What's at stake in the FirstEnergy and AEP Ohio power plant subsidy hearings

Inside the marathon regulatory sessions that could transform the region's fuel mix and market construct

Energy stakeholders in Ohio are in the middle of a marathon regulatory session that could shape the future of the state’s fuel mix and the region’s deregulated energy markets.

At present, the Public Utilities Commission of Ohio (PUCO) is evaluating two proposals for controversial power purchase agreements (PPAs) for aging baseload generation in the state.

FirstEnergy has asked the commissioners to approve a 15-year PPA for two plants — one coal and one nuclear — they say would become unprofitable and likely shuttered without the ratepayer support. That hearing began in early September and is ongoing.

American Electric Power (AEP) similarly requested the commission approve a PPA for existing baseload generation, but it wants income guarantees for the remaining life of four of its coal plants. Hearings on its proposal began this week.

Both proposals were made possible by a PUCO ruling in February on a separate AEP plant subsidy proposal. In that case, regulators rejected a proposal from the utility to guarantee income for two coal plants it owns stakes in, saying the deal was not in the interest of consumers. But it also ruled that the special PPA proposal is legal, paving the way for the utility proposals currently on the table.

The power plant subsidy issue in Ohio has quickly become one of the highest-profile and most controversial power sector stories of the year. On the first day of hearings for its case, FirstEnergy executives attempted to get a filmmaking crew from National Geographic thrown out from the hearing, and clean energy advocates around the country have slammed what they label as “bailout” bids for coal and nuclear plants in the press.

Behind all the bluster, though, lie some significant concerns about the resource mix in the Midwest, the functioning of PJM’s electricity markets and the future of utility sector regulation in the U.S.

FirstEnergy’s proposal

Technically speaking, FirstEnergy wants PUCO to approve a PPA between its regulated distribution utilities in Ohio and FirstEnergy Solutions, the unregulated subsidiary that owns its generation assets. The agreement would cover the W.H. Sammis coal plant in Stratton, which began operations in 1959, and the Davis-Besse nuclear plant in Oak Harbor, commissioned in 1978.

The fundamental structure of its proposal is similar to AEP’s, but because hearings on the FirstEnergy bid have been going on for more than a month, it will serve as our primary example for understanding the subsidy issue that’s playing out in Ohio.

“Under this agreement the FirstEnergy utilities would essentially buy the output of these power plants, and then they would sell the output of those power plants into the competitive markets,” Doug Colafella, a company spokesperson, told Midwest Energy News when FirstEnergy unveiled the plan last year. “Based on how those power plants perform in the market, customers will either see a charge or a credit on their bill.”

FirstEnergy says the plants are under threat of being shut down because they cannot compete with cheap renewables and natural gas generation in competitive energy markets. That, the company says, could create reliability problems for Ohio customers.

“We see the need for increased reliability particularly as we witness what happened in the polar vortex and even what happened before the vortex,” Bill Ridmann, FirstEnergy’s vice president of rates and regulatory affairs, told Utility Dive in an interview. “In the fall of 2013 there were some reliability issues as the market changed, so I think that’s the primary benefit [of our proposal].”

Beyond that, Ridmann said the company also expects the PPA proposal to save customers money. While natural gas may be pricing the utility’s baseload plants out of the market today, FirstEnergy’s internal estimates see the price of gas rising in the next few years, meaning that locking in a lower PPA rate today could save customers money.

“Over the 15 year term of the PPA our customers we project will save about $2 billion,” Ridmann said.

Pushback on reliability claims

FirstEnergy and AEP’s subsidy proposals have brought together an unlikely coalition of environmentalists and heavy industry, two camps usually on the opposite side of energy and natural resource issues in the Midwest.

The utility’s reliability warnings are a red herring, said Shannon Fisk, an attorney for Earthjustice who has been arguing against the FirstEnergy proposals on behalf of the Ohio Sierra Club. Guaranteeing income for two plants will do next to nothing for reliability, he said, because FirstEnergy isn’t the entity that ensures the lights stay on.

“Reliability is taken care of by PJM (the regional grid operator) in this region,” he said. “As the chair of the PUC said, the utilities need to stop scaring people about reliability … Everyone may have quibbles about what exactly PJM is doing on reliability but at the end of the day their job is to preserve reliability and they're doing it.”

But Ridmann says the reliability concerns are more than fearmongering. In particular, he pointed again to the Polar Vortex in early 2014, when gas supplies were interrupted to some Midwestern gas plants, causing wholesale prices to jump for a few days and coal generation to pick up the slack.

“Both Davis-Besse and Sammis have a fuel supply [on site],” Ridmann said. “Davis has a year and a half supply on site and Sammis has at least a 30 day supply of coal onsite, whereas the gas facilities — I don’t know of a gas facility that has firm transportation.”

“It’s too expensive to [store gas],” Ridmann continued, “so if you have interruptible supply to a gas plant and you can't store gas, it seems to me you're vulnerable there and you need reliable assets that have fuel on site to provide reliability to the system.”

Kimberley Bojko, a partner at Carpenter, Lipps & Leland LLP who has represented the Ohio Manufacturers Association (OMA) in the FirstEnergy hearing, took issue with that claim. The OMA, a trade group for Ohio manufacturers, opposes the PPA proposal, arguing that keeping the subsidies out of the market will ensure the lowest prices for large consumers.

During the vortex, reliability was an issue for gas plants, Bojko said, because they lacked firm transportation agreements with natural gas companies. That’s since been fixed by PJM.

“They now require that any natural gas plant that’s going to participate in the market have firm natural gas transportation to it,” she said. “So, that issue has been fixed and I think that was way blown out of proportion.”

Bojko pointed out that PJM officials testified in the senate after the Polar Vortex, saying they had fixed the issues and did not anticipate any new reliability problems.

“Keeping two Ohio plants in Ohio is not going to change how PJM dispatches generating units in the regional grid,” she added. “Even with all these coal plants scheduled to retire, [PJM officials] don’t see a problem. They think enough new generation is coming online.”

Despite PJM’s confidence in system reliability, however, FirstEnergy still sees its plants as crucial:

“Particularly as we transition to a different market I think both the coal plant — the Sammis plant — and the Davis-Besse nuclear plant are required for reliability,” he said. “They have provided reliability over the past 30 or 40 years to the marketplace and to eliminate those, you couldn’t do that overnight.”

Fuel mix and cost concerns

The state’s transitioning electricity fuel mix undergirds the persisting debate about electric reliability. Ohio is a traditionally coal-fired state, but coal’s share of the generation mix there has dropped from 89% in 2005 to 67% in 2014 due to EPA clean air standards and the low price of gas. Most of the balance has been made up of new natural gas capacity.

FirstEnergy says that besides posing reliability issues, the new reliance on natural gas also raises questions about consumer costs. While natural gas prices are at historic lows today, the company says it expects them to increase in the next few years. Although it would cost ratepayers initially to support FirstEnergy’s noncompetitive baseload plants, the utility says consumers would eventually save $2 billion as the price of natural gas-fired power rises.

“In exchange for [initial financial support], customers save money over the long term and it provides for them kind of a safety net of reducing price increases in the future and diminishing price volatility as it relates to the generation market,” Ridmann said.

Critics take issue with those cost estimates. During a hearing earlier this month, PPA opponents pointed out that consultants doing gas price estimates for FirstEnergy had overestimated cost escalation in the past. Environmental and consumer groups say their calculations show the PPA proposal costing ratepayers $3 billion.

Bojko said the big industrial customers she represents are especially sensitive to energy prices, but they’re not worried about the increasing reliance on gas in the region — at least not over the 15 year period that FirstEnergy wants support for its plants.

“We have a different perspective on natural gas. Yes, prices are low now, but there’s also an abundant supply of natural gas,” she said. “With the Utica and Marcellus shale, we’ve seen all this new production that’s coming online and we don’t see that going away, at least not in the near future.”

“I’ve seen gas price volatility over several decades,” Ridmann said, “and while I hear the Marcellus or Utica gas creates a whole new situation, I would say I’m not sure it does.”

“I think gas will be used either in this area or transported out, and I think you'll see volatility as you’ve seen in the past,” he continued. “I think to assume gas prices are going to remain low as they are today into the foreseeable future is unreasonable.”

Neither Bojko nor Earthjustice’s Fisk want Ohio to be too reliant on natural gas, but they say FirstEnergy’s proposal won’t do much to change that, even if the cost concerns are true. There’s still plenty of coal and nuclear generation in PJM if the plants do retire, and grid operators can turn to other generation sources to provide diversity as well.

“The reality is that Ohio still has a lot of coal capacity in the state. A lot of it is uneconomic and should be retired, but it’s not like all of it will be gone,” Fisk said. “There will still be coal, there will still be gas, and hopefully more renewables and efficiency to provide a sensible, forward-looking energy policy instead of one put in place decades ago.”

Environmental issues

With the Clean Power Plan compliance period beginning in 2022, Ohio should be focusing on ways to decarbonize its energy system, Fisk argued, rather than doubling down on coal from FirstEnergy or AEP’s plants.

“The Clean Power Plan is in effect and we know from 2022 to 2030 there's going to need to be significant efforts to bring Ohio’s emissions down,” he said. “Given that, we know that we should all be sitting down to figure out what’s the least cost way to achieve compliance with the Clean Power Plan requirements. Certainly, the way to do that is not to initially lock yourself into the most carbon polluting source of power — coal pants.”

Ridmann brushed off the environmental concerns that have led environmentalists to label his company’s proposal a “coal bailout.” Davis-Besse is a zero-carbon-emitting nuclear plant, he pointed out, and the coal plant isn’t particularly polluting dirty either.

“We see particularly our Sammis plant as being environmentally friendly,” he said. “It has all the latest equipment – scrubbers – on it. So I think in terms of a coal plant it’s one of the more environmentally friendly plants in the area.”

FirstEnergy completed a $1.8 billion upgrade on the Sammis plant in 2010, company spokesperson Doug Colafella said, “that represents the most advanced technological pollution controls that are available today.”

But even with those scrubbers, FirstEnergy’s coal plant didn’t impress Fisk.

“The Sammis plant is a major source of harmful air pollutants like sulphur dioxide, nitrogen oxide and other pollutants, so there’s the significant public health impacts from those emissions,” he said, “and the other big issue environmentally is of course that the Sammis plant is a big source of carbon emissions.”

Market questions

Underlying the entire debate over both Ohio plant subsidy proposals are lingering questions about how deregulated energy markets should and do function in Ohio and PJM.

FirstEnergy says its plants are not competitive in PJM electricity markets because the grid operator does not value baseload generation correctly. CEO Chuck Jones went far enough in a recent interview to suggest that Ohio should consider returning to a regulated, vertically-integrated utility business model if a plant support deal cannot be reached.

Ridmann walked back those statements from his CEO, saying the media blew them out of proportion. But he did indicate the company is not satisfied with how the market operates.

“The wholesale market really doesn't provide under the rules in PJM adequate compensation for existing power plants,” he said.

That position is ironic, Bojko said, considering that FirstEnergy was one of the companies that pushed hardest a decade ago to break down the regulated utility model and go to a market-based approach.

She pointed out that Ohio ratepayers have already paid $6 billion to cover FirstEnergy’s stranded assets as a result of deregulation in a 2008 case.

“We paid for those generation facilities to be divested to the unregulated affiliates and we believe competition is working well,” Bojko said. “We think it’s caused the market to have low electric prices right now, which is the very thing that FirstEnergy is complaining about.”

Ridmann said that while FirstEnergy supports retail choice, it doesn’t really see the wholesale market as a real market anymore.

“We see it as somewhat of a regulated construct, and the construct really doesn’t work for many existing plants,” he said. “You see other companies also having similar problems with their assets under this scenario occurring in the wholesale market in PJM.”

The retail market is a good example of a functioning competitive marketplace, he said, but PJM’s market rules are holding its wholesale markets back from being functional.

“Under this contrived regulatory construct in PJM, I don’t think it’s providing adequate compensation to keep plants viable and operating,” he said. “So, we’d like to see more of a true competitive marketplace where you don’t have those regulatory constructs preventing it from occurring.”

That doesn’t necessarily mean a return to the regulated utility model, Ridmann added. Under a marketplace that was “open and free,” FirstEnergy “would do fine.”

But what does “open and free” mean?

“There are a lot of subsidies associated with renewables. In some states frankly I think the subsidies exceed the cost of renewables, so I think that’s part of it,” Ridmann said. “But the other part is when you place hamstrings in terms of rules and things like that, and how much they place caps on pricing, et cetera, I think those are all restrictions to a competitive marketplace.”

PJM, for its part, says its markets are functioning properly.

“PJM's markets are competitive and have consistently been found to produce competitive results,” Ray Dotter, PJM communications manager, wrote to Utility Dive in an email when asked about FirstEnergy's comments.

Dotter pointed out that the grid operator recently enacted new capacity performance standards, raising the payments baseload generators receive to operate reliably. The new standards were largely welcomed by generators in PJM territory, and the first auction under the rules yielded capacity payments 37% higher than in previous bidding.

“Recent capacity market rule changes provide opportunities for higher revenues for resources that meet higher standards of performance during critical times,” Dotter wrote. “Competition, of course, implies that the most reliable and economic resources will receive higher compensation.”

Ridmann said that while the new performance standards are “a step in the right direction,” they wouldn’t likely be enough to keep his plants operating.

“There are some benefits associated with the capacity performance initiative at PJM and the recent auctions,” he said, “but I don't think the amount of increased revenue is significant quite frankly in terms of what it offers these companies in terms of keeping these plants operational.”

All of these complaints about market structure are little more than hand waving, Fisk said. He and Bojko argued the PJM markets are working just fine — coal generators like FirstEnergy and AEP are just on the losing side.

“FirstEnergy made a bad business decision of investing lots of money into an aging coal plant and aging nuclear plant and they are losing in the marketplace,” Fisk said. “So, rather than finding a way to transition to economic and cleaner sources of power, they want to shift all of the economic risk onto customers so their shareholders could be made whole.”

The real threat to the competitive market isn’t renewables or PJM rules, Bojko said. It’s companies like FirstEnergy and AEP.

“If you subsidize two generators, they’ll have a huge advantage over other generators, and we don’t think that’s appropriate,” she said. “We also think, if the plants are truly uneconomic, why should we keep them running? For environmental reasons, economic reasons, maybe it’s not in the best interest of ratepayers to keep them running, and maybe they won't succeed in the future if we keep them running.”

Looking ahead: Staff decisions and AEP’s case

PUCO staff handed the subsidy opponents a small victory earlier this month when they recommended rejection of FirstEnergy’s bid as proposed, saying it was not in the interest of ratepayers.

The staff, whose finding is independent of the commissioners themselves, recommended shortening PPA from 15 years to three to reduce risks on ratepayers, and requested the company provide more data on a variety of subjects.

Fisk welcomed the staff decision, which referenced many of the concerns PPA opponents raised throughout the hearings. FirstEnergy, at least on the surface, was similarly upbeat.

“We see it as another important step in the process,” Colafella wrote to Utility Dive. “We agree with the Staff that a properly constructed Purchased Power Agreement can benefit customers, and we will continue our discussions with Staff and other parties to reach a positive outcome.”

PUCO commissioners are currently hearing intervenor testimony in the FirstEnergy case, Fisk said, but the more significant proceeding in terms of impact on the state’s fuel mix may be the one that just kicked off this week, concerning AEP’s plant subsidies.

The fundamental structure of the subsidy proposals is the same, but the Earthjustice attorney pointed out that while FirstEnergy is pursuing ratepayer support for 15 years, AEP wants it for a much longer period.

“The one thing that makes the AEP plants stand out is that their proposal is for the life of the coal plants,” Fisk said. “15 years is not a smart thing to do, but it’s even worse to think about, for example, that AEP is saying their Zimmer plant is going to last until 2051, and their proposal is to lock people into that plant until 2051, or potentially longer because they haven’t committed to an end date.”

After the staff decision on the FirstEnergy proposal, AEP indicated it was willing to negotiate on the length of its proposed coal subsidies, but the company also said the staff was misguided in recommending a three-year PPA.

“It’s not enough certainty to make investments,” AEP Ohio President Pablo Vegas told Columbus Business First. “I think the time can be compromised on, but not as much as the staff suggested.”

“I think big policy issues belong with the commission and not with the staff,” Vegas added.

PUCO staff have yet to release an opinion on the AEP plan, and hearings on both proposals are expected to push on through the month. There’s no deadline for decisions on the PPA proposals, but some observers expect them before the end of the year.

A big concern for subsidy opponents is that approval of either or both of the utility proposal will inspire similar proposals from uncompetitive fossil generators in other unregulated markets, especially since PUCO’s ruling on AEP’s initial subsidy proposal in February opened the door to both of the current proceedings. If that trend catches on, some market observers worry of a march back toward the vertically-integrated utility model in the region and nationwide.

The CEO of rival generator Dynegy, which owns both coal and gas plants in PJM, told Columbus Business First that a reregulation scheme would help "the weakest in the herd," and said that AEP and FirstEnergy want to return to a "rigged" system of fully regulated utilities. Those comments sparked a feud with AEP's Vegas, who accused Dynegy of pushing rejection of his utility's proposals so power prices would go up for Dynegy's plants.

Despite the PUCO staff decision and nationwide controversy over the coal subsidies, FirstEnergy’s Ridmann remains optimistic.

“I think we’ve put forward a very good, direct case at this point and those that are reporting out of there are, I'm sorry to say it, biased against the PPA,” he said. “So, you would naturally expect some of the reporting to be negative, but our direct case going as it is — it’s planned, it’s strong and we’re very comfortable about it at this point."

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