Workshop I

Marginal Generation Costs

II-1
 Workshop I

Simplified Model of Generation Planning

Annual Total Cost Peaker: X+hx

(Dollars per kW)
Intermediate: Y+hy
Baseload: Z+hz
Z

0 h1 h2 8760
Hours of Operation

Load and Capacity

(kW)

P
Peaking
Capacity
I
Intermediate
Capacity
B
Baseload
Capacity

0 h1 h2 8760

Hours of Year

II-2
 Workshop I

Effect of Load Growth During Peak Period

Annual Total Cost

Peaker: X+hx
(Dollars per kW)
Intermediate: Y+hy
Baseload: Z+hz
Z

X + h1 x
Y

0 h1 h2 8760
Hours of Operation

Load and Capacity

(kW) Change in Total Cost = X1+ h x
Added
P’
Peaking
P
Capacity

0 h1 h2 8760
Hours of Year

II-3
 Workshop I

Effect of Load Growth During Mid-Peak Period

Annual Total Cost

Peaker: X+hx
(Dollars per kW)
Intermediate: Y+hy
Y+ h 2 y Baseload: Z+hz
Z

X+ h 1 x

0 h1 h 8760
2
Hours of Operation

Load and Capacity Change in Total Cost = Y+ h 2 y - (X+h 1 x)

(kW)
= (h 2 -h 1 ) y
P

Added Intermediate I’
and Reduced
Peaking Capacity I

0 h1 h2 8760
Hours of Year

II-4
 Workshop I

Effect of Load Growth During Off-Peak Period

Annual Total Cost

Peaker: X+hx
(Dollars per kW)
Intermediate: Y+hy
Z+(8760)z
Y+ h 2 y Baseload: Z+hz
Z

0 h h2 8760
1
Hours of Operation

Load and Capacity Change in Total Cost = Z+ 8760z - (Y+ h 2 y)

(kW)
= (8760 - h 2 ) z
P

I
Added Baseload
and Reduced B’
Intermediate B
Capacity

0 h1 h2 8760
Hours of Year

II-5
 Workshop I

Conclusions from Resource Planning Methods

1. Not all fixed costs are demand-related;

some are energy costs.

2. Recovering capacity costs only in peak

hours will allow full cost recovery,
provided the system does not have excess
capacity.

3. Adding new capacity will be cost-effective

whenever the value of new capacity to
consumers is at least as high as the cost of
new capacity.

II-6
 Workshop I

Appropriate Way to Estimate SRMC

of Generation Depends on Market Structure

Situation Approach Source of MC Estimate

Competitive –
Need a forecast of
Energy-only or Electricity market
market prices
Energy + Capacity prices – Forces of
markets supply & demand set
prices

Non-competitive —
Vertically- Marginal running
integrated utility Use a production cost
cost (system lambda)
simulation model to
plus shortage cost —
estimate running costs
Customers reveal
value of unserved Estimate from
energy or utility consumer surveys or
assumes value in back into value based
setting reserve on reserve margin and
margin. cost of reserves.

II-7
 Workshop I

Marginal Generation Capacity Costs

▪ Finding the cost of unserved energy

(shortage cost)

▪ Capacity component of a firm contract

▪ Capacity cost in power pool or competitive

market

II-8
 Workshop I

Finding the Short-Run Marginal

Capacity Costs of Generation
From the Utility Planning Process:

backing into the cost of unserved energy

II-9
 Workshop I

Rule for Efficient Planning

Add Capacity as Long as

Marginal Cost < Marginal Benefit

Marginal Benefit of Extra kW of Reserves =

(1-EFOR) x LOLH x Cost/kWh of Unserved Energy

For Example: 0.9 x 3 hours x $1.00/kWh = $2.70/kW

where EFOR = Effective forced outage rate

LOLH = Loss-of-load hours

II-10
 Workshop I

If System has Optimal Reserves

r = (1-EFOR) x LOLH* x c

$/kW = fraction x hours x $/kWh

Rearranging Can Find Implicit Value of c:

r 1
c= x
1-EFOR LOLH*

For example,

$40/kW 1
c= x = $19/kWh
0.9 2.4 hours

where r = annual cost per kW of reserves, and

c = cost of an unserved kWh.

* signifies optimal level

II-11
 Workshop I

Efficient Short-Run Price:

Change in Costs that Results from a Constant

Small Change in Load Across the Period

pi = mci = c x LOLHi

Substituting for c:

r LOLH LOLHi
mci = x x
1-EFOR LOLH* LOLH

Wrong:
LOLHi
mci = r x (1 + RM) x
LOLH
where RM = system reserve margin.

II-12
 Workshop I

Alternative Approach: Ask consumers

how they value reliability

Conclusions of Study on the Value of Unserved

Energy to Residential Customers of Utility X

ƒ Average value of marginal unserved energy

during peak period is $24-$28 per kWh

ƒ Average value of an outage event is $38 per

customer

ƒ Value of unserved energy varies by

▫ customer
▫ season
▫ time-of-day
▫ frequency of outages
▫ duration of outages
▫ advance notice of outages

II-13
 Workshop I

Example Of Ordered Logit

Survey Cards

HYPOTHETICAL ELECTRICITY SERVICE x200 HYPOTHETICAL ELECTRICITY SERVICE

w200
OUTAGE OUTAGE ADVANCE OUTAGE OUTAGE ADVANCE
FREQUENCY DURATION NOTICE FREQUENCY DURATION NOTICE

Once a 2 hours 24 hours Once a 5 seconds None

week month

DAY & ANNUAL DAY & ANNUAL

TIME OF SEASON BILL TIME OF SEASON BILL
OUTAGE OUTAGE
Weekend Weekday
Summer 50% less Winter 20% less
Afternoon Night

HYPOTHETICAL ELECTRICITY SERVICE b200 HYPOTHETICAL ELECTRICITY SERVICE a200

OUTAGE OUTAGE ADVANCE OUTAGE OUTAGE ADVANCE

FREQUENCY DURATION FREQUENCY DURATION NOTICE
NOTICE

Twice a 30 12 hours Once in 5 6 hours 6 hours

month minutes years

DAY & ANNUAL DAY & ANNUAL

TIME OF SEASON BILL TIME OF SEASON BILL
OUTAGE OUTAGE
Weekday Weekend
Summer 50% less Winter 10% more
Evening Evening

II-14
 Workshop I

If approach to generation capacity cost

estimate gives an annual value - need to
convert it to a series of hourly costs:

Approach Time-differentiation
Non-competitive market Relative loss–of–load
– vertically-integrated probability (in service
utility territory)
Pool with reserve margin Depends on Resource
requirements Adequacy rule:
• % of annual NCP
• % of annual CP
• some other formula
Usually requires some
estimation of relative
probability of peak
Competitive, single- Relative loss-of-load
market situation probability (LOLP)

II-15
 Workshop I

Generation cost of HPC

(vertically-integrated prior to retail access)

▪ Capacity
▫ Peaker is least-cost capacity option
▫ Adjustment for excess capacity in near-term
▫ Assignment to hours based on relative loss-
of-load probability
▫ Adjustment for demand losses

▪ Energy
▫ Simulation of marginal running cost
▫ Adjustments for A&G, fuel stock, cash
working capital
▫ Application of marginal energy loss factors

II-16
 Workshop I

Hypothetical Power Company

Derivation of Annual Demand-Related Costs
Combustion Turbine
(Dollars per Kilowatt)

(1) Marginal Investment per kW $516.06

(2) With General Plant Loading (1) x 1.0573 545.63

(3) Annual Economic Carrying Charge Related to 10.66%

Capital Investment
(4) A&G Loading (Plant Related) 0.10%
(5) Total Annual Carrying Charge (3) +(4) 10.76%

(6) Annualized Costs (2) x (5) $58.70

(7) Demand-Related O&M Expenses 0.87
(8) With Non-plant Related A&G Loading (7) x 1.1928 1.04
(9) Demand-Related Cost (6) + (8) 59.74

Working Capital
(10) Material and Supplies (2) x 1.34% $7.31
(11) Prepayments (2) x 0.07% 0.38
(12) Cash Working Capital Allowance (8) x 1.00% 0.01
(13) Total Working Capital (10) + (11) + (12) 7.70
(14) Revenue Requirement for Working
Capital (13) x 13.53% $1.04

(15) Total Demand-Related Costs (9) + (14) $60.78

Combustion Turbine Costs per Kilowatt

(16) Total Demand-Related Costs Adjusted for
Forced Outage Rate (15) / (1-0.035) $62.98

(17) Total Annual Marginal Cost per kW $62.98

Source: Based on data supplied by HPC.

II-17
 Workshop I

Hypothetical Power Company

Derivation of Marginal Generation Capacity Cost
by Costing Period
Annual Expected Annual Generation
Cost of LOLH as Generation Period Capacity
Reserve a Percent Capacity Share of Cost
Costing Period Capacity of Target Cost Annual LOLH by Period
-(1995$/kW)- --(Percent)-- -(1995$/kW)- --(Percent)-- -(1995$/kW)-
(1) x (2) (3) x (4)
(1) (2) (3) (4) (5)

1995 Summer Peak 62.98 42.31% 26.65 7.28% 1.94

Summer Off-Peak 62.98 42.31% 26.65 8.79% 2.34
Shoulder Peak 62.98 42.31% 26.65 16.54% 4.41
Shoulder Off-Peak 62.98 42.31% 26.65 43.82% 11.68
Winter Peak 62.98 42.31% 26.65 12.14% 3.24
Winter Off-Peak 62.98 42.31% 26.65 11.45% 3.05

1996 Summer Peak 62.98 100.00% 62.98 13.67% 8.61

Summer Off-Peak 62.98 100.00% 62.98 7.66% 4.82
Shoulder Peak 62.98 100.00% 62.98 15.34% 9.66
Shoulder Off-Peak 62.98 100.00% 62.98 40.56% 25.55
Winter Peak 62.98 100.00% 62.98 14.70% 9.26
Winter Off-Peak 62.98 100.00% 62.98 8.05% 5.07

1997 Summer Peak 62.98 100.00% 62.98 24.73% 15.58

Summer Off-Peak 62.98 100.00% 62.98 15.95% 10.05
Shoulder Peak 62.98 100.00% 62.98 11.01% 6.93
Shoulder Off-Peak 62.98 100.00% 62.98 28.96% 18.24
Winter Peak 62.98 100.00% 62.98 12.23% 7.70
Winter Off-Peak 62.98 100.00% 62.98 7.09% 4.47

1998 Summer Peak 62.98 100.00% 62.98 21.53% 13.56

Summer Off-Peak 62.98 100.00% 62.98 12.87% 8.11
Shoulder Peak 62.98 100.00% 62.98 10.84% 6.83
Shoulder Off-Peak 62.98 100.00% 62.98 35.49% 22.35
Winter Peak 62.98 100.00% 62.98 11.89% 7.49
Winter Off-Peak 62.98 100.00% 62.98 7.39% 4.65

1999 Summer Peak 62.98 100.00% 62.98 24.09% 15.17

Summer Off-Peak 62.98 100.00% 62.98 10.96% 6.90
Shoulder Peak 62.98 100.00% 62.98 9.61% 6.05
Shoulder Off-Peak 62.98 100.00% 62.98 27.40% 17.26
Winter Peak 62.98 100.00% 62.98 18.20% 11.46
Winter Off-Peak 62.98 100.00% 62.98 9.76% 6.15

Source: Col. (1): Schedule 2, p.1

Col. (2): NERA worksheet HPC "derivation of Expected to Target
LOLH Ratio, 1995-2004," Col. (13). (Range: Name:
MGC.WK4 LOLHRAT)
Col. (4): Derived from HPC's LOLH and LOLS data generated by
Retyped 10/97 PROMOD

II-18
 Workshop I

Hypothetical Power Company

Seasonal Marginal Generation Capacity Costs
By Costing Period

Summer Shoulder Winter

Year Peak Off-Peak Peak Off-Peak Peak Off-Peak Annual
-------- --- ------------------- ------(1995 Dollars Per Kilowatt)--------------
--- ------------------- -------------
(1) (2) (3) (4) (5) (6) (7)

1995 1.94 2.34 4.41 11.68 3.24 3.05 26.65

1996 8.61 4.82 9.66 25.54 9.26 5.07 62.96

1997 15.58 10.04 6.93 18.24 7.70 4.47 62.96

1998 13.56 8.10 6.82 22.35 7.49 4.65 62.98

1999 15.17 6.90 6.05 17.25 11.46 6.15 63.00

Note: Costing periods are defined as follows:

Summer: June - September.
Peak: Monday - Friday, hours ending 12 noon to 5 pm.
Off-peak: All remaining hours.

Shoulder: March - May, October - November.

Peak: Saturday, hours ending 9 am to 9 pm.
Off-peak: All remaining hours.

Winter: December - February.

Peak: Monday - Saturday, hours ending 9 am to 11 pm, and
Sunday, hours ending 6pm-11pm.
Off-peak: All remaining hours.

II-19
 Workshop I

What is the capacity element

of a firm contract with a generator?

▪ Remember — fixed cost ≠ capacity cost

▪ Capacity cost depends on

▫ combination of fixed and variable charges
▫ how contract is dispatched
▫ what resource(s) it displaces

Example assumes there is a separate

market for capacity, so the spot price
reflects only energy costs.

II-20
 Workshop I

Contract demand charge is not necessarily

marginal capacity cost.

Total Costs For One-Year Firm Contract

100

a ct
e i n contr
rgy charg
= ene
Slope
75
Dollars/kW

50

25 demand charge in
contract

0
0 1000 2000 3000 4000 5000 6000 7000 8000 9000

Hours
See Volume 1, Tab 8
Using Capacity Contracts and Energy
Saving to Estimate Marginal
Generation Capacity Costs

II-21
 Workshop I

Spot price of energy indicates energy value of

contract.

Cumulative costs avoided by using contract

(assumes there is a separate capacity market)

Slope = system marginal

running cost
Dollars/kW

(energy spot price)

ice
p ot Pr
iv eS
ulat
Cu m

0
0 1000 2000 3000 4000 5000 6000 7000 8000 9000
See Volume 1, Tab 8 Hours Sorted in Descending Order of Energy Spot Price
Using Capacity Contracts and Energy
Saving to Estimate Marginal
Generation Capacity Costs

II-22
 Workshop I

Identifying Hours In Which The Contract Is

Used

ct
ntra
st o f Co
100 o
u lat ive C
Cum

Slope of
short-term
contract line
equals contract
75 energy charge
Capacity value of contract
Dollars/kW

tra ct
Con
50 e) of
st (Slop Contract will be used in all
Co
able hours when its variable cost
Vari rice
S pot P is less than spot price.
ive
u mulat
C
25

hours contract
used

0
0 1000 2000 3000 4000 5000 6000 7000 8000 9000
Hours Sorted in Descending Order of Energy Spot Price

Hours Contract kW Runs

II-23
 Workshop I

Marginal Generation Capacity Cost in a

Regional Transmission Organization (RTO)
or Independent System Operator (ISO)

ƒ FERC requires that each RTO/ISO has a

regional capacity adequacy mechanism

ƒ Capacity requirement depends upon pool

reserve requirement rules, usually a
function of utility peak load coincident
with pool-wide monthly or annual peaks

ƒ Forward market prices for capacity can

serve as an estimate of the marginal
generation capacity cost

ƒ Time-differentiation of marginal
financial costs depends upon probability
of peak.

II-24
 Workshop I

Example of Regional Approach to Resource

Adequacy: California Capacity Obligation

CA-ISO sets a system-wide reserve requirement (forecast of next year’s

system peak demand plus a reserve margin)

Reserve gets assigned to each utility as a “generation capacity obligation” on

the basis of its expected contribution to CA-ISO’s forecast peak demand

LSE 1 LSE 2 LSE 3

Plan 1 Plan 2 Plan 3

Resources: Resources: Resources:

Own Generation/ Own Generation/ Own Generation/
Bilateral Contracts Bilateral Contracts Bilateral Contracts

Each LSE submits a plan to meet its forecast generation capacity obligation on a
year-ahead basis. Forecast obligation is adjusted monthly to account for customer
migration. Deficiency penalties apply.

II-25
 Workshop I

Example of Hourly Marginal Generation

Capacity Cost in generic RTO

Capacity rule:
In every month, a utility must maintain sufficient accredited capacity
to cover its peak load in that month plus 16%.

If accredited capacity can be purchased on a monthly basis:

MCCh,m = 1.16 MCPm • RPPh,m

Where:

MCCh,m = marginal capacity cost in hour h and month m;

MCPm = market capacity price (as per bilateral contracts or centralized

capacity auction) per kW in month m;

RPPh,m = relative probability that hour h is the utility’s monthly peak in

month m.

II-26
 Workshop I

What will be the expected market price of

capacity will be?

ƒ If there is capacity beyond the minimum required by

the RTO, market capacity price will be less than the
cost of a peaker when summed over all hours (and
there will be no entry).

ƒ If there is insufficient capacity, it will be higher than

the cost of a peaker when summed over all hours (and
entry will occur).

ƒ It will generally not go below the fixed costs of

keeping old units on line; e.g.
▫ opportunity cost of land
▫ resale value of equipment less removal cost
▫ insurance
▫ taxes
▫ maintenance expense

II-27
 Workshop I

Estimating Probability Of Peak For A Given

Hour, Day-Type And Month

frequency
Normalized
Peak Load **

0 normalized* load for a given

hour, day-type and month

Estimated Probability of Peak

* Load/Average hourly load for the year.
** Average for all years of data used.

II-28
 Workshop I

Marginal Energy Costs

II-29
 Workshop I

Marginal Energy Cost Estimation Requires

Modeling of Utility’s System or of Market

Non-Competitive Market Competitive Market

Vertically-Integrated Utility
• System loads • Regional loads
• System resources • Regional resources (entry
(and running costs) and exit)

• Off-system sales and • Bidding behavior

purchases (may need this • Fuel costs
info.)
• Transmission constraints
• Customer response to
high prices

Sources of Market Price Forecasts:

1. utility (often confidential)
2. state agencies
3. market (forward contracts)

II-30
 Workshop I

What is Locational Marginal Pricing (LMP)?

Node Node
A B
If there is plenty
of transmission
linking load and
generation
nodes, the
market-clearing
price at every
location will be
the same
Node (except for
E Node
losses).
C

Node
D

Transmission constraints mean that some nodes will not have access to cheap
energy, and will have to be served by local generators with higher running
costs. In this case the market-clearing price will differ by node and there will
be “locational marginal prices” (LMPs).

II-31
 Workshop I

Marginal Energy Cost in RTOs or ISOs

Integrated Bid-Based Markets for Energy, Transmission and

Ancillary Services (e.g., PJM, NY, NE, Texas)

Bilateral
WHOLESALE Contracts:
MARKET Î Negotiated
prices
Î

Bid-Based Markets:
Hourly Locational Marginal Prices (LMP) : Highest generator offer
price accepted in the market (may be limited by price caps)

Day-Ahead (DA) Market ‘Real-Time’ (RT) Market Energy Imbalances settled

(DA-LMP) (Ex-Ante RT LMP) at Ex-Post or Ex-Ante RT
LMP)

Energy Congestion Ancillary Energy Congestion Ancillary

Management Services Management Services

Dispatch

II-32
 Workshop I

Short-Run Marginal Cost of Energy to a

Utility is the RT-LMP
Example:

▪ In the DA market, LSE notifies the ISO it will buy 150 MW at

3 pm the next day, at the DA-LMP

▪ At 3 pm, LSE’s total actual retail load (loss-adjusted) is 151

MW

▪ The ISO subtracts the hourly amount notified by the LSE day-
ahead from the hourly metered amount

▪ The difference (imbalance) of 1 MW is charged to the LSE at

the RT-LMP that cleared the market at 3pm (typically, LMPs
averaged across nodes within the LSE’s zone)

II-33
 Workshop I

Marginal Energy Cost Estimation in

Hydroelectric Generation Systems

ƒ The marginal cost of producing kWh using

hydro resources is essentially zero (there may
be a small amount of variable O&M.)

ƒ The value of hydro generation is the running

costs of the thermal unit it displaces.

ƒ When there is possibility of exports to other

regions, the export market price determines the
value of hydro (opportunity cost).

ƒ Value varies depending on water availability

(good, average, or poor water years) - marginal
energy costs should be estimated for multiple
“water years.”

ƒ With pumped storage, water value is the cost

of displaced thermal energy on peak (pumping
takes place in off-peak hours for generating in
peak).

II-34
 Workshop I

Dispatching Pumped Storage

(Typical Utility)

Supply curve
Price
(Marginal Cost
of Pumping ) (X Efficiency
factor )
Demand curve

S
( Value of energy
dispatched on-peak )
q1

Quantity

▪ To efficiently size a pumped storage unit, the planner will

consider the efficiency loss from pumping

▪ 1.0 kWh of energy requires about 1.3 kWh of pumping, so:

¾ Pump if (1.3 x Off-peak market energy price ≤
expected Peak market energy price)

II-35
 Workshop I

Hypothetical Power Company

Sample Calculation of Hourly Marginal Energy Costs

Summer Shoulder Winter

A An A An A An
Peak Off-Peak Peak Off-Peak Peak Off-Peak
Hour Hour Hour Hour Hour Hour

(1) (2) (3) (4) (5) (6)

(Mills per kWh)

(1) Marginal Running Cost

With Variable O&M 18.51 15.23 16.29 16.67 17.64 15.39

(2) Marginal Running Cost

Without Variable O&M 16.13 12.91 13.68 13.66 13.86 12.57

(3) Variable O&M Included in Running

Cost (1)-(2) 2.38 2.32 2.61 3.01 3.78 2.82

(4) A&G Non-plant-related loading on variable

O&M 0.46 0.45 0.50 0.58 0.73 0.54
(3) x 19.28%

(5) Cost of Fuel Stock per kWh 1.23 1.23 1.23 1.23 1.23 1.23

(6) Cash Working Capital

{(2) x 3.62%}^1
{[(3)+(4)] x 1.00%}^2 0.61 0.50 0.53 0.53 0.55 0.49

(7) Revenue Requirements For Working

Capital [(5)+(6)] x 13.53% 0.25 0.23 0.24 0.24 0.24 0.23

(8) Marginal Energy Cost (1)+(4)+(7) 19.22 15.91 17.03 17.49 18.61 16.17

Marginal Energy Loss Factors for Supple

at:

(9) Transmission 1.0157 1.0107 1.0100 1.0104 1.0130 1.0095

(10) Subtransmission 1.0475 1.0364 1.0329 1.0344 1.0393 1.0324

(11) Primary 1.0589 1.0452 1.0405 1.0424 1.0484 1.0405

(12) Secondary 1.0787 1.0603 1.0546 1.0573 1.0651 1.0541

Marginal Energy costs Including Losses:

(13) Transmission 19.52 16.08 17.20 17.67 18.85 16.32

(14) Subtransmission 20.13 16.49 17.59 18.09 19.34 16.69

(15) Primary 20.35 16.63 17.72 18.23 19.51 16.82

(16) Secondary 20.73 16.87 17.96 18.49 19.82 17.04

^1 Fuel cash working capital.

^2 Nonfuel cash working capital.

Source: Based on data suppled by HPC.

II-36
 Workshop I
RANGE NAME: VAROM

Hypothetical Power Company

Variable O&M From Marginal Running Cost
by Costing Period

Summer Shoulder Winter

Year Peak Off-Peak Peak Off-Peak Peak Off-Peak
-------- -- ----- ------------ -- ---------- -----------(Mills/kWh)------------ -------- -- ----- --------------
(1) (2) (3) (4) (5) (6)

1995 2.38 2.32 2.61 3.01 3.78 2.82

1996 2.93 2.32 2.66 3.21 3.44 2.91

1997 2.70 2.43 3.18 3.26 3.20 3.08

1998 3.11 2.73 2.79 3.19 3.69 3.18

1999 3.27 2.68 3.24 3.35 3.69 3.23

Note: Costing periods are defined as follows:

Summer: June - September.
Peak: Monday - Friday, hours ending 12 noon to 5 pm.
Off-peak: All remaining hours.

Shoulder: March - May, October - November.

Peak: Saturday, hours ending 9 am to 9 pm.
Off-peak: All remaining hours.

Winter: December - February.

Peak: Monday - Saturday, hours ending 9 am to 11 pm, and
Sunday, hours ending 6pm-11pm.
Off-peak: All remaining hours.

Source: The output of NERA's SAS program on HPC variable O&M by

Costing period. (NOM9599.PGM/DIF)

II-37
 Workshop I

Range Name: FUELSTOCK

Hypothetical Power Company

Fuel Stock Cost per kWh

Percent Weighted
of Time Fuel Stock
Fuel Stock Fuel Stock Fuel is Cost
Plant Cost Generation Cost per kWh Marginal Per kWh
--------($)------- ----(GWh)----- -------(Mills)------- ------(%)------ ------(Mills)------
(1) /((2) x 1000) (1995-1999) (3)x(4)
(1) (2) (3) (4) (5)

(1) Coal 20,047,279 13,792 1.454 84.4% 1.227

(2) Gas 0 NA 0.000 12.9% 0.000

(3) Emergency Purchases 0 NA 0.000 2.7% 0.000

(4) Fuel Stock Inventory Weighted by Percent of Time Fuel Type is on the Margin 1.227

Note: NA indicates not applicable as gas is not stored and stocks associated
with purchases are held by selling entity.

Source: Cols. (1)-(2): HPC document: "Historical Fuel Stock and Net
Generation Data," 1994 totals.
Col. (4): NERA worksheet HPC "Generation: Percent
Time on Margin by Type." (Range Name: FUELGEN)

II-38
 Workshop I
Range Name: FUELGEN

Hypothetical Power Company

Generation: Percent Time on Margin by Type

Emergency
Year Coal Gas Purchases

1995 86.1% 10.9% 3.0%

1996 82.3% 14.0% 3.7%
1997 86.2% 11.0% 2.7%
1998 82.5% 15.4% 2.1%
1999 84.9% 13.0% 2.1%
2000 86.7% 11.4% 1.9%
2001 84.0% 14.3% 1.6%
2002 82.1% 16.2% 1.7%
2003 84.3% 14.0% 1.6%
2004 84.6% 14.2% 1.2%

1995-1999 84.4% 12.9% 2.7%

1995-2004 84.4% 13.4% 2.2%

Source: HPC documents entitled "Time on the Margin by

Source for the Year ...."

II-39
 Workshop I

Excerpt from: An Analysis of the Time-Differentiated Marginal Costs of Rochester

Gas and Electric Corporation, NERA, December 1982

1. Marginal Energy Costs

NERA generally calculates marginal energy costs by using a probabilistic

simulation of hourly marginal running costs for five to ten years into the future. The first
task is to determine the nature of the system to be modeled. A company which serves its
customers' loads primarily with its own resources, making only incidental, unanticipated
economy transactions with other utilities, can be treated virtually as an "island" for the
purpose of calculating marginal energy costs. To the extent that such a utility has
commitments to buy or sell firm energy, these commitments can be modeled as a
resource or firm load, respectively. The marginal energy costs developed by this
modeled system are then a reasonable approximation of the costs the utility will incur to
serve an increment of load.

When a company makes a significant, predictable economy sales to other utilities,

there may be an additional factor of marginal cost to consider. If load growth forces the
utility to curtail off-system sales, any foregone profits on those sales constitute a
financial cost to the utility. If the profits would have been used to reduce retail rates, the
utility's ratepayers will have higher bills as a result of the load growth. If the profits
would have been distributed to stockholders, their dividends will be lower. Depending
upon the utility's planning criteria and the point of view of the analyst, these marginal
financial costs can be considered a component of marginal energy costs.

NERA is conducting a separate study of this issue for RG&E, but has not
completed the analysis. In the interim, we have used as the basis for marginal energy
costs marginal running costs supplied by RG&E and based on data in Section 290.303 of
RG&E's 1982 PURPA 133 filing and data filed in Case 28313.

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 Workshop I

On Schedule 1, average marginal running costs and variable operation and maintenance
expenses for 1981 through 1986 in 1982 dollars were adjusted for administrative and general
(A&G) expenses and working capital allowances. Added to these costs were the marginal cost
of the water pollution tax and the foregone margin on sales to other utilities, weighted by the
likelihood that marginal growth will cause off-system sales to be reduced. These marginal
energy costs were then adjusted for marginal energy losses. The last adjustment translates the
cost at the generator into the cost that will be experienced at the customer's meter.

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 Workshop I

Schedule 290.303 (G) and (H)

Rochester Gas and Electric Corporation
Marginal Running Costs by Billing Periods

Summer Winter Base

Period Period Period
Year Schedule 290.303 Schedule 290.303 Schedule 290.303

On-Peak Off-Peak On-Peak Off-Peak On-Peak Off-Peak

1981 23.0 17.1 18.9 15.9 21.4 18.8

1982 20.3 13.6 24.6 16.1 24.5 22.6
1983 19.8 13.7 23.8 16.8 26.1 22.7
1984 19.2 14.4 22.3 16.6 25.5 23.1
1985 19.0 13.4 22.4 16.6 24.5 19.8
1986 20.7 14.1 22.3 16.3 26.2 20.6

Summer Winter Base

Period Period Period
Schedule 290.303 Schedule 290.303 Schedule 290.303

On-Peak Off-Peak On-Peak Off-Peak On-Peak Off-Peak

Average
1981 - 86 20.3 14.4 22.4 16.4 24.7 21.3

Escalated
1982 Dollars 22.7 16.1 25.1 18.4 27.7 23.9
1 1
Used in Study 22.7 16.1 25.1 18.4 32.3 28.5

1 Adjusted based on recent rate case.

12/14/82 Revision (Based Period Values) PGR

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 Workshop I

Rochester Gas & Electric Corporation

Electric Department
Development of Margin on Sales to Other Utilities
(Mills per kWh)

Source: Case 28313 A.56

I. Historic Margin Years 1981 and 1982

Summer: 16.56 Winter: 27.18 Base: 28.60
21.10 26.02 17.28
15.15 27.61 3.89
15.52 28.94 16.71
15.03 19.11
18.03
18.10
16.78
Average: 17.03 27.52 17.12

II. Average for Year

Months
Summer: 17.03 (4) 12.97
Winter 27.52 (3) 20.96
Base: 17.12 (5) 13.04
Year: 19.69 (12) set at 15.00 1

Source: Exh. 73 Case 28313, Table 2, 12 months Dec. 1984

Open Effective
Constraint Lines Margin Margin

Summer: 0.71 0.29 12.97 3.76

Winter: 0.59 0.41 20.96 8.59
Base: 0.62 0.38 13.04 4.96

1
See A.60 Case 28313

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 Workshop I

Rochester Gas & Electric Corporation

Marginal Energy Summer
Costs by Costing
Winter
Period Base
June-September December-February All Other Months
Peak Off-Peak Peak Off-Peak Peak Off-Peak
(1982 Mills per kWh)
(1) (2) (3) (4) (5) (6)
(1) Marginal Running Cost
Including Variable O&M 22.70 16.10 25.10 18.40 32.30 28.50

(2) A&G Loading for Variable O&M

4.221 x 0.352 1.48 1.48 1.48 1.48 1.48 1.48

(3) Cash Working Capital

[(1) + (2)] * 1/8 3 3.02 2.20 3.32 2.48 4.22 3.75

(4) Revenue Requirement for

Working Capital (3) x 21.795%4 0.66 0.48 0.72 0.54 0.92 0.82

(5) Marginal Energy Cost

(1) + (2) + (4) 24.84 18.06 27.30 20.42 34.70 30.79

(6) Margin on Sales to

Other Utilities 3.76 3.76 8.59 8.59 4.96 4.96

(7) Marginal Tax on Water

Pollution 5 0.04 0.04 0.04 0.04 0.04 0.04

(8) Marginal Energy Cost in

NYPP Environment
(5) + (6) + (7) 28.64 21.86 35.93 29.05 39.70 35.79
Marginal Energy Loss
Factors for Service at:
(9) Transmission Voltage 1.030 1.020 1.028 1.020 1.028 1.020
(10) Primary voltage 1.124 1.086 1.113 1.089 1.114 1.086
(11) Secondary Voltage 1.200 1.118 1.196 1.139 1.182 1.121
Marginal Energy costs
for Service at:
(12) Transmission Voltage
(8) x (9) 29.49 22.29 36.94 29.63 40.81 36.51
(13) Primary Voltage
(8) x (10) 32.19 23.74 39.99 31.63 44.22 38.87
(14) Secondary Voltage
(8) x (11) 34.36 24.43 42.97 33.09 46.92 40.12

Note: Costing periods are defined as follows:

Peak: 7:00 a.m. to 11:00 p.m., Monday-Friday
Off-Peak: All other hours.
1 Based on data supplied by RG&E
2 Schedule 10, line (21), col. (6).
3 Data supplied by RG&E.
4 Includes overall return of 13.703 percent and federal income tax component of 8.092 percent.

Overall return is estimated using the incremental capital structure and cost of capital supplied by RG&E.
The income tax component is estimated at 0.46/0.54 of the preferred and common equity components.
5 NERA estimate. (see II-202). II-44
Source: Lines (1), (6), and (9)-(11): Based on data supplied by RG&E
 Workshop I

If marginal energy cost is

market price – computation has fewer steps:

(1) Market price at point of interconnection

(2) Cash working capital requirement

(3) Revenue requirement for cash working capital

(4) Total marginal energy cost at interconnection point (1) + (3)

(5) Loss factors

(6) Marginal energy cost at meter (4) * (5)

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 Workshop I

Example of Marginal Energy Costs Derived

from Market Price Forecast

Peak Season Off-Peak Season

Average Average Average Average Average Average
Peak Shoulder Base Peak Shoulder Base
Hour Hour Hour Hour Hour Hour
----------------------------------- (2007 Cents per kWh) --------------------------------

(1) Market Price 7.32 5.57 3.84 5.19 4.20 2.73

(2) Cash Working Capital (1) x 12.556% 0.92 0.70 0.48 0.65 0.53 0.34

(3) Revenue Requirements (2) x 7.950% 0.07 0.06 0.04 0.05 0.04 0.03

(4) Marginal Energy Cost (1) + (3) 7.39 5.63 3.88 5.25 4.24 2.76

Marginal Energy Loss Factors For Supply at:

(5) Subtransmission 1.02 1.02 1.01 1.02 1.02 1.01

(6) Primary 1.11 1.09 1.06 1.07 1.07 1.05

(7) Secondary 1.15 1.12 1.08 1.10 1.09 1.07

Marginal Energy Costs Including Losses:

(8) Subtransmission 7.56 5.74 3.93 5.33 4.30 2.79

(9) Primary 8.17 6.11 4.11 5.63 4.52 2.89

(10) Secondary 8.47 6.29 4.19 5.78 4.62 2.94

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 Workshop I

Result is hourly marginal energy cost

▪ To set prices for broader TOD periods,

calculate simple average of hours within period.

▪ To estimate class marginal cost revenues-weight

hourly marginal costs by class hourly loads.

▪ System load-weighted average has little use.

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 Workshop I

Load-Weighted Hourly Marginal Costs

▪ Load weighting using system loads does not give useful

information for class revenue allocation or rate design.

▪ Load weighting using class loads shows class marginal

cost revenues (revenues that would be produced if
hourly prices were charged).

▪ Using a non-weighted average across pricing periods

provides a better second-best price signal than class
load-weighted average.

▪ Load-weighting gives more emphasis to high-cost /

high-load hours within the period. These may not be the
hours within the period with the highest elasticity of
demand.

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 Workshop I

Using futures contract prices to estimate hourly

marginal energy costs

▪ A futures contract is a standardized agreement

between two parties to hedge price risk.

a) It can sell a stipulated quantity at a set price on or

before a given date in the future;

b) It can be terminated by a final cash payment, rather

than by delivery; and

c) That is traded on exchanges and its performance is

guaranteed by the clearinghouse of the exchange.

▪ The futures market indicates the market value of

electricity for 18 months into the future.

ƒ The futures contract price is generally defined for an

on-peak hour period (e.g. 16 hours, 5 days a week).

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 Workshop I

Using the futures contract price to set time-

differentiated energy costs

▪ The futures contract price can be spread hourly

within the peak period based on the most likely
market price variation in the next year.

¾ analyzing historic hourly price patterns in the

energy market

¾ identifying atypical circumstances (e.g. atypical

weather conditions, effects of flaws in market
rules, etc.)

¾ assigning appropriate weights to past years’ data.

▪ The resulting hourly prices can be “re-grouped” to

set marginal energy costs for peak and shoulder
periods within the 16 hour window.

▪ Historic [Peak /Off-Peak price] ratios may be used

to estimate the off-peak marginal energy costs.

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 Workshop I

Exercise

Shaping Forward Contracts to

Develop Hourly Energy Price
Forecasts

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