(PG&E-2)
PACIFIC GAS AND ELECTRIC COMPANY
CHAPTER 10
DEPRECIATION STUDY
1
2
3
4
5
A. Introduction
1. Scope and Purpose
6
This testimony presents the results of the depreciation study for Pacific
7
Gas and Electric Company’s (PG&E or the Company) electric transmission,
8
electric and gas distribution and fleet plant.
The scope of this testimony covers the methods used in the study and
9
10
an account-by-account analysis of depreciation characteristics of PG&E’s
11
plant accounts.
12
2. Summary of Results
PG&E requests that the California Public Utilities Commission (CPUC or
13
14
Commission) use the depreciation parameters developed in the study to
15
determine the gas and electric depreciation rates for use in developing the
16
2007 General Rate Case (GRC) revenue requirements.
Table 10-1 shows a summary of the proposed changes in the
17
18
depreciation parameters from those adopted in the 2003 GRC. The
19
proposed changes are modest and reasonable, and are based on sound
20
depreciation study techniques and reflect my judgment and the judgment of
21
PG&E’s experienced field personnel.
Detailed analyses of the depreciation parameters for each plant account
22
23
24
25
are shown in the workpapers supporting this chapter.
3. Support for Request
a.
Determination of Average Service Life (ASL) and Survivor Curves
26
When a group of similar assets are put in service, not all of the
27
individual assets in the group fail or are retired at the same time in the
28
future. Instead, only a portion of the original group may fail or retire
29
during the first year of service. In the second year, again, only a portion
30
of the surviving group may fail or retire from service. If the portion of the
31
original group that survives is traced until the last asset in the group is
32
retired, a pattern emerges in the shape of a curve called a survivor
10-1
TABLE 10-1
Pacific Gas and Electric Company
Test Year 2007 General Rate Case
SUMMARY OF ESTIMATED SURVIVOR CURVES AND NET SALVAGE PERCENTS
STATISTICAL
Asset Class
FERC
Acct.
Description
SURVIVOR CURVE
INDUSTRY RANGE
ADOPTED
RECOMMENDED
STATISTICAL
NET SALVAGE PERCENT
INDUSTRY
ADOPTED
RECOMMENDED
INDICATION
LIFE
CURVE
ESTIMATE
ESTIMATE
INDICATION
RANGE
ESTIMATE
ESTIMATE
60-R3
None
52-R1.5
71-S4
46-R2.5
55-S6
70-R4
50-60
60-70
40-60
35-50
50-70
30-50
35-55
45-65
35-50
50-75
R2,R3,R4
R1,R2
R3,R4,R5
R1,R2,R3
R2-R5
R3-R5,S6
R3,R4,S3
SQ,R3,R5
50-S6
50-S6
40-S3
70-S4
42-R3
52-S6
60-R5
50-R3
60-R5
60-R3
60-R3
40-S1.5
70-S4
46-R2.5
55-S6
60-R5
50-R3
60-R5
(5)-(22)
None
(25)-(45)
(40)-)60)
(85)-(140)
(50)-(140)
0-(100)
(5)-(15)
(5)-(35)
0-(30)
5-(20)
(10)-(60)
(20)-(75)
10-(60)
10-(20)
19-(30)
0
(10)
(5)
0
(40)
(50)
(31)
0
0
0
(20)
(20)
(30)
(50)
(80)
(60)
0
0
0
ELECTRIC TRANSMISSION PLANT
ETP35201
ETP35202
ETP35301
ETP35400
ETP35500
ETP35600
ETP35700
ETP35800
ETP35900
352
352
353
354
355
356
357
358
359
Structures & Improvements
Structures & Improvements/Equip
Station Equipment
Towers & Fixtures
Poles & Fixtures
OH Conductor/Devices - Twr/Pl Ln
UG Conduit
UG Conductor/Devices
Roads & Trai8ls
10-2
(PG&E-2)
TABLE 10-1
Pacific Gas and Electric Company
Test Year 2007 General Rate Case
SUMMARY OF ESTIMATED SURVIVOR CURVES AND NET SALVAGE PERCENTS
STATISTICAL
Asset Class
FERC
Acct.
Description
SURVIVOR CURVE
INDUSTRY RANGE
ADOPTED
RECOMMENDED
STATISTICAL
NET SALVAGE PERCENT
INDUSTRY
ADOPTED
RECOMMENDED
INDICATION
LIFE
CURVE
ESTIMATE
ESTIMATE
INDICATION
RANGE
ESTIMATE
ESTIMATE
55-L5
40-60
R3,R4
35-50
R2,R1,L0
40-L0.5
38-R1
58-L3
31-R5
31-S1
24-R5
45-R2
32-S6
32-R0.5
61-L3
28-R0.5
24-S6
20-L0
19-S6
30-50
30-50
40-70
25-45
25-40
25-40
30-45
30-45
25-40
10-40
15-40
15-30
15-30
15-30
15-30
R1,O1,L0
R1,S1,L0
R2,R3,L3
R2,R3,S2
R0.5,S1,L0
R0.5,S1,L0
R1-R3
R1,R3
R2,R3,S2
L0,L1,O1
R1-R3
Low Mode
Low Mode
Low Mode
Low Mode
55-L5
55-L5
41-S1
10
40-R1
40-R1.5
58-L3
36-R4
31-R2.5
31-S1.5
48-R2.5
46-R4
30-R1.5
40-S1
16-S1
30-R0.5
30-L2
22-L0
23-S3
(20)-(100)
8-(20)
(50)-(80)
(40)-(100)
(40)-(130)
(10)-(50)
2
(50)-(80)
(20)-(35)
0
0-(200)
60-90
(15)-(30)
15-(15)
-
(5)-(30)
43-R1
55-L5
55-L5
39-R2
10
40-L0.5
38-R1
58-L3
31-R5
31-S1
34-S1
45-R2
43-R4
27-R2
36-S1
16-S1
28-R0.5
29-L2
20-L0
19-S6
(20)-(110)
10-(50)
0-(40)
20-(30)
(25)-15
(25)-15
(5)-(60)
(5)-(60)
10-(20)
10-(40)
30-(15)
15-(50)
15-(50)
15-(50)
15-(50)
(10)
0
0
0
(35)
(49)
10
(19)
10
0
(60)
(40)
0
0
75
(95)
(10)
(10)
0
(20)
(20)
(30)
0
(100)
(100)
(50)
(40)
(10)
0
(100)
(60)
(5)
0
0
(90)
(10)
0
(10)
ELECTRIC DISTRIBUTION PLANT
10-3
EDP36101
EDP36102
EDP36200
EDP36300
EDP36400
EDP36500
EDP36600
EDP36700
EDP36801
EDP36802
EDP36901
EDP36902
EDP37000
EDP37100
EDP37200
EDP37301
EDP37302
EDP37303
EDP37304
361
361
362
363
364
365
366
367
368
368
369
369
370
371
372
373
373
373
373
Structures & Improvements
Structures & Improvements - Equip
Station Equipment
Storage Battery
Poles, Towers & Fixtures
OH Conductors & Devices
Underground Conduit
UG Conductors & Devices
Line Transformers-Overhead
Line Transformers-Underground
Services-Overhead
Services-Underground
Meters
Installation on Customer Premises
Leased Property on Cust. Prem.
Street Light-Overhead Conductors
Street Light-Conduit & Cables
Street Light-Lamps & Equipment
Street Light-Electroliers
10-(25)
GAS DISTRIBUTION PLANT
GDP37500
GDP37601
GDP37700
GDP37800
GDP38000
GDP38100
GDP38300
GDP38500
GDP38600
GDP38700
375
376
377
378
380
381
383
385
386
387
Structures & Improvements
Mains
Compressor Station Equipment
Odorizing/Meas & Reg Sta Equipment
Services
Meters
House Regulators
Meas & Reg Sta Equip-Industrial
Other Property on Customer Premises
Other Equipment
60
41-S6
15-30
33-L3
53-L3
34-R2
67-S1
35-60
40-70
15-35
30-50
30-50
25-50
20-50
25-40
10-35
10-35
R1-R4,S0
R,S,L2-3
R,S,L0-1
R,S,L0-1
R,S,L2-3
S2
-
49-R2
54-S3
24-R1.5
37-R2.5
50-R3
24-R1.5
23-R1.5
34-R2
35-R2
28-S0
49-R2
52-S3
29-R1.5
40-R2.5
50-R4
24-R1.5
24-R1.5
40-R2
35-R2
28-S0
(50)-(60)
(50)-(100)
0-(20)
(50)-(100)
(85)-(170)
0-4
0
0
(5)-(30)
(5)-(100)
(5)-(10)
10-(50)
(10)-(200)
35-(20)
25-(30)
20-(20)
0-25
0-(50)
(20)
(45)
(10)
(55)
(85)
0
0
(15)
0
0
(20)
(50)
(10)
(55)
(100)
0
0
(15)
0
5
390
392.02
392.03
392.04
392.05
392.06
392.07
392.08
392.09
396
Structures and Improvements
Transp. Equip-Passenger Vehicles
Transp. Equip-Light Truck-1/2 Ton
Transp Equip-Light Truck-1/2 Ton
Transp Equip-Heavy Truck-1 & 2 Ton
Transp Equip-Heavy Truck-1 & 2 Ton
Transp Equip-Heavy Truck-3 & 5 Ton
Transp Equip - Vessels-Barge/Boat
Transp Equip - Trailer
Power Operated Equipment
43-R1.5
7
7-10
7-10
10-14
10-14
10-14
11-15
14-20
14-L2
35-50
5-7
6-10
6-10
8-12
8-12
8-12
10-15
14-20
12-20
R2,R3
Low Mode
Low Mode
Low Mode
Mid Mode
Mid Mode
Mid Mode
High Mode
Low Mode
Low Mode
38-R3
6-S2
8
10
13
11
13
12-S4
12-S4
20
43-R1.5
7-R3
9-S2.5
8.5-S2.5
11-L3
11-S2.5
14-S3
8-S4
17-L2
13-S1
0-(10)
8-12
8-12
8-12
8-12
8-12
8-12
8-12
8-12
19
0-(20)
5-25
5-25
5-25
5-25
5-25
5-25
5-25
5-25
10-40
(19)
24
22
24
17
14
14
0
0
20
(10)
10
10
10
10
10
10
10
10
20
COMMON PLANT
CMP39000
CMP39202
CMP39203
CMP39204
CMP39205
CMP39206
CMP39207
CMP39208
CMP39209
CMP39600
(PG&E-2)
(PG&E-2)
1
curve. Different types of plant assets exhibit different patterns or
2
survivor curves. Since a survivor curve represents actual lives of all of
3
the assets in the group, an ASL of the group can be readily calculated
4
from the survivor curve for the group.
5
PG&E’s plant is grouped in various accounts or asset classes. For
6
most of the asset classes, PG&E has continuous records of retirements
7
from 1969 to 2004. Although these retirements are not known by their
8
original installation dates, there are certain simulation techniques by
9
which survivor curves can be estimated for these asset classes without
10
the installation data. Section C-3 explains the method used in
11
estimating the recommended survivor curves for PG&E’s plant assets.
12
Factors considered in the selection of a survivor curve include accuracy
13
and sufficiency of available data, conformance of data to selected
14
curve, published industry data for similar assets, current maintenance
15
practice, and the judgment and experience of field personnel and
16
project engineers.
17
As an example of how all these factors are considered in
18
determining the life and curve for an asset class, consider the Federal
19
Energy Regulatory Commission (FERC) Account 364 (Asset Class
20
EDP36400) for distribution poles. The simulation analysis based on
21
recorded data indicates a service life of 31 to 44 years for this account.
22
The current service life adopted by the Commission in the 2003 GRC is
23
40 years. PG&E’s field personnel expect new poles with aggressive test
24
and treat program currently underway using chemicals (metam sodium,
25
copper napthenate, etc.) to last 40-50 years. The Western Wood
26
Preservative Institute states such poles can last up to 75 years with
27
proper inspection and maintenance. This would suggest a longer life for
28
the existing poles. However, there are also limiting factors on pole life:
29
(1) The longevity of the upper portion of the pole which is subject to
30
continued environmental assault can be a determining factor in the
31
useful life of a pole; and (2) field engineers reported that almost a third
32
of PG&E’s poles were treated with cellon in 1960s and are not expected
33
to last more than 10 years from now. Based on all this information, I
10-4
(PG&E-2)
1
propose no change in the service life for this account, thus maintaining
2
40 years.
3
b. Development of Net Salvage and Net Salvage Rates
4
When an asset is retired, it can be sold as scrap or reused at some
5
other location and purpose, thus having a value after its retirement from
6
current service. In most cases, retirement of the asset also requires its
7
removal from its current location for subsequent use or disposal. Net
8
salvage is the amount realized as scrap (or other use) over and above
9
any associated removal cost. If the removal cost exceeds the gross
10
salvage receipts, net salvage is negative. Net salvage is usually
11
expressed as a percentage of the original cost of the retired asset. If
12
the net salvage is positive, it reduces the amount of depreciation
13
expense charged during the useful life of the asset. If the net salvage is
14
negative, it increases the amount of depreciation expense.
15
The net salvage estimates in this study were based on informed
16
judgment that incorporated analyses of historical cost of removal and
17
gross salvage data, consideration of the impacts of age and inflation, as
18
well as expectations of future levels of removal costs and gross salvage.
19
The historical data included in the statistical analysis were the cost of
20
removal and gross salvage for the 36-year period, 1969-2004.
21
However, the most recent 15-year period, 1990-2004, was emphasized
22
in order to be consistent with California regulations and properly match
23
future expectations. Section D explains the estimation techniques, the
24
analysis of historical data, impact of age and inflation, and other factors
25
considered in developing PG&E’s recommendations for net salvage
26
percents.
27
Factors considered in the selection of a net salvage percent include
28
accuracy and sufficiency of available data, published industry data for
29
similar assets, level of inflation between installation and removal,
30
current maintenance practice, and the judgment and experience of field
31
personnel and project engineers.
32
As an example of how all these factors are considered in
33
determining the net salvage percent for an asset class, consider again
34
the FERC Account 364 (Asset Class EDP36400) for distribution poles,
10-5
(PG&E-2)
1
as discussed above. The recorded data for recent years suggest there
2
is very little salvage when poles are retired. Field engineers confirm that
3
poles are disposed of by contractors hired to do the removal. Removal
4
costs are increasing substantially. Data indicate removal costs in the
5
range of 80 percent to 110 percent of the original cost of the poles
6
retired. This would suggest net salvage of about negative 95 percent
7
since the gross salvage amount is negligible. The currently adopted net
8
salvage rate is negative 35 percent. PG&E’s current accounting system
9
assigns a percentage of the total costs of a pole replacement job to the
10
removal orders and the remainder to installation work, which is
11
capitalized as new plant. The removal cost percentage is determined
12
by PG&E’s cost estimating group using estimating tools such as
13
SHERPA JET (Job Estimating Tool) for electric and GasCEP (Gas Cost
14
Estimating Program) for gas. A typical pole replacement job charges
15
about 10 percent of pole replacement costs to removal costs. Although
16
this is a small amount in today’s dollars, field engineers think it could
17
easily be 100 percent of the original cost of the pole if the pole was
18
installed 40-50 years ago. Based on all this information, I propose that
19
negative net salvage be increased to -100 percent for this pole account.
20
B. PG&E’s Response to 2003 GRC Decision
21
In PG&E’s 2003 GRC Decision 04-05-055, the Commission adopted the
22
depreciation parameters in PG&E’s 2003 Depreciation Study except for electric
23
plant net salvage estimates.
24
The following steps have been followed to complete the 2007 depreciation
25
study:
26
First, I met with PG&E’s field personnel familiar with the maintenance and
27
operation of electric transmission, electric distribution, gas distribution and
28
equipment, as well as fleet assets;
29
30
31
Second, I conducted statistical analyses to develop historical indications of
service life and net salvage characteristics;
Third, I conducted field reviews of various electric and gas plant assets
32
throughout the system to evaluate physical conditions and actual function of
33
the assets;
10-6
(PG&E-2)
1
Fourth, I used my own extensive experience and industry-wide data, including
2
the depreciation parameters adopted for other California utilities, to reach
3
my initial study conclusions;
4
5
6
Fifth, I talked with witnesses responsible for managing and maintaining PG&E’s
electric transmission and electric and gas distribution assets;
Sixth, the Asset Managers and their field staff reviewed my conclusions and
7
accompanying narratives in the study workpapers for reasonableness and
8
accuracy; and
9
Finally, I incorporated the feedback I received from the asset managers to
10
finalize my conclusions and recommendations in the study.
11
In summary, the conclusions included in this depreciation study take into
12
account the actual experience of PG&E’s gas and electric distribution field
13
personnel familiar with the maintenance and operation of gas and electric
14
distribution equipment.
15
16
17
C. Average Service Life and Survivor Curves
1. Determination of Average Service Lives
As described in the Section A-3 above, the first step in determining ASL
18
for a group of assets is to identify a standard survivor curve that fairly
19
represents the actual retirement history of plant for the group. There are
20
basically two methods widely used in a typical depreciation study to
21
estimate a survivor curve for a group of plant assets: (1) The Retirement
22
Rate Method; and (2) The Simulated Plant Record (SPR) Method. The
23
Retirement Rate Method is used when retirement data by installation (aged)
24
dates is available. The SPR method is used when retirements by
25
installation year are not known or available. The SPR method can be used
26
to simulate either plant balances or plant retirements. Only the SPR method
27
using simulated plant balances was used in this study. All methods use
28
survivor curves to estimate ASL.
29
30
2. Characteristics of Survivor Curves
The survivor curve graphically depicts the amount of property existing at
31
each age throughout the life of an original group. From the survivor curve,
32
the average life of the group, the remaining life expectancy, the probable
10-7
(PG&E-2)
1
life, and the frequency curve can be calculated. In Figure 10-1, a typical
2
smooth survivor curve and the derived curves are illustrated. The average
3
life is obtained by calculating the area under the survivor curve, from age
4
zero to the maximum age, and dividing this area by the ordinate at age zero.
5
The remaining life expectancy at any age can be calculated by obtaining the
6
area under the curve, from the observation age to the maximum age, and
7
dividing this area by the percent surviving at the observation age. For
8
example, in Figure 10-1 the remaining life at age 30 years is equal to the
9
cross-hatched area under the survivor curve divided by 29.5 percent
10
surviving at age 30. The probable life at any age is developed by adding the
11
age and remaining life. If the probable life of the property is calculated for
12
each year of age, the probable life curve shown in the chart can be
13
developed. The frequency curve presents the number of units retired in
14
each age interval and is derived by obtaining the differences between the
15
amount of property surviving at the beginning and at the end of each
16
interval.
17
Iowa Type Curves. The range of survivor characteristics usually
18
experienced by utility and industrial properties is encompassed by a system
19
of generalized survivor curves known as the Iowa type curves. There are
20
four families in the Iowa system, labeled in accordance with the location of
21
the modes of the retirements in relationship to the average life and the
22
relative height of the modes. The left-moded curves, presented in
23
Figure 10-2, are those in which the greatest frequency of retirement occurs
24
to the left of, or prior to ASL. The symmetrical-moded curves, presented in
25
Figure 10-3, are those in which the greatest frequency of retirement occurs
10-8
100
90
Survivor Curve
Probable Life Curve
80
70
60
Average Life
50
10-9
Maximum Life
40
Probable Life
Age
30
Expectancy
Mode
20
4
Frequency Curve
3
10
2
1
5
10
15
20
25
30
35
40
45
50
Age In Years
Figure 10-1. A Typical Survivor Curve and Derived Curves
55
60
(PG&E-2)
0
100
S
S1
O
S
2
S
3
S
4
50
S S
5 6
S
6
45
90
40
35
S5
30
80
25
S4
20
S3
70
15
S2
S1
10
SO
5
60
0
25
50
75
100
125
150
175
200
225
250
275
300
Age, Percent of Average Life
10-10
50
40
30
20
10
0
25
50
75
100
125
150
175
200
225
250
275
Figure 10-3. Symmetrical or "S" Iowa Type Survivor Curves
(PG&E-2)
Age, Percent of Average Life
300
100
50
R1
90
R2
R3 R4 R5
45
40
35
80
R5
30
25
R4
20
70
R3
15
R2
10
60
R1
5
10-11
0
25
50
75
100 125 150 175 200
Age, Percent of Average Life
225
250
275
300
50
40
30
20
10
0
25
50
75
100
125
150
175
200
225
250
275
Age, Percent of Average Life
Figure 10-4. Right Modal or "R" Iowa Type Survivor Curves
300
100
20
18
90
16
14
80
12
10
O4
8
70
O3
6
O2
O1
4
60
2
0
50
10-12
O4
O3
25
50
75
100 125 150 175 200 225
Age, Percent of Average Life
250
275
300
O2 O1
40
30
20
10
0
25
50
75
100
125
150
175
200
225
250
275
300
Age, Percent of Average Life
(PG&E-2)
Figure 10-5. Origin Modal or "O" Iowa Type Survivor Curves
(PG&E-2)
1
at ASL. The right-moded curves, presented in Figure 10-4, are those in
2
which the greatest frequency occurs to the right of, or after ASL. The
3
origin-moded curves, presented in Figure 10-5, are those in which the
4
greatest frequency of retirement occurs at the origin, or immediately after
5
age zero. The letter designation of each family of curves (L, S, R or O)
6
represents the location of the mode of the associated frequency curve with
7
respect to the ASL. The numerical subscripts represent the relative heights
8
of the modes of the frequency curves within each family.
The Iowa curves were developed at the Iowa State College Engineering
9
10
Experiment Station through an extensive process of observation and
11
classification of the ages at which industrial property had been retired. A
12
report of the study, which resulted in the classification of property survivor
13
characteristics into 18 type curves, which constitute three of the
14
four families, was published in 1935 in the form of the Experiment Station’s
Bulletin 125.[1] These type curves have also been presented in subsequent
15
17
Experiment Station bulletins and in the text, “Engineering Valuation and
Depreciation.”[2] In 1957, Frank V. B. Couch, Jr., an Iowa State College
18
graduate student, submitted a thesis[3] presenting his development of the
19
fourth family consisting of the four O type survivor curves.
16
3. Methods Used in Estimating Survivor Curves
20
The following describes the two methods widely used in a typical
21
22
depreciation study to estimate a survivor curve for a group of plant assets.
23
a.
Retirement Rate Method of Analysis
24
The retirement rate method is an actuarial method of deriving
25
survivor curves using the average rates at which property of each age
26
group is retired. The method relates to property groups for which aged
27
accounting experience is available or for which aged accounting
[1]
[2]
[3]
Winfrey, Robley. Statistical Analyses of Industrial Property Retirements.
Iowa State College, Engineering Experiment Station, Bulletin 125. 1935.
Marston, Anson, Robley Winfrey, and Jean C. Hempstead. Engineering
Valuation and Depreciation, 2nd Edition. New York, McGraw-Hill Book
Company. 1953.
Couch, Frank V. B., Jr. “Classification of Type O Retirement Characteristics
of Industrial Property.” Unpublished M.S. thesis (Engineering Valuation).
Library, Iowa State College, Ames, Iowa. 1957.
10-13
(PG&E-2)
1
experience is developed by statistically aging unaged amounts. The
2
method (also known as the annual rate method) is illustrated through
3
the use of an example in the Attachment 1 to this chapter, and is also
4
5
explained in several publications, including “Statistical Analyses of
Industrial Property Retirements,”[4] “Engineering Valuation and
6
Depreciation,”[5] and “Depreciation Systems.”[6]
7
Since PG&E’s accounting system does not keep retirement data for
8
mass property accounts (e.g., poles, towers, conductors) by the original
9
installation dates, the retirement rate method was not used in this study.
b. Simulated Plant Balance Method of Life Analysis
10
I used the simulated plant balance method in this study to estimate
11
12
survivor curves. The simulated plant balance method is used for
13
property groups for which the retirements of property by age are not
14
known. However, it does require continuous records of vintage plant
15
additions and year-end plant balances which are available in PG&E’s
16
accounting system.
The method suggests probable survivor curves for a property group
17
18
by successively applying a number of alternative survivor curves to the
19
group’s historical additions in order to simulate the group’s surviving
20
balances over a selected period of time. One of the several survivor
21
curves which result in simulated balances that conform most closely to
22
the book balances may be considered to be the survivor curve which
23
the group under study is experiencing.
The simulated plant balance method is illustrated through the use of
24
26
an example in Attachment 2, and is more fully explained in
several publications, including “Depreciation Systems,”[7] “Methods of
27
Estimating Utility Plant Life”[8] and “Public Utility Depreciation
25
[4]
[5]
[6]
[7]
[8]
Winfrey, Robley, supra, at Note 4.
Marston, Anson, Robley Winfrey, and Jean C. Hempstead, supra, at Note 5.
Wolf, Frank K. and W. Chester Fitch. Depreciation Systems. Iowa State
University Press. 1994.
Wolf, Frank K. and W. Chester Fitch, supra, at Note 9.
A report of the Engineering Subcommittee of the Depreciation Accounting
Committee, Edison Electric Institute. Publication No. 51-23. Published 1952.
10-14
(PG&E-2)
1
Practices.”[9] The simulated plant balance method requires an
2
understanding of the retirement rate method. The simulated plant
3
balance method illustration in Attachment 2 uses the same data as used
4
in the example of the retirement rate method in Attachment 1.
The simulated plant balance method requires a relatively long
5
6
history of plant additions, the plant balances for a period of recent years
7
and the tables of percents surviving for a standard set of survivor
8
curves. The percents surviving tables for the Iowa curves were used in
9
the study. The period of years during which the simulated and book
10
balances are compared is referred to as the term of comparison. For
11
this study, the terms of comparison used were the recorded plant
12
balances from 1980 to 2004 and 1985 to 2004.
13
D. Estimation of Net Salvage Rates
14
The estimates of future net salvage are expressed as percents of the
15
surviving plant in service, the sum of all future retirements. In cases in which
16
removal costs are expected to exceed gross salvage receipts, a negative net
17
salvage percent is estimated. The net salvage estimates were based on
18
informed judgment that incorporated analyses of historical cost of removal and
19
gross salvage data, consideration of the impacts of age and inflation, as well as
20
expectations with respect to future levels of removal costs and gross salvage.
21
The historical data included in the statistical analysis were the cost of removal
22
and gross salvage for the 36-year period, 1969-2004, however, the most recent
23
15-year period, 1990-2004, was emphasized. A more detailed discussion of the
24
factors considered in the estimation of net salvage percents are presented in the
25
workpapers. A description of the method of analyzing historical net salvage is
26
presented in the sections that follow.
27
1. Analysis of Historical Data
28
Historical net salvage data, separated between cost of removal and
29
gross salvage, were analyzed as percents of the original cost retired on
30
annual, 3-year moving average and the most recent 5-year average bases.
31
The average percents for the entire study period, 1969-2004, also were
[9]
National Association of Regulatory Utility Commissioners. Public Utility
Depreciation Practices. 1996.
10-15
(PG&E-2)
1
determined. The percent of original cost is calculated for cost of removal
2
and gross salvage separately in order to assist in detecting trends in these
3
components of net salvage. Moving averages are used to smooth the
4
indications of net salvage that can fluctuate from year to year. The analysis
5
of historical net salvage data is illustrated through the use of an example in
6
the text that follows.
7
The property group used to illustrate the analysis of net salvage data is
8
the same property group that is used to illustrate the service life analyses in
9
Attachments 1 and 2. Regular retirements used in the service life analyses
10
are shown in Table 10-2. The additional data required for the analysis are
11
the amounts of cost of removal and gross salvage for the period 1995-2004.
12
These data are used to determine the net salvage amount (gross salvage
13
minus cost of removal) and to calculate each element of net salvage as a
14
percent of the original cost retired. For example, as presented in
15
Table 10-2, the cost of removal in 2000 was $23,000 and the gross salvage
16
was $6,000. These amounts result in a negative net salvage of $17,000.
17
Each of these amounts is then expressed as a percent of the original cost
18
retired of $157,000. These percents are 15 for cost of removal, 4 for gross
19
salvage and negative 11 for net salvage. Similar calculations are performed
20
for each year and for the total period, 1995-2004.
21
To smooth fluctuations that normally occur in such data, moving
22
averages are calculated. Table 10-3 presents the 3-year moving averages
23
throughout the period 1995-2004 and the most recent 5-year average,
24
2000-2004. The determination of the moving averages will be explained for
25
the period 1999-2001. The average of the regular retirements for the period
26
1999-2001 is $160,000 ((128,000+157,000+196,000)/3). The average of
27
the cost of removal amounts for the same period is $22,000
28
((17,000+23,000+27,000)/3). Dividing $22,000 cost of removal by $160,000
29
of regular retirements results in a cost of removal percent of 14 for the
30
3-year moving average 1999-2001. The gross salvage and net salvage
31
moving averages and percents are similarly determined. As can be
32
observed, the 3-year moving average has smoothed the fluctuations that
33
occurred in the annual amounts and enabled the discernment of the trend in
34
the net salvage components as a percent of the original cost.
10-16
(PG&E-2)
1
2
3
4
5
6
TABLE 10-2
PACIFIC GAS AND ELECTRIC COMPANY
SUMMARY OF BOOK SALVAGE – ANNUAL BASIS
COST OF REMOVAL, GROSS SALVAGE AND NET SALVAGE
AS A PERCENT OF THE ORIGINAL COST RETIRED
($000)
Cost of Removal
Line
No.
Amount
($)
Percent
(%)
Amount
($)
Percent
(%)
Amount
($)
Percent
(%)
1
2
3
4
5
6
7
8
9
10
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
53
68
86
106
128
157
196
231
273
308
5
8
10
12
17
23
27
32
40
49
9
12
12
11
13
15
14
14
15
16
3
6
3
6
5
6
7
7
8
9
6
9
3
6
4
4
4
3
3
3
(2)
(2)
(7)
(6)
(12)
(17)
(20)
(25)
(32)
(40)
(4)
(3)
(8)
(6)
(9)
(11)
(10)
(11)
(12)
(13)
11
Total
1,606
223
14
60
4
(163)
(10)
TABLE 10-3
PACIFIC GAS AND ELECTRIC COMPANY
SUMMARY OF BOOK SALVAGE – MOVING AVERAGE BASIS
COST OF REMOVAL, GROSS SALVAGE AND NET SALVAGE
AS A PERCENT OF THE ORIGINAL COST RETIRED
($000)
Cost of Removal
14
Net Salvage
Year
7
8
9
10
11
12
13
Gross Salvage
Regular
Retirements
($)
Line
No.
1
2
3
4
5
6
7
8
9
Gross Salvage
Net Salvage
Year
Regular
Retirements
($)
Amount
($)
Percent
(%)
Amount
($)
Percent
(%)
Amount
($)
Percent
(%)
1995-1997
1996-1998
1997-1999
1998-2000
1999-2001
2000-2002
2001-2003
2002-2004
2000-2004
69
87
107
130
160
195
233
271
233
8
10
13
17
22
27
33
40
34
11
12
12
13
14
14
14
15
15
4
5
5
6
6
7
7
8
7
6
6
4
4
4
3
3
3
3
(4)
(5)
(8)
(12)
(16)
(21)
(26)
(32)
(27)
(5)
(6)
(8)
(9)
(10)
(11)
(11)
(12)
(12)
2. Impact of Age and Inflation
The analysis of net salvage described above does not incorporate any
15
variability of net salvage with age. The analysis simply related all cost of
16
removal or gross salvage during a year to all retirements during the same
17
year. The analyses of service life reflected models, i.e., Iowa curves, that
10-17
(PG&E-2)
1
incorporated variable rates of retirement dependent on the age of the asset.
2
Models of salvage variability with age are not available. Identification of the
3
cost of removal and gross salvage by the age of plant to which they relate is
4
not usually possible, particularly for mass plant items such as poles,
5
conductor, mains and services. Work orders that capture such costs of
6
removal and gross salvage usually include retirements of plant from multiple
7
years of installation.
8
The inability to analyze the variability of net salvage by age does not
9
mean that such variability does not exist. The variability of net salvage with
10
age is a function of inflation and the ability to reuse or scrap an item of plant
11
as it ages. Inflation has its greatest impact on cost of removal. The effort
12
required to remove an asset represents a certain percent of the cost to
13
install the same asset when both costs are measured at the same price
14
level. As the time between installation and removal increases, the price
15
level at which the removal will occur increases in comparison to the price
16
level at which the plant was installed. The result is that cost of removal
17
represents a greater percent of original cost retired for older plant
18
retirements than it does for younger plant retirements.
19
Gross salvage also varies with age as a result of inflation, particularly for
20
plant that can be scrapped for its metal content. Although scrap metal
21
prices are very volatile, they do tend to increase over time. As such prices
22
increase, gross salvage, as a percent of original cost, will increase with age.
23
On the other hand, as plant ages and is removed from service, the
24
likelihood that it can be reused or scrapped decreases depending on its
25
condition. Inflation and the ability to reuse or scrap retired items act against
26
one another and result in less variability with age for gross salvage as
27
compared to cost of removal.
28
Consideration of the variability of net salvage is necessary when
29
interpreting analyses of gross historical data because the age at which the
30
historical retirements occurred and the age at which the current surviving
31
plant will be retired are usually very different. As a result of growth, real and
32
inflationary, in the original cost of plant, the weighted average age of plant
33
retirements is typically a fraction of the average service life of the account.
34
In contrast, the average age of future retirements is the probable life of the
10-18
(PG&E-2)
1
surviving original cost. The probable life of the surviving original cost is
2
greater than the average service life. Thus, the estimates of future net
3
salvage percent should be a percent applicable to retirements at an age
4
greater than the average life. Careful interpretation of historical analyses of
5
retirements occurring at ages less than average life is required in order to
6
make such a forecast.
7
8
A more in-depth treatment of the impact of age and inflation on net
salvage is presented in “Depreciation Systems”[10] and “A Preliminary
9
Study of the Effect of Salvage on Depreciation.”[11]
3. Evaluating the Results
10
The analyses of historical net salvage as presented in Tables 10-2
11
12
and 10-3 indicate a trend toward increasing cost of removal and
13
decreasing gross salvage. The overall average for the period
14
1995-2004 is negative 10 percent net salvage. However, more recent
15
averages, the three-year average 2002-2004 and the five-year average
16
2000-2004, have decreased from negative 5 percent in 1995-1997 to
17
negative 12 percent.
Cost of removal has increased as a percent of the original cost
18
19
retired from slightly greater than 10 percent in the mid-1990s to
20
approximately 15 percent in the past several years. Gross salvage has
21
decreased from 6 percent of original cost to 3 percent of original cost.
22
The net of the recent levels, as noted previously, is negative 12 percent.
23
The average age of the retirements during the period 1995-2004
24
was 5.8 years. The average service life estimate is 12 years. The
25
average age of future retirements will be in excess of 12 years,
26
significantly greater than the historical average of 5.8 years. Thus, it is
27
reasonable to expect that the trend to increasing cost of removal as a
28
percent of original cost will continue. Based on the survivor curve
29
estimate for this account, the current surviving plant will be retired over
30
the next 25 years. Given the trend in removal cost and the future
[10]
[11]
Wolf, Frank K. and W. Chester Fitch, supra, at Note 9.
White, Bob E. “A Preliminary Study of the Effect of Salvage on Depreciation.”
A report prepared for the Interstate Commerce Commission. June 1982.
10-19
(PG&E-2)
1
impact of increasing age and inflation, it is reasonable to project
2
average future cost of removal of 20 percent of the original cost retired.
3
Gross salvage may increase as a percent of original cost to
4
approximately 5 percent for the same reasons. This logic supports a
5
future net salvage percent of negative 15 percent in comparison to the
6
recent indications of negative 12 percent. It is probable that, assuming
7
no contrary relevant factors external to the historical analysis, a net
8
salvage estimate of negative 12 to negative 15 percent is reasonable.
9
10
E. Account-by-Account Analysis and Recommendations
The workpapers supporting this chapter analyze historical data for each
11
account, the statistical indication of ASL and net salvage based on these
12
historical data, the range of values for these parameters in the industry, insights
13
obtained from PG&E’s engineering and field personnel, and final recommended
14
parameters. The results of the study by account are shown in Table 10-1.
10-20