Regulators, consumer advocates and the Market Monitor last week urged the Federal Energy Regulatory Commission not to change a crucial rule for PJM’s upcoming capacity auction, warning that it would allow generators to exercise market power.

FirstEnergy Solutions Corp.’s request to change how PJM calculates the maximum price generators can offer into capacity auctions “would result in a direct transfer of potentially billions of dollars from customers to sellers,” said the PJM Industrial Customer Coalition and consumer advocates for Maryland, Pennsylvania, Delaware, New Jersey, West Virginia, Illinois and the District of Columbia.

In separate filings, the Ohio Consumers Counsel and the Organization of PJM States (OPSI), representing state regulators, also weighed in against FirstEnergy’s request.

PJM, however, said it agrees with FirstEnergy’s interpretation of its Tariff and urged the commission to approve the company’s request. Also siding with FE is the Electric Power Supply Association and the PJM Power Providers Group.

Declaratory Order Sought

On April 7, FE filed a petition for a declaratory order (EL14-36), asking FERC to rule that PJM’s Open Access Transmission Tariff requires the use of a generator’s cost-based energy offers in the determination of net projected PJM market revenues. Granting the request could result in higher Market Seller Offer Caps, likely increasing auction revenues for FE and other generators.

FE asked the commission for an expedited ruling by May 9, in time to set the rules for the Base Residual Auction that begins May 12.

FE’s request would change methodology the Monitor has used since 2007, which selects as an input whichever is lower, the unit’s market-based offer or the cost-based offer.

No Emergency

Opponents said there was no reason for FERC to rush to rule in the dispute.

“FES could have filed its Petition months (or perhaps years) ago,” said the Ohio Consumers Counsel. “Instead, FES chose to file five weeks before the BRA.”

Their colleagues in other states consumers agreed. “There is more potential harm in expediting a decision than in carefully reviewing the issue,” said the consumers’ filing.

State regulators said altering the methodology would require a Tariff change and thus should be subjected to PJM stakeholder review.

Calculating Marginal Costs

Because existing generators possess market power, PJM requires mitigation in the form of the Market Seller Offer Price (MSOP), a cap on the price they can seek in the capacity auction.

The MSOP is intended to represent the solution to the so-called “missing money” problem. It is calculated as the difference between the unit’s Avoidable Cost Rate — the cost of running the plant for another year — and its projected net revenue.

Net revenue is calculated as total energy and ancillary services revenues less marginal costs. It is the calculation of marginal costs that is at the heart of the dispute.

The Market Monitor has always calculated marginal cost as either the unit’s market-based offer or its cost-based offer, whichever is lower. The latter offer is a price cap designed to counter market power in the energy market.

“Cost-based” is a misnomer, according to the Monitor, because it can include a 10% “adder” to actual costs.

In practice, generators often make market-based offers that are below their cost-based offers — which the Monitor says better represents their marginal costs.

“Sellers want their unit dispatched when the market price (Locational Marginal Price (LMP)) is greater than marginal cost. Accordingly, a non-zero offer lower than the offer cap is the best available evidence of what the seller believes is its marginal cost,” the Monitor wrote in its filing last week.

FirstEnergy says it is unfair to use the lower offers in the MSOP calculations: Generators may offer into the energy market at prices below their marginal costs because they want to continue running regardless of the clearing price.

“The operational characteristics of some power plants require this strategy at times to maximize efficiency and to reduce long-term costs. For example, a unit might need to avoid cycling on and off in succession to prevent expensive tube leaks or other associated repairs, which in turn could result in forced outages, performance penalties in the capacity market, and obligations to pay for deviations in the energy market. Other units also may need to keep producing power to avoid incurring penalties under `take or pay’ fuel contracts,” FE said.

“By choosing to operate in some hours by generating when energy prices are below a plant’s marginal cost of production, the plant operator is making a rational decision to absorb a small loss to avoid an even greater loss caused by the inefficient cycling of the plant that would otherwise occur.”

Tariff Definition

PJM, in a filing last week, said it agrees with FirstEnergy. “Use of cost-based offers (and not the lower of price-based and cost-based offers) is required by the Tariff. Indeed, PJM could not remain complaint [sic] with its Tariff if it were to read unstated provisions into the rule to effect the outcome desired by the [Monitor].”

What neither PJM nor FirstEnergy told FERC, however, is why it took them so long to come to this conclusion.

Impact of change

The Monitor said FirstEnergy’s petition was filed after it rejected FE’s proposed offer price caps for certain of its coal-fired generating units. “FirstEnergy offers no attestation here or elsewhere that its price-based offers reflect anything other than FirstEnergy’s calculation of the actual marginal costs of the FE Units,” the Monitor said. “FirstEnergy’s behavior has been consistent with the behavior of other market participants who have for years accepted that their non-zero price offers lower than their offer price caps are the best indicator of their actual marginal costs.”

The Monitor said FirstEnergy’s offers could set or influence market prices. “For example, there is a possibility that the level of Sell Offers submitted for certain of the FE Units will influence whether specific zones clear as Locational Deliverability Areas (LDA) with price separation.”

The Monitor said it agrees that capacity market prices have been suppressed and noted recommendations it has made to address the issue. But it said the company’s attempt to upend long-standing practice is improper.

The Monitor said it discussed its method of calculating net revenues with FirstEnergy in November 2012 and again early this year.

“It is implausible that FirstEnergy did not calculate its own net revenues for prior RPM auctions. Yet FirstEnergy has never raised this issue before,” the Monitor said. “Any missing money problem faced by FirstEnergy did not emerge for the first time in the last thirty days.”