BILL ANALYSIS AB 2898 Page 1 ASSEMBLY THIRD READING AB 2898 (Pescetti) As Amended April 4, 2002 Majority vote UTILITIES AND COMMERCE 13-0 APPROPRIATIONS 19-0 ----------------------------------------------------------------- |Ayes:|Wright, Pescetti, |Ayes:|Steinberg, Bates, | | |Calderon, | |Alquist, Cohn, Corbett, | | |John Campbell, | |Correa, Daucher, Diaz, | | |Canciamilla, Cardenas, | |Firebaugh, Maldonado, | | |Diaz, Horton, Kelley, | |Negrete McLeod, Robert | | |La Suer, Maddox, Papan, | |Pacheco, Papan, Pavley, | | |Reyes | |Runner, Washington, | | | | |Wiggins, Wright Zettel | ----------------------------------------------------------------- SUMMARY : Codifies in statute portions of a 1998 decision by the California Public Utilities Commission (PUC) adopting a new regulatory framework (NRF) program and associated rules. Specifically, this bill : 1)Specifies that any price cap price cap index productivity factor, sharing mechanism, and related elements of NRF shall continue to be suspended, consistent with a 1998 PUC decision concerning NRF that pertained to SBC-Pacific Bell and Verizon. 2)Applies the suspension of price cap and sharing components of NRF, ordered by PUC in the above decision, to each telephone company that is regulated by PUC under NRF. 3)Continues PUC authority to regulate prices for all services subject to its jurisdiction, and to move service between all pricing categories. 4)Clarifies that the PUC's existing authority to regulate the quality of service provided by telephone corporations shall be preserved. 5)Sunsets on January 1, 2007. 6)Makes various legislative findings with reference to the NRF, and to the fact that circumstances exist making this special statute valid because a general law cannot be made applicable. AB 2898 Page 2 EXISTING LAW : 1)Grants PUC regulatory authority over local telephone corporations, and authorizes PUC to establish just and reasonable rates. 2)Requires PUC to inspect and audit the books and records of telephone corporations for regulatory and tax purposes at least once every three years. FISCAL EFFECT : Potential savings to PUC from avoided proceedings that might otherwise be undertaken regarding the regulatory elements suspended in its 1998 decision. [PUC, has estimated costs of about $3 million for 36 new positions to develop an alternative regulatory tools-in lieu of those being suspended in the bill- to ensure just and reasonable telephone rates. However, by freezing the existing regulatory scheme with respect to certain elements of NRF, AB 2898, in and of itself, does not impose additional workload on PUC. PUC's cost estimate is based on how PUC might choose to respond based on the results of a future audit of the company or companies. Moreover, should PUC choose to modify NRF regulation, it would have to justify any request for additional staff for this purpose through the budget process given PUC's existing regulatory staff and workload.] COMMENTS : 1)Before 1989, local telephone companies, or incumbent local exchange carriers (ILECs), were regulated under a rate-of-return framework, which sets rates based on expenses incurred in providing service, allowing a reasonable profit on the utility's assets that are used to provide the service. In 1989, PUC adopted NRF, an incentive-based regulatory system designed to promote PUC goals of universal service, economic efficiency, technological advancement, rate stability, full utilization of the local exchange network, and avoidance of cross-subsidies and anti-competitive behavior. Under NRF, rates are adjusted annually based on a formula that offsets inflation costs against cost decreases due to increased productivity, additionally allowing cost recovery on matters outside the control of the utility. AB 2898 Page 3 2)Category I, II and III services: NRF classifies basic monopoly services, like dial tone, as Category I services. PUC sets prices for all Category I monopoly services. Category II includes partially competitive and discretionary services. These services have price ceilings and floors approved by PUC, and the regulated entity is free to adjust price in between. Utilities are allowed maximum pricing flexibility for Category III, or fully competitive, services. 3)Price Cap Index & Productivity Factor: NRF contains a price cap index formula, equal to inflation minus a productivity factor, and applicable to Category I and II services. The productivity factor was designed as a substitute for market forces, passing through gains in productivity to customers. In 1995, PUC suspended the price cap index and productivity factor on the belief that the market was evolving and that market conditions did not warrant continued application of the formula. 4)Sharing: NRF contains an earnings-sharing mechanism, which includes a benchmark, ceiling and floor rate of return. ILECs retain 100% of earnings up to the benchmark, but return earnings at varying percentages to ratepayers for earnings above the ceiling rate of return. 5)The NRF decision: In the 1998 decision referred to in this bill, PUC continued to suspend the price cap index and productivity factor previously suspended in 1995, and began a suspension of sharing for Pacific Bell and Verizon. PUC found that continuing the suspension of price caps and the productivity factor would advance the goals of NRF and would produce rates that are just and reasonable. PUC noted that suspension does not eliminate PUC authority over, or remove, rate caps, floors or ceilings on Category I and II services. In the decision, PUC suspended sharing for Pacific Bell and Verizon on the belief that sharing distorts operating and investment decisions because it changes the forecast of present and future cash flows, and introduces uncertainty into the stream of returns. 6)Surewest Communications & Citizens Communications: This bill applies the suspension of the price cap productivity factor AB 2898 Page 4 and sharing articulated by PUC in the Pacific Bell-Verizon NRF decision to each telephone company regulated pursuant to the NRF, thus making it also effective as to Surewest & Citizens Communications, the other NRF-regulated telecommunications companies. In 2001, PUC reviewed Roseville Telephone's NRF structure and among other things ordered the retention of its sharing mechanism. In Rulemaking 01-09-001, PUC is considering whether to eliminate the sharing mechanism, continue the suspension of the sharing mechanism, or to reinstate the sharing mechanism. Analysis Prepared by : Paul Donahue / U. & C. / (916) 319-2083 FN: 0004723