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Worksheet Grade 11 Social Studies & Civics

Inside a State Utility Commission Rate Order: Grade 11 Worksheet

A grade 11 economics worksheet where students compute a fictional water utility's revenue requirement and rate increase and analyze the regulatory hearing.

Objectives

  1. Students will calculate a regulated utility's revenue requirement from its rate base, allowed return, and operating expenses.
  2. Students will convert a revenue requirement into an average rate and a household bill change.
  3. Students will explain how a state utility commission's rate hearing balances competing interests.

Vocabulary

Revenue requirement
The total amount of money a utility must collect from customers each year to run the water system safely. Rates are set so that all the bills together add up to this amount.
Ratepayer
A person or business that pays a utility bill. Ratepayers provide most of the money that keeps a water system running.

Also: rate base, allowed rate of return, utility commission, operating expenses

Teacher overview

When a private water utility wants to raise its rates, it usually cannot simply do so; in most states it must file a case before a state utility commission, which decides how much revenue the company is allowed to collect. This worksheet uses a fictional case, the Verdant Springs Water Company before the fictional Calumet Public Utilities Commission, to walk students through the arithmetic regulators actually use: the revenue requirement, built from a rate base, an allowed rate of return, and operating expenses. Students compute the numbers, translate them into a household bill, and then step back to analyze whose interests the process weighs.

Inside a State Utility Commission Rate Order: Grade 11 Worksheet — Grade 11 Social Studies & Civics
Name: ____________________________ Date: ______________

Student Worksheet

The fictional Verdant Springs Water Company has filed a rate case before the Calumet Public Utilities Commission. The company reports a rate base (the value of the pipes, wells, and treatment plants it may earn a return on) of $40,000,000, requests an allowed rate of return of 7 percent, and reports annual operating expenses of $9,200,000. The utility bills customers in units of 1,000 gallons and sold 1,500,000 such units last year. Its current rate is $6.50 per 1,000 gallons.

  1. Calculate the company's return on its rate base at the requested 7 percent (rate base multiplied by the rate of return).
  2. Calculate the revenue requirement, which is the return on rate base plus operating expenses.
  3. Calculate the average rate the company must charge per 1,000 gallons to collect its revenue requirement (revenue requirement divided by units sold).
  4. At the current rate of $6.50 per 1,000 gallons, how much revenue does the company collect, and what is the shortfall between that and the revenue requirement?
  5. By what percentage would the average rate rise if the commission approves the full request? Round to the nearest tenth of a percent.
  6. A household uses 6,000 gallons per month. Calculate its monthly bill at the current rate and at the requested rate, and state the dollar increase.
  7. In one or two sentences, explain what the "rate base" represents and why the company earns a return only on that amount rather than on all of its spending.
  8. Name two parties, besides the company, who might testify at the rate hearing, and give one argument each is likely to make.
  9. Suppose the commission approves only a 5 percent return instead of 7 percent. Recalculate the return on rate base and the new revenue requirement, and state what that change means for customers.
  10. Using the idea that the allowed return is an incentive, explain one way a guaranteed return on rate base could encourage the company to build more infrastructure than customers strictly need, and say who bears that cost.

From Water for Schools (waterforschools.org). This material is in the public domain (CC0) and may be copied, edited, and shared freely.

Answer Key
  1. Answer: $2,800,000. $40,000,000 rate base times 0.07 equals $2,800,000 return on rate base.
  2. Answer: $12,000,000. The $2,800,000 return plus $9,200,000 in operating expenses equals a $12,000,000 revenue requirement.
  3. Answer: $8.00 per 1,000 gallons. $12,000,000 divided by 1,500,000 units equals $8.00 per unit.
  4. Answer: $9,750,000 collected; $2,250,000 shortfall. $6.50 times 1,500,000 units is $9,750,000, and $12,000,000 minus $9,750,000 leaves a $2,250,000 shortfall.
  5. Answer: 23.1 percent. The rate rises from $6.50 to $8.00, a $1.50 increase; $1.50 divided by $6.50 is about 0.231, or 23.1 percent.
  6. Answer: $9.00 increase. Six units at $6.50 is $39.00 now and six units at $8.00 is $48.00, a $9.00 monthly increase.
  7. Answer: The rate base is the value of the utility's used-and-useful capital assets, such as pipes and treatment plants. The company earns a return only on that investment because the return is meant to compensate investors for capital tied up in the system, not to reward day-to-day spending, which is already recovered as operating expenses.
  8. Answer: Reasonable examples: a consumer advocate or ratepayer group arguing the increase is unaffordable and the return is too high; a commission staff analyst arguing some claimed costs should be disallowed; a large business customer arguing the rate design shifts too much cost onto it. Any two plausible parties with a clear argument earn credit.
  9. Answer: $2,000,000 return and an $11,200,000 revenue requirement. $40,000,000 times 0.05 is $2,000,000; plus $9,200,000 is $11,200,000, which lowers the average rate to about $7.47 per 1,000 gallons and means smaller bill increases for customers.
  10. Answer: Because the company earns a guaranteed percentage return on its rate base, adding capital assets raises the base and therefore raises allowed profit, which can tempt a utility to build or gold-plate infrastructure beyond real need; ratepayers bear that cost through higher rates approved to cover the larger base.

Differentiation

Support

Provide a worked example using a fictional smaller utility (a $10,000,000 rate base at 6 percent) fully solved before students begin, and give a labeled formula strip showing revenue requirement equals return on rate base plus operating expenses. Allow a calculator for every step.

Extension

Ask students to redesign the rate so that the first 3,000 gallons a household uses each month cost less per unit than additional gallons, then explain in a short paragraph how that tiered structure changes the incentive customers face and which households benefit.

ELL supports

Pre-teach "rate base," "revenue requirement," "allowed rate of return," and "ratepayer" with a simple diagram of money flowing from customers to the utility and back to investors. Allow items 7, 8, and 10 to be answered in short phrases or a labeled sketch rather than full sentences.