On November 28, 2014, the Commission conditionally accepted PJM Interconnection’s (“PJM”) proposed modifications to several of the key pricing elements used to clear PJM’s capacity market auctions, subject to PJM making a compliance filing removing a proposal relating to location-specific price elements.  The Commission found that these changes were reasonably needed for PJM to achieve an acceptable level of reliability over the long-term.

On September 25, 2014, PJM submitted revisions to its Open Access Transmission Tariff (“OATT”), proposing to change: 1) its capacity market demand curve, referred to as the Variable Resource Requirement (“VRR”) Curve; and 2) several cost inputs for the VRR Curve, including the costs of new entry (“CONE”) by a representative new power plant.  Notably, PJM did not propose modifications to the energy and ancillary services (“EAS”) revenues that such a plant would be expected to earn through its participation in PJM.  These two inputs are important because “Net CONE”—a value that plays a critical role in determining the VRR Curve—is calculated by subtracting EAS from CONE.

By way of background, PJM’s existing capacity market utilizes an annual auction, which is conducted three years prior to the start of a given delivery year.  The clearing price for these auctions is established using the VRR Curve, and a supply curve which is based on the sell offers of capacity suppliers.  PJM’s OATT requires it to conduct triennial reviews of the VRR Curve to examine the underlying market assumptions that the VRR Curve is based upon, and update the inputs used to create the VRR Curve, if necessary.  During the most recent review process, two key inputs to determining the VRR Curve—the CONE and EAS revenues—were evaluated.  PJM hired an external consultant, who subsequently concluded, among other things, that these two inputs needed to be revised.  The external consultant concluded that PJM’s existing VRR Curve would be unable to meet PJM’s resource adequacy and market-design objectives over the long-term.  In its September 25, 2014 filing, PJM proposed revisions that the Commission concluded had the effect of making its VRR Curve more conservative and would result in the procurement of more capacity at auction.

In its November 28 Order, the Commission conditionally accepted PJM’s proposed revisions to the VRR Curve as just and reasonable.  In doing so, the Commission overruled objections from commenters that the costs of the modified VRR Curve outweighed the benefits, finding that the estimated increase in cost to end-users of $216 million—an increase of one percent over the existing VRR Curve—was needed, given that the current VRR Curve failed to meet the capacity level necessary to, in PJM’s view, maintain reliability.  

With regard to CONE value modifications, PJM proposed in its September 25, 2014 petition an 8 percent Cost of Capital, based on: 1) a 60-40 debt-to-equity ratio; 2) a pre-tax 7 percent cost of debt; and 3) a 13.8 percent cost of equity.  The Commission found all of these proposed values to be just and reasonable, and based on sufficient evidence.  The Commission also found PJM’s labor cost inputs to be just and reasonable, noting that the PJM Market Monitor had endorsed these values in preparation of its annual “State of the Market” Report.

Despite the recommendation of its external consultant, PJM stated in its petition that it was unable to reach stakeholder consensus on the issue of EAS revenue modifications, and was therefore not proposing changes to EAS revenue at this time.  The Commission approved PJM’s proposed EAS revenues, finding that PJM’s proposal to continue estimating a supplier’s expected net earnings from PJM’s energy and ancillary markets based on: 1) actual Locational Marginal Prices and fuel prices for the most recent three calendar years; 2) the heat rate of the Reference Resource; and 3) peak-hour dispatch, to be just and reasonable. 

A copy of the Commission’s Order may be found here.