal benchmark is a complex challenge. A suboptimal benchmark can derive from incomplete information but also from gamesmanship by utilities as well as customer advocates. A good benchmark should not be susceptible to inflation or manipulation. A utility might be able to inflate its measurement of past LAUF-gas levels to increase

Conclusions

Regulatory rules, policies, and practices directly and indirectly affect utility performance. Utility performance, in turn, can influence regulatory actions. Concerns about LAUF gas might induce commissions to require additional reporting, set performance standards, or provide stronger incentives for mitigation. Although challenging, LAUF gas can be subjected to measurement and benchmarking as well as prudence review. Regulators should use LAUF gas metrics with appropriate caution to the extent