Cost of Service Studies
Cost-of-service studies determine the total costs incurred by a utility in providing service to its customers and the allocation of those costs to customer classes. Revenue collected from each customer class then may be compared with that class’ cost responsibility to determine the extent to which each class is reimbursing the utility for the costs it incurred in providing service.
Many of the costs incurred by a utility are “joint” costs, incurred on behalf of all customers rather than for a specific customer class. As a result, the allocation of a utility’s cost requires engineering, economic and accounting expertise, as well as a significant amount of informed judgment. Several appropriate cost-of-service methodologies have been developed for this process.
The particular method selected depends upon such factors as the diversity of the system load, the types and sizes of customers and customer classes and the type, time and rate of usage. A proper cost-of-service method will allocate each category of costs to the responsible customer class. Appropriately designed electric rates then will recover these costs (including a fair return on investment) from each class. A proper cost-of-service based rate design will produce approximately equal rates of re urn on investment from each of the utility’s customer classes. That is, the cost burden will be equitably shared among all of the utility’s customers.
There are three general categories of cost-of-service study methodologies: demand methods, consumption methods and load curve methods. These methods differ mainly in their allocation of fixed costs among the various customer classes.
Fixed costs generally are demand-related. A utility builds generating units and transmission lines based upon the maximum requirement expected to be imposed on its system at any point in time. Thus, the fixed costs of this equipment are incurred to meet the peak load (s) of the system. A proper cost-of service methodology allocates these costs to each customer class in proportion to that class’ contribution to the system peak(s) (or maximum demands).
Other costs are “customer-related” costs — mainly meter reading and billing costs. These are related to the number of customers on the system. Still other costs are “energy-related” mainly fuel costs — which are related to electricity (kWh) consumption.
Some equipment is used only to serve particular customer classes. For example, the distribution network provides service to residential and small commercial customers at low voltages. The costs of this equipment should be borne only by those who use it.
The revenue burden is being equitably shared when each customer class produces roughly the same rate of return to the utility. On the other hand, there is a strong indication that the customers of a class are being overcharged (or undercharged) if a cost-of-service study shows that a particular customer class is producing a rate of return significantly above (or below) the utility’s average system rate of return.