Rep: OEB Doc: 12RWS Rev: 0 ONTARIO ENERGY BOARD Volume: 29 5 JUNE 2003 BEFORE: R. BETTS PRESIDING MEMBER G. DOMINY MEMBER 1 RP-2002-0133 2 IN THE MATTER OF the Ontario Energy Board Act, 1998, S.O. 1998, c.15 (Schedule B); AND IN THE MATTER OF an Application by Enbridge Gas Distribution Inc. for an Order or Orders approving or fixing just and reasonable rates and other charges for the sale, distribution, transmission and storage of gas commencing October 1, 2002. 3 RP-2002-0133 4 5 JUNE 2003 5 HEARING HELD AT TORONTO, ONTARIO 6 APPEARANCES 7 PAT MORAN Board Counsel COLIN SCHUCH Board Staff SUZANNE TONG Board Staff FRED CASS EGD TANYA PERSAD EGD BRIAN DINGWALL HVAC ROBERT WARREN CAC MICHAEL JANIGAN VECC PETER THOMPSON IGUA JAY SHEPHERD OPSBA 8 TABLE OF CONTENTS 9 PRELIMINARY MATTERS: [19] CAC, IGUA, VECC - PANEL 1: JOHANNES BAUER [61] EXAMINATION BY MR. WARREN: [67] CROSS-EXAMINATION BY MR. CASS: [170] CROSS-EXAMINATION BY MR. MORAN: [666] --- In-camera session commenced at 12:20 p.m. [714] --- In-camera session concluded at 12:22 p.m. [726] PROCEDURAL MATTERS: [748] RE-EXAMINATION BY MR. WARREN: [779] QUESTIONS FROM THE BOARD: [824] PROCEDURAL MATTERS: [903] 10 EXHIBITS 11 EXHIBIT NO. K.21.8: FORM ERLY EXHIBIT X.21.8 [294] EXHIBIT K.29.1: EVIDE NCE OF JOHANNES M. BAUER ON BEHALF OF CONSUMERS' ASSOCIATIO N OF CANADA, INDUSTRIAL GAS USERS' ASSOCIATIO N, AND ONTARIO COALITION AGAINST POVERTY DATED NOVEMBER 12TH, 1998 [514] 12 UNDERTAKINGS 13 UNDERTAKING NO. J.29.1: TO PROVIDE THE ACTUAL AVOIDED COSTS/MARGINAL AVOIDED COSTS ASSOCIATED WITH THE OUTSOURCING OF FUNCTIONS TO EOS AND EGS [929] 14 --- Upon commencing at 9:36 a.m. 15 MR. BETTS: Thank you, everybody. Please be seated. 16 Good morning, everybody, and welcome back to day 29 of this hearing with respect to application RP-2002-0133. 17 Before we begin, are there any preliminary matters? 18 Mr. Cass. 19 PRELIMINARY MATTERS: 20 MR. CASS: Thank you, Mr. Chairman. If I might begin by addressing some undertaking responses. Yesterday, a letter went to the Board and all parties with a number of undertaking responses. These were the responses to Undertakings J.23.1, J.23.5, J.27.2, and J.28.3. 21 As I said, this letter did go to all concerned and we did bring additional copies and attachments with us today in case anyone needs that. 22 MR. BETTS: Thank you, Mr. Cass. Anything else? 23 MR. CASS: Yes Mr. Chairman. We have some more undertaking responses this morning. First there are the responses to Undertakings J.23.3 and J.23.4 and also the responses to Undertakings J.28.1 and J.28.7. 24 MR. BETTS: Thank you. Anything else? 25 MR. CASS: That's all for now, Mr. Chairman. Thank you. 26 MR. BETTS: Thank you very much. Are there any other preliminary matters? 27 Mr. Dingwall. 28 MR. DINGWALL: Thank you, sir. Last week I had the opportunity to inform the Board that John Bergsma who had been intended to provide evidence on behalf of HVAC Coalition had taken ill and had had emergency surgery. To update the Board with respect to that, Mr. Bergsma is currently recovering from surgery, will be in the hospital for a further period of time and from what I understand will require further surgery. 29 To that extent, Mr. Bergsma's present condition and his level of medication make it somewhat uncertain to ascertain a date by which time Mr. Bergsma would be available for an examination in chief or for cross-examination. In terms of what's happened to date, there have been no interrogatories requested of Mr. Bergsma but I understand that there may be some parties that wish to cross-examine Mr. Bergsma. 30 So to that end, given that the Board appears to have a fairly firm date in mind of Monday by which the evidence must be completed, it doesn't look like Mr. Bergsma will be available for cross-examination for that date. 31 Given that, we've done some searching among coalition members and among other individuals within the Lennox company, Lennox being the proponent of evidence on behalf of the HVAC Coalition, and determined that there is not a individual with a similar background that would be able to speak to the bulk of Mr. Bergsma's evidence within the time frame that the Board would like to complete evidence in this matter. 32 It thus appears that Mr. Bergsma's evidence will have to be given whatever weight the Board feels it can be given, absent the testing. The Coalition has, though, secured the availability of the consultant who prepared the survey which was referenced in Mr. Bergsma's evidence and filed as an attachment for testing and given the constraints of the Board and the timing and the need to complete this hearing in order to line up matters for other hearings, it's my suggestion that we somehow canvass the other parties to this proceeding as to whether or not they would wish to test the evidence of that survey and if they wish to, then we'll make the individual who prepared the survey available. 33 If they do not wish to, then it appears that once we're done today, then we'll be concluded with the evidentiary phase. 34 MR. BETTS: Thank you. Perhaps -- and that's a very reasonable position and first of all, the Board is pleased to hear that Mr. Bergsma is recovering and doing well. Pass on our regards with respect to that. 35 Could I get some indication now from those present whether they wish to make any submission based on Mr. Dingwall's recommendation on the handling of the evidence that was initially brought forward by Mr. Bergsma? The suggestion being that if it would assist parties in having the consultant that developed the survey here to answer questions, that that could be arranged. 36 Any comments from those present? 37 Mr. Cass? 38 MR. CASS: Mr. Chairman, it was our intention to cross-examine Mr. Bergsma until his unfortunate medical difficulty. I don't see that having the person who did the survey would be in any way a substitute for that. 39 Could we perhaps leave it that we would speak amongst ourselves about this over the break and then come back to the Board with our comment about what Mr. Dingwall has said? 40 MR. BETTS: Thank you. That's a very good suggestion and perhaps if any of the parties are aware of any parties that would have a particular interest in this as well, either Board Staff or someone else could contact them to solicit their thoughts on it as well. 41 Thank you, Mr. Dingwall. We will we'll try and deal with this a little later in the day, then. 42 MR. DINGWALL: Thank you, sir. 43 MR. BETTS: Are there any other preliminary matters? 44 Mr. Moran, perhaps we should ask you if you wouldn't mind to give us an update on the status of the transcripts with respect to redactions. 45 MR. MORAN: Yes, Mr. Chair. The volumes 21 and 22 have not yet been produced because of some logistical difficulties where I think communications led to the removal of the spaces that indicated the redactions. Somebody thought that the spaces were a mistake and they were removed and that has slowed things down a bit. But we hope shortly to be able to release the redacted version of the transcript along the lines that the Board accepted. 46 For the subsequent volumes, again there was some logistical difficulties in delivering the unredacted versions to parties to review. The parties have been reviewing those yesterday and have indicated to me that they are -- they will be in a position to propose redactions at some point today. And once there's an opportunity to review those proposed redactions then if there's any concerns or issues those will be brought to the Board at the earliest possible opportunity. And I guess part of that would depend on when the Board plans to reconvene again and how the HVAC issue shakes down. 47 MR. BETTS: Okay. And Mr. Moran, perhaps -- I guess based on that update, can you project when the final redacted versions and again we're not certain what will happen in today's transcript, but when the final redacted versions of those volumes that we have finished already will be issued? Is that early next week? 48 MR. MORAN: For volume 21 and 22, the hope is to get those out this week and for the remaining volumes, I suspect that might not be possible before the end of this week but it would be early next week. 49 MR. BETTS: Okay. Thank you. And as I stated, we will enter today's session on the basis of it being open and public. If any parties feel as though they have to ask questions of the witness with respect to any confidential -- or knowledge that he has of confidential discussions or evidence in this hearing, then we will at that point go into the in-camera session if that's agreeable. 50 Mr. Warren, will you be leading the witness in the examination in chief? 51 MR. WARREN: I will be, sir; although, I should advise the Board that to the extent that I miss things or otherwise make mistakes, one of Thompson or Janigan will intervene and push me aside. 52 So subject to that limitation, sir, I'm the one who's selected. 53 I should say for the record, Mr. Chairman, so that everyone is clear on this, Dr. Bauer has been provided by us with the following confidential material, what I will call the X.21.1 and following series of exhibits, which were the first of the confidential exhibits that were filed. He was also provided with the confidential material that followed from your second ruling, which we've referred to informally in these proceedings as the 1.A and 1.B portions of it. 54 He has been provided with the undertaking responses that came in late last week. I don't have all of the numbers, but I think I can refer to them generally as the ones that came in last Thursday or Friday. He has been provided with the transcripts of the confidential sessions, save and except for Monday's session, which we weren't able to get a hold of in time to give it to Dr. Bauer. He has not been provided with the Accenture agreements. That was a deliberate choice on our part with the concurrence of Dr. Bauer. 55 So that is the extent of the confidential material that he has received. It is not our intention collectively to ask him any questions this morning that would elicit answers dealing with the confidential information. So from that point of view, we have no objection to this matter proceeding on the public record, sir. 56 MR. BETTS: Very well, and that would certainly satisfy the Board's needs. 57 And as other parties wish to cross-examine the witness, it may then be necessary to go in camera, in which case the Board will be willing to do so. 58 MR. WARREN: I have alerted Dr. Bauer to the fact that if he uses any numbers at all, he is to press an imaginary button on the desk in front of him and alert us all and wave a flag or something. 59 Could I then tender on behalf of the CAC, IGUA, and VECC Dr. Johannes Bauer, who needs to be sworn, I think. 60 MR. BETTS: Thank you. 61 CAC, IGUA, VECC - PANEL 1: JOHANNES BAUER 62 J.BAUER; Sworn. 63 MR. BETTS: The witness has been sworn in. 64 Welcome, Dr. Bauer. 65 And, Mr. Warren, please proceed. 66 MR. BAUER: Good morning. 67 EXAMINATION BY MR. WARREN: 68 MR. WARREN: Dr. Bauer, just as a preliminary matter, did you prepare certain prefiled evidence in this proceeding on behalf of the CAC, IGUA, and VECC, and it has been marked Exhibit L.2 in this proceeding. 69 MR. BAUER: Yes, I did. 70 MR. WARREN: And did you respond to a number of interrogatories that were delivered to you in this proceeding? 71 MR. BAUER: Yes. 72 MR. WARREN: And do you adopt the prefiled evidence and the interrogatory responses? 73 MR. BAUER: With one modification. 74 MR. WARREN: Please. 75 MR. BAUER: In my prefiled evidence on page 4, first paragraph that starts with, "The evidence in EGD's case..." I would like to delete the last sentence, because it turns out it was based on misleading information that I had received. 76 Apparently, CWLP was not sold to Accenture, and the sentence is based on this mistake and assumption, so I would like to delete it. 77 MR. WARREN: Thank you. 78 MR. BAUER: Other than that, I accept the evidence as well as the interrogatory answers. 79 MR. WARREN: Thank you. 80 Mr. Chairman, Mr. Cass and I have not discussed this, whether there is any issue with respect to qualifying Dr. Bauer as an expert. 81 MR. CASS: There is no issue, Mr. Chairman. 82 MR. WARREN: Thank you, Mr. Chairman. 83 Just before I formally tender him as an expert, since I don't believe he has testified before either you or Mr. Dominy, I'd ask that Dr. Bauer do two things: 84 First of all, are there any updates or changes to your CV that you'd like to bring to the attention of the Board? 85 MR. BAUER: Only marginal ones. For example, my official title at the Institute of Public Utilities has been changed to senior fellow, and as of July 1, 2003, I will be a full professor in the department of telecommunication. 86 MR. WARREN: Thank you for those changes. And as I say, given that you've not, as I recollect, testified before either Mr. Dominy or Mr. Betts, perhaps you could give the Board a brief -- panel members a brief overview of your present position, your educational background, and your experience in the area of utility regulation and, in particular, performance-based regulation. 87 MR. BAUER: I'm presently an associate professor in the department of telecommunication at Michigan State University. I'm also the associate director of the Quello Center for Telecommunication Management & Law, and I'm, as I said before, a senior fellow at the Institute of Public Utilities, which does work with American regulators and American utility industries on issues of public utility regulation. 88 My background is in economics. I received a Ph.D in economics from the University of Economics and Business Administration in 1989 and have dealt throughout my career with issues of infrastructure regulation in general, which includes telecommunications but also other network-based industries, electricity, natural gas, a little bit of work on transportation issues. 89 Three years ago I spent one year at the Center for Infrastructure Design and Management in the Netherlands, which is actually engaged in a very large research project on what we call "next-generation infrastructure issues," a very broad attempt to look at regulatory issues, public policy issues, as well as management issues. 90 MR. WARREN: And have you had occasion, Dr. Bauer, in the course of your experience to write papers and make presentations on the issue of natural gas and electricity regulation in general and performance-based regulation in particular? 91 MR. BAUER: I did publish on performance-based regulation and gave many more talks on performance-based regulation. I am regularly involved in educational programs, seminars for industry but regulators as well, that address those issues, and I've had opportunities frequently to talk about performance-based regulation. 92 MR. WARREN: Were you, Dr. Bauer, at one point in the early days of consideration of performance-based regulation by this regulator asked by the Board to make a presentation on the general principles that inform performance-based regulation? 93 MR. BAUER: Yes, I was. 94 MR. WARREN: In addition to that, sir, have you testified and were you accepted as an expert in the performance-based regulation applications, if I can call them that, of both Union Gas and what is now known as Enbridge Gas Distribution? 95 MR. BAUER: Yes. 96 MR. WARREN: Okay. 97 Mr. Chairman, I would like to tender Dr. Bauer as an expert in -- I guess, generally in deregulation of the natural gas industry and more particularly on issues of performance-based regulation. 98 MR. BETTS: Are there any questions or submissions from any parties present? 99 The Board accepts Dr. Bauer as an expert. Thank you. 100 MR. WARREN: Thank you, first to Mr. Cass and then to the Board. 101 Can I begin, Dr. Bauer, by taking you back a few years. Were you a witness in the 497-01 case, which I will refer to as the targeted performance-based regulation case of what is now Enbridge Gas Distribution? 102 MR. BAUER: Yes. 103 MR. WARREN: And did you give evidence in that case on behalf of the same set of clients, CAC, IGUA, and I believe it was VECC -- it may have been its predecessor OCAP, but nothing turns on it -- with respect to what is now Enbridge Gas Distribution's proposal for performance-based regulation? 104 MR. BAUER: Yes. 105 MR. WARREN: Okay. Can I begin first, Dr. Bauer, by asking you what generally are the expectations or, I guess, more particularly your expectations with respect to the operation of that TPBR plan? 106 MR. BAUER: The goal of any PBR plan is to achieve sustainable efficiency gains, and the way performance-based regulation tries to achieve this goal is by allowing the shareholders of the utility temporarily to keep efficiency gains in the form of increased earnings. 107 The most important form of efficiency gain, of course, that one would expect are cost savings. Therefore, if costs go down, the PBR plan has specified a revenue for those costs. The difference is the incentive that shareholders of the utilities receive that will hopefully incent management to manage a utility more efficiently. 108 Now, typically, in PBR plans, there are also attempts to let ratepayers benefit in those gains. In some cases, upfront mechanisms are established that allow ratepayers to benefit during the plan period, and in the 497 case, this was done in the form of a small consumer dividend, .47 percent that was added to the long-run productivity trend. 109 Generally though, ratepayer benefits will materialize when a plan is being reconsidered and rebased, and at that point in time, one can look at the experience during the PBR plan and make a new assessment as to what the level, in this case, of operations and maintenance expenses should be. 110 What is interesting is that very often, performance-based regulation plans lead to efficiency gains that nobody anticipated. And this is very often due to the fact that the changed incentive structure of PBR really leads management to consider new ways of conducting business and there is a number of plans where, in fact, the efficiency gains were much higher than was originally anticipated when the plan was put into place. But the most important fact of performance-based regulation is the goal to achieve sustainable efficiency gains by incenting a management, via shareholder benefits, to look for those efficiency improvements. 111 MR. WARREN: Now, did you, sir, at the time, and is it reflected in your testimony at the time, have concerns about the TPBR scheme that was being proposed by what is now Enbridge Gas Distribution? 112 MR. BAUER: Yes, there were several concerns that were raised in my evidence, and I think also in cross-examination. One was the concern about the narrowness of the plan. At that point in time, most PBR plans, in fact, tried to be comprehensive, perhaps in the form of price cap plans or comprehensive revenue cap plans; whereas, the proposed plan focused narrowly on O&M. There are certain disadvantages by not including the capital cost of the business and that was one of the concerns raised. 113 Secondly, there was concern about the specification of the plan parameters. Performance-based regulation essentially specifies, like, a benchmark on a going-forward basis, if you wish, by looking at the cost inflation that a company faces as well as productivity gains that can be expected during the plan period. 114 And specifying these indexing parameters, in particular, as well as the starting point of O&M, is a science as well as an art. One of the problems that a regulatory agency faces, or the stakeholder faces, is the problem of asymmetric information, the fact that very often, we cannot fully assess the quality of the information that is available and that may include, in fact, management as well. 115 One of the advantages of PBR is that in the course of the plan, because of the new incentives, the degree of asymmetry, in fact, is being reduced, the activities, the actions of management under the PBR plan, in fact, help reduce that asymmetry. If you wish, information is revealed that reflects the true operating conditions of the utility more precisely than what we knew at the time when the plan was put into place. 116 Therefore, there was concern whether the plan design, in fact, reflected the true situation of the utility. There were concerns about the level of operations and maintenance costs. There were concerns about the productivity offset that was put into the formula. I felt it was relatively low, and there were concerns about the inflation rate that was used in the plan design which was the Ontario CPI, as far as I can recall. 117 Now, what happens if plan parameters are mis-specified, either too generous or too challenging, is that it becomes visible as the plan unfolds in the earning state of the utility. If the plan is too generous, it is relatively easy for the utility to do better than the plan, and as a result, costs will be significantly below the envelope, and implicitly, earnings will be higher, other things equal, of course. 118 If the plan is too challenging, the opposite is the case, the costs will be very close to the plan, maybe even above the plan, and earnings will be below the expectations. My concern was that the plan as specified was fairly generous given the information basis I had. 119 Last, but not least, the third major concern was - this was pointed out in the cross-examination in more detail - that there may be incentives in that arrangement for the utility to shift some of its activities to unregulated affiliates and in doing so, to shield some of the efficiency gains and make them, so to speak, invisible in the utility. 120 Nevertheless, I have to say my conclusion was that it was meaningful and beneficial to go forward with the PBR plan, because even despite all these disadvantages, I'm of the opinion and the view that PBR has advantages over traditional cost of service regulation. I think that's well expressed in my testimony. 121 MR. WARREN: Dr. Bauer, I'd like to bring you forward then to the point where we're at now, which is the end of the TPBR, at a phase where we're talking about rebasing. I'd like, first, to ask you whether or not the concerns that you had and that you've just summarized have any implications for the rebasing phase? 122 MR. BAUER: Well, the summary of those concerns, in fact, would lead me to believe, and I argued this in my original evidence and I think also in the cross-examination, that at the time of rebasing, it will be important to review in a wholistic, as I call it fashion, the experience during the plan which would include the cost data of the companies involved, would involve earnings information, but other things as well, such as service quality, customer satisfaction. All those parameters really are important in understanding the implications and the effects of PBR. 123 Now, let me give you an example to illustrate one of the concerns that is related, I think, to today's topic, related to this question of outsourcing. Now, as I said in my initial remarks, the goal of PBR is to achieve sustainable efficiency gains. There are several ways this can be done. One would be, let's say, to look for better ways of managing the utility as it existed at the time a PBR plan was established. Let's say you would be able to achieve $30 million annually in efficiency gains. 124 If this efficiency gain were achieved in the utility, you would actually see it in the financial data of the utility. I'm giving this example always assuming that everything else remains the same. Of course, you know, in the business world, many other parameters change also, but if we would just look at the impact of the PBR plan. 125 The second opportunity might be that the utility's management finds opportunities to outsource services to a third party. In this case, of course, management would only do it if the price paid for that service would be below threshold. That would be meaningful from a financial management point of view. Let's say you are able to buy your services again at a cost that is $30 million below the what the threshold would be. Again, the $30 million would show up in the utility's financial statement as a savings, and other things equal, as a higher earning. 126 The third way to achieve efficiency gains might be to outsource some services to an affiliate. Now, this raises some unique concerns that are only partially addressed by PBR because in that latter case, the utility could actually charge -- the affiliate could charge the utility a price that is equal to the PBR envelope, realize the $30 million of efficiency gains in the unregulated affiliate but you would not see it in the utility's financial statements. And that's one of the challenges that is actually raised in reviewing a plan and in rebasing it, that in the context of holding company structures, efficiency gains may materialize outside of the utility, not be visible if you just look at the financial data of the utility. Yet for all practical purposes, those efficiency gains will have to be attributed to this PBR plan and will have to be considered in rebasing the parameters of the plan. 127 MR. WARREN: As the Board works its way through those issues in tracking efficiency gains or determining whether they are where they are, what principles do you say should guide the Board in assessing the cost claims of the utility on rebasing? 128 DR. BAUER: Well, I think one has to look very carefully at the market situation of those services that are being provided under the PBR plan, okay? If a competitive [inaudible] price is available for services that are being outsourced, be it third parties or affiliates, then that price would be the relevant information to consider. 129 If such a price is not available, one has to find a substitute and there are really two potential ways of how this could be achieved. One is to use some sort of a benchmark. The other would be to look at the cost information of those who provide services as well as the risk situation of the business in which those service providers are operating and come to an assessment of what a reasonable, fair-market value would be. 130 MR. WARREN: Before we turn specifically to the issue of assessing pricing or cost information, is there -- there has been some discussion back and forth in the record in this proceeding and in particular in the last Enbridge case, the 0032 case, about varying principles, one of which is the so-called harmless principle, holding ratepayers harmless and one is a benefit to ratepayers. 131 In the context that we're now in in this case which is the determination of benefits and how they should be allocated, the efficiencies arising out of TPBR and how they should be allocated, do you have any comment on which principles should inform the Board, broadly speaking, as it approaches that task? 132 DR. BAUER: Well speaking of those overarching principles, in previous cases, in fact, I have advocated -- in the context of the utility diversification -- I have advocated a no-harm-to-the-ratepayer approach which seems to make sense in that particular context. Here, however, we are talking core utility functions and services and not the question of whether or not the utility should get into let's say the telecommunications business. And in seems to me in the context of core utility services, that standard will have to be the benefit to the ratepayer standard as an overarching guiding principle. 133 MR. WARREN: Dr. Bauer, then, let me from that to a more detailed discussion of issues of pricing, and you spoke a moment ago about the issue of benchmarking. I want to ask you first generally: Should, in your opinion, the Board rely on benchmarking to establish fair-market value, or as the utility sometimes refers to it, market-based prices? 134 DR. BAUER: Benchmarking is a technique that is widely used by management and I think it has its value, but one needs to differentiate between the use of benchmarking in the context of management decisions and the use of benchmarking in the context of a regulatory decision. Now, I'm much more convinced that benchmarking is valuable as a management tool to make decisions from a management perspective. 135 For example, if you consider entering a market, let's say the market for -- let's go outside the utility for a moment, the market for telecommunications services -- it will be very meaningful to benchmark your own expected efficiency in that market against existing competitors because it would yield important information whether it makes sense to go forward. Likewise, in considering let's say sourcing decisions, one could look at the cost of outsourcing as opposed to the cost of internal utility production and in that comparison, which is a form of benchmarking, make a decision what the better strategy of the utility would be. 136 So benchmarking is widely used in the context of management decisions. It is a very different set of issues, though, if we think of benchmarking in the context of regulation and that it's much less convincing, in my view, to use benchmarking to determine market proxies for prices for which no market exists. And let me raise three concerns that one needs to address in this context. 137 One is that in the utility industries where we typically observe monopoly utilities, or monopolistic arrangements, we can only observe monopoly prices. So by using those as benchmarks really do not get a proxy for a competitive price, we get a proxy for a monopoly price. That's one concern that needs to be overcome. 138 Secondly, looking at let's say a price for a service or the level of costs in other items that could be benchmarked. One has to understand that there are other causal factors that influence the level of the price or the cost data that we're looking at. For example, are the utilities different size? Their customer density varies widely, soil conditions different, weather conditions differ, regulatory conditions differ, legal frameworks differ. There are many factors that influence the level of our independent variable that you would like to benchmark. And unless we are successful in factoring out those factors and controlling for those, the benchmark is once again -- may be misleading. 139 Let me give you an example. If you follow me through a very simplified example just to illustrate this point. You have two gas utilities. In one case, customers are densely clustered, in another case they are spread far apart. Let's assume for a moment that your operations and maintenance costs are related to the length of pipes that you need to serve those customers. The second utility - I said it's a simplified example, there are other factors, of course - but the second utility that has many more miles of pipes in the ground more or less without its own fault will have higher O&M costs and will look - in a direct benchmarking it doesn't take this factor into account - much worse than the other utility. And there's therefore a risk that benchmarking it does not control for those external factors will, in fact, reward some utilities for reasons that have nothing to do with their own management decisions but perhaps could be more characterized as being lucky. 140 Thirdly, the first two issues I think are in principle solvable. There are ways to use sophisticated methods to address those issues in principle. But the third issue, I think, is unsolvable, not even the most sophisticated statistics. And that is the question, what is the relevant benchmark? Is the average of North American utilities a relevant benchmark? Is the worst utility of the pack the relevant best-performing utility? 141 And I don't know how one would be able to find an answer to this question. It's an unsolvable question, in my view. And that's really what makes it difficult to use benchmarking as a meaningful proxy for market prices or as a meaningful proxy to assess, you know, the efficiency of operations. 142 So these three concerns, the lack of competitive information, the problem caused by other causal factors that influence the variable that you want to benchmark, and thirdly, the very fundamental question what the relevant benchmark is, create numerous difficulties using benchmarks in regulatory proceedings. 143 None of those really matter as much in the first scenario when benchmarking is used for management decisions. 144 MR. WARREN: We have, in this case, Dr. Bauer, evidence which has been introduced by the utility first from the Pacific Economics Group, Dr. Lowry, and also from Mr. Louth with respect to one particular contractual arrangement. 145 In your opinion first, Dr. Bauer, do those pieces of evidence overcome the concerns that you've just described? 146 MR. BAUER: They don't overcome all three of them. I think Dr. Lowry's evidence is statistically unsophisticated. I know Dr. Lowry well, and I have, you know, used him in my own seminars as a speaker, and I know he does -- he does a good job looking at statistical data, but it does not overcome the first issue that -- the absence of competitive data, nor the last most fundamental issue, the question: What's the relevant benchmark? 147 In any case, he succeeds in looking at large numbers of utilities; therefore, one -- you know, the problems created by just looking at one utility are overcome. He succeeds -- apparently, although, I haven't seen this, there's a reference to a statistical model that he has used in the cross-examination. I haven't seen that. Perhaps that solves some of the statistical issues, but the first and the third issue is not overcome. 148 With regard to the evidence by the consultant Dr. Louth, I think the problem there is a small numbers issue. Again, the problem is this looking at another utility that is not in a -- is not a comparison with the competitive market, so I think that second set of evidence succeeds even less in overcoming those concerns. 149 MR. WARREN: In your opinion, should the Board rely on the evidence of Dr. Lowry and Mr. Louth in determining whether or not the prices charged in the affiliate transactions represent either fair market value or market based price? 150 MR. BAUER: It is one consideration, but it's insufficient to make this determination. 151 MR. WARREN: Now, given the concerns you've expressed about benchmarking, how, in your opinion, should the Board determine the amount of the efficiency gains transferred to affiliates through outsourcing arrangements? 152 MR. BAUER: Well, since there are no market prices available, there's no proxies available that meet the needs of the regulatory proceeding, the only way to do this would be to look at the cost of the service provider and start from the cost of the service provider to assess the efficiency gains that were realized in an affiliate. 153 MR. WARREN: Finally, Dr. Bauer, what recommendations do you make to the Board about how it should approach, I guess broadly, the task of rebasing and, more specifically, the task of assessing the amount of the efficiency gains and where they should be allocated? 154 MR. BAUER: Well, I laid out those principles, I think, already in my evidence in the 497 case and, I think, as well as in the cross-examination of that case. 155 In a nutshell, the way to achieve this would be to look at the actual cost data at the end of the PBR plan and use these as a base on a going-forward basis to reassess O&M expenses. One would have to make adjustments that relate to changes in the business situation and other expected changes, but the base should be the actuals achieved in the year, the last year of the PBR plan. 156 MR. WARREN: Those are my questions. Thank you, Dr. Bauer. 157 And thank you, Mr. Chairman. 158 MR. BETTS: Thank you, Mr. Warren. 159 Are there any questions from parties that, I guess, are in support of the position of CAC and Dr. Bauer? 160 There appear to be no questions. 161 May I have questions, then, from parties that wish to bring forward a different viewpoint. 162 Mr. Cass? 163 MR. CASS: I think that would be me, Mr. Chairman. 164 MR. BETTS: I think that would be you. Are there any other parties -- 165 MR. CASS: I don't see anyone else leaping forward. 166 MR. WARREN: There's always a major surprise in these hearings, isn't there, Mr. Chairman? 167 MR. BETTS: Are there any other parties that would fall into that category? 168 Then, Mr. Cass, please proceed. 169 MR. CASS: Thank you, sir. 170 CROSS-EXAMINATION BY MR. CASS: 171 MR. CASS: Now, Dr. Bauer, as you've indicated, you submitted prefiled evidence in this case dated January 21st, 2003. That's been marked as Exhibit L.2. 172 MR. BAUER: Correct. 173 MR. CASS: And it's my understanding, sir, that before preparing this evidence, you did not, in fact, look at any of the evidence of the applicant Enbridge Gas Distribution; is that correct? 174 MR. BAUER: That is correct. 175 MR. CASS: And just to be specific, you didn't look at any prefiled evidence from the applicant. You didn't look at any responses to interrogatories or -- 176 MR. BAUER: No. 177 MR. CASS: -- any evidence at all? 178 MR. BAUER: No, I mean, all the evidence that I had available is actually referred to in my prefiled evidence, so it's the Board decision -- previous decisions, and I had information as to the general issues and was actually asked to comment on the principles that should guide dealing with those issues, outsourcing in the context of PBR. 179 MR. CASS: So you had the previous Board decision, and you had information generally about the issue. 180 MR. BAUER: Right. I had the December 2002 decision. 181 MR. CASS: Oh, yes, of course. Thank you. Yes. 182 And as I think you indicated, then, in an interrogatory response, your evidence is conceptual, then. It's not fact-specific to the case put forward by Enbridge Gas Distribution. It's conceptual; is that fair? 183 MR. BAUER: Right. Right. 184 MR. CASS: Thank you. Now, given what you've said about your information as to the issues in this case, I just would like to understand in what form you received that information. Did somebody give you something in writing that spelled out what the issues were that you ought to address? 185 MR. BAUER: There was an agreement, which I usually use when I am hired as an expert, that laid out the issues to be addressed, essentially how to deal with outsourcing issues in the context of PBR, in the context of rebasing, performance-based regulatory planning. 186 Which means that it's more or less summarized in the second paragraph of my evidence. That's essentially how far the mandate went. 187 MR. CASS: Yes. Well, you used the word "agreement," and I certainly don't want to get into any questions about agreements you might have had with your clients, but I'm just wondering if there was a document that spelled out for you, Here are what our issues are in this case, that your clients would like you to address. 188 MR. BAUER: Yeah, we had -- we had in writing a sheet that specified the issues that were relevant. 189 MR. CASS: Would it be possible to see that? 190 MR. BAUER: I'm sure it can be produced. I don't have it here, but I think we can -- 191 MR. WARREN: Mr. Chairman, I'm actually frankly somewhat surprised that Mr. Cass would ask the question. Mr. Cass asked for this in his first interrogatory to the -- to Dr. Bauer, and I gave him an answer to that on behalf of the three parties in which we said that the communications between Dr. Bauer and his clients were confidential, were privileged, and that we didn't intend to produce them. That was my position then and it's my position today. 192 MR. CASS: All right. Well, I won't argue about it, Mr. Chairman, maybe I'll just carry on with some related questions. 193 MR. BETTS: Thank you. 194 MR. CASS: I hear Mr. Warren's position and I don't agree with it, but I won't argue the point. 195 Dr. Bauer, this is not a situation where you were advising a party that could be perceived to be neutral, like the Board, for example - I know in the past you've advised the Board - is it? 196 MR. BAUER: My testimony was supposed to advise the Board; in other words, an agency looking for the principles guiding decisions that, to my understanding, were in front of this agency. 197 MR. CASS: Fair enough. But you weren't taking your instructions from the neutral party, the Board, you were taking instructions from a group of parties who actually have positions on the issues in this case, right? 198 MR. BAUER: I wasn't taking instructions, I was given a question to answer which falls far short, I would say, of instructions, and then was given full latitude to analyze that issue based on my expertise and my knowledge. 199 MR. CASS: Okay. Well, again, I'm just trying to understand how we can be satisfied, without knowing the nature of what you received from your clients, that it wasn't in any way coloured by the your client's own positions on the issues. Can you help me with that? 200 MR. BAUER: Well, I think your assurance is, in fact, my own reputation, because I'm not interested in being known as somebody who follows instructions. I'm interested in maintaining my reputation as an independent expert who looks as an issue based on economic principles, based on principles derived from regulatory practice and theory, and I would, in fact, decline an assignment that comes with instructions and strings attached. 201 MR. CASS: Oh, of course. And please understand I'm not in any way questioning your reputation, quite the opposite. I'm just trying to understand how, without reading the evidence in the case, you get a sense of what this case is about when your source of information is simply a group of parties with positions on the issues. 202 MR. BAUER: Well, as I said, it's not just that. I mean, there is other evidence that I refer to. For example, a big source for understanding the issues was the Board's decision of December 13, I guess it was, 2002, which goes at length to the question of outsourcing and what the issues were that were being raised, and you know, what the different stakeholder's positions were. That was sufficient for me to -- well, that's what I used in terms of responding to the question of coming up -- addressing the principles that the Board should use to look at those issues. And we're talking 80, 90 pages of a decision that lays out those issues in quite some detail. 203 MR. CASS: Well, did your clients tell you what their positions were on issues? Did they, for example, tell you what their position is in respect of what should happen on rebasing of the TPBR plan? 204 MR. BAUER: No, they had their views, I presume, but they didn't tell me what I was supposed to think. In fact, my position that I adopt here is very consistent with what I have argued throughout my professional career as to what should happen on the review of plans. And you may recall, in fact, that during 497, I argued repeatedly that more detailed provisions would be needed for the rebasing of the plan, that I felt that that was a very crucial issue. 205 MR. CASS: So other than what's been expressed in your own views, Dr. Bauer, you don't actually know, then, what your client's positions are on the issues, such as the issue of rebasing? 206 MR. BAUER: Well, they, of course, communicated those issues to me, but you know, it's like my colleagues communicating views to me on papers I write, you know, sometimes I accept them, I agree with them, sometimes I do not agree with them. 207 MR. CASS: Fair enough. And again, I'm not asking -- but they did communicate them to you? 208 MR. BAUER: Right. 209 MR. CASS: They did communicate them to you? 210 MR. BAUER: Yes. 211 MR. CASS: And when did that happen? 212 MR. BAUER: Throughout the process. I mean, essentially -- it's very difficult to pinpoint this because it seems that the information unfolded, you know, over a very long period of time, and there were updates. Probably, in the case of updates, views were being communicated as well. We had very little discussion before my evidence was filed so a lot of it happened afterwards. 213 If you go back in the time line, for example, I think one of your employees sent me the evidence, as well as interrogatories and other things, I presume early this year, probably February, March. I could look at the time line. So as the figures took shape, perhaps, it was possible to more precisely think about the details of the case, but our conversation was very limited. 214 MR. CASS: Let me just take an example, then, if you don't mind. In your evidence, and we can turn it up, if you wish, you describe the outsourcing by Enbridge Gas Distribution as massive. And I'm wondering, did you do some sort of assessment of your own of these outsourcing arrangements to be able to decide that they were massive or did your clients tell you this? 215 MR. BAUER: No, I was aware of the magnitude of activities that had been transferred to the affiliate which was sufficient -- I mean, massive in my view is not a precise term. Massive just means a significant share of revenues is being outsourced. 216 You asked me in an interrogatory for a specific number, I can't give you one. Probably, I don't know, go above 25 percent, perhaps, I would think about massive, but there's really no specific number for it. 217 MR. CASS: Fair enough, but my question is just to confirm that that description came from you, rather than your client. 218 MR. BAUER: Yes. 219 MR. CASS: So can we then talk about some of the outsourcing arrangements. What about the outsourcing to Enbridge Operational Services then, what's your understanding of the details of that outsourcing? 220 MR. BAUER: My understanding is that activities that used to be taken care of in Toronto were moved to Alberta, but when I spoke of massive, I looked at the totality, not just, you know, parts of outsourcing. 221 MR. CASS: Well, did you consider the outsourcing to Enbridge Operational Services, on its own, to be massive? 222 MR. BAUER: Well, on its own, it's a fairly limited part, but if you look at all the outsourcing that happened, and that needs to be considered in looking at this case, I think my conclusion would be it is a very significant amount of outsourcing. That really was the basis of my statement, not, you know, individual subcomponents. 223 MR. CASS: What's your understanding, then, of what was entailed in the outsourcing to Enbridge Operational Services? 224 MR. BAUER: Well, the biggest one obviously was the -- you mean Enbridge Operational Services? As far as I recall, the information that I, in fact, saw later, the movement of staff, the company argued that, you know, you can staff, supervise better. So in that sense, that was just one smaller part of the operations. 225 MR. CASS: What sort of dollar value do you understand it to be? 226 MR. BAUER: I didn't -- I don't have any figures. 227 MR. CASS: Okay. What about -- sorry. 228 MR. BAUER: Just not in a dollar value. 229 MR. CASS: What about the outsourcing to Enbridge Gas Services, what is your understanding of the details of that one? 230 MR. BAUER: Well, it was known to me that the number of employees was -- say that again, Enbridge Gas Services? 231 MR. CASS: Correct. 232 MR. BAUER: Let's me reiterate. I was asked to comment on the full project of outsourcing. My comments relate to the full project of outsourcing, not to any individual ones. 233 MR. CASS: I see. Do you know anything about the details of the outsourcing to Enbridge Gas Services? 234 MR. BAUER: Well, I have, subsequently to writing this evidence, been able to look at interrogatory answers. I have looked at the company's filing, yes. 235 MR. CASS: And what's your sense of the dollar value of that one? 236 MR. BAUER: I was not asked to look at the specific dollar values of these outsourcing arrangements. 237 MR. CASS: Okay. I'm sorry. 238 DR. BAUER: What was sufficient for my analysis was to know that the total, you know, amount of outsourcing was more than half of the O&M envelope or in that category, if you look at all the activities together. 239 MR. CASS: More than half of the O&M envelope? 240 DR. BAUER: If you look at all, you know, including the customer-care functions, the -- if you all this together, that a significant portion of the O&M envelope was outsourced to affiliates. 241 MR. CASS: I don't think we need to get into anything confidential here. Can you just give me a sense of the numbers that you would have put together to allow you to conclude it was more than half of the O&M envelope? 242 DR. BAUER: Well, the -- in that category, at least, that's -- that was my impression. 243 MR. CASS: Sorry, which category? 244 DR. BAUER: At around half of the O&M, I think it was, in fact, it was one of the interrogatory responses from which I derived this figure. 245 MR. CASS: I see. So if I were to suggest to you that the outsourcing is less than half of the total O&M, you'd disagree with me, would you? 246 DR. BAUER: No, I mean I would say that I -- I was not asked to study those figures in detail so I'd have to verify it and I trust you that you will have the precise number. 247 MR. CASS: Well I don't actually have the precise number. I wasn't actually expecting your answer that this was more than half so it's caught me a little off guard. Would you know what proportion of the company's total distribution costs that the O&M envelope would represent? 248 DR. BAUER: Well again, I didn't look at detailed figures so I'm hesitant to give you an answer. Usually O&M costs are just a segment, you know, of the total costs because capital costs are very important. 249 MR. CASS: Right. So the answer is no, you wouldn't be able to help me with the proportion of the company's total distribution costs represented by O&M? 250 DR. BAUER: No, I haven't looked at the details. 251 MR. CASS: Okay. Now, just on this subject of whether this outsourcing was massive or not, would you agree with me that the whole point of PBR is to encourage utility management to do big things that they might not try under cost-of-service regulation? 252 DR. BAUER: Absolutely. 253 MR. CASS: Thank you. So can we then perhaps compare this outsourcing to some other examples just to put it into context of how massive this might be. 254 Are you familiar with the outsourcing undertaken in Ontario by Hydro One? 255 DR. BAUER: No. 256 MR. CASS: You know nothing about it at all? 257 DR. BAUER: No. 258 MR. CASS: So if I were to attempt to provide you with some details of that you wouldn't be able to confirm or deny whether, in fact, they're correct. 259 DR. BAUER: No; I was not asked to look into this and I didn't follow it out of my own interest. 260 MR. CASS: All right. Then just taking another example, what about the outsourcing by Ontario Power Generation; are you aware of any of the details of that? 261 DR. BAUER: I'm aware of the case in general but not the details. 262 MR. CASS: Are you aware that there was an outsourcing by that entity involving Cap Gemini Ernst & Young? 263 DR. BAUER: Yes. 264 MR. CASS: Do you know Cap Gemini Ernst & Young are? 265 DR. BAUER: It's a consulting firm that thinks that outsourcing will be a growth business for them. 266 MR. CASS: And do you know what services were included in the outsourcing by Ontario Power Generation? 267 DR. BAUER: Only vaguely, but I assume that some services but as far as I recall. But this is really not a detailed knowledge of those similar to those outsourced by Enbridge. 268 MR. CASS: Was it a massive outsourcing by Ontario Power Generation? 269 DR. BAUER: As I said, I don't know the details. 270 MR. CASS: Let's take another Canadian province. Are you aware of the outsourcing by companies in the ATCO family in Alberta? 271 DR. BAUER: Yes. 272 MR. CASS: And what was the nature of that outsourcing? 273 DR. BAUER: Well similar, let me state one thing very clearly here, okay. In and my evidence states it also very clearly, is that I don't think outsourcing is a bad thing. I don't think massive outsourcing is a bad thing. All I'm saying is it raises certain issues that one needs to consider and I -- in no part can you construe my evidence as arguing against outsourcing per se. 274 I did not think that I needed to do a review of outsourcing arrangements in order to make that assessment. That's why I didn't dedicate time to review those outsourcing arrangements in detail. 275 MR. CASS: Okay. Well, that's useful because the comments you made were exactly where I'm going to be going in a few moments but I wonder if we could just talk about a few others and see what your level of familiarity is. 276 So we talked about ATCO and I'm sorry, were you able to comment as to whether or not that one was massive or not? 277 DR. BAUER: I said I only followed it in a peripheral way so I would hesitate to comment on the magnitude. 278 MR. CASS: Now moving over to British Columbia, there's BC Gas there and of course we know about them because they are also involved with Customer Works Limited Partnership. Do you know the details of outsourcing by BC Gas? 279 DR. BAUER: Again, I don't know the numbers. 280 MR. CASS: Do you know whether that one would be massive? 281 DR. BAUER: As I said, I didn't look into the numbers so I don't know what to comment on that question. 282 MR. CASS: I won't dwell on this any longer. Maybe just one more example, then, if you don't mind because someone else brought it forward in this proceeding, I'm not sure who introduced this but we had marked as Exhibit X.21.8, a document about an outsourcing by B.C. Hydro and I'd be happy to show it to you if you want. But I just wondered, do you have any information about that outsourcing? 283 DR. BAUER: No particulars, no. 284 MR. CASS: Okay. You're aware that it's quite recent; or are you? 285 DR. BAUER: I'm vaguely familiar but I don't know the details. 286 MR. CASS: And then just a question I just wanted, you may not know this I just wondered if you did. According to Exhibit X.21.8, Accenture purports to say that -- I'll just try to find it now -- 287 MR. BETTS: Mr. Cass, that is one of the confidential documents. 288 MR. CASS: Yes, but I don't think there's anything confidential about it, sir. It is a press release, so I think it's publicly available off the Internet. 289 MR. MORAN: That's correct, Mr. Chair, I think at the time we were transferring documents that had been marked in the motion and marking them in the proceeding and I think that one got an X designation by mistake and perhaps this is the opportunity to correct it and perhaps it should simply be remarked as K.21.8. 290 MR. BETTS: Perhaps -- why don't we do that just for the record so it won't bother me whenever I hear the word X pop up or the letter X pop up. So we will remark that to indicate that it's a K exhibit. Thank you. 291 MR. CASS: Thank you, sir. 292 MR. BETTS: And sorry for the interruption. 293 MR. CASS: That's fine, that was helpful. 294 EXHIBIT NO. K.21.8: FORMERLY EXHIBIT X.21.8 295 MR. CASS: Again, Dr. Bauer, you may not know. I just saw this here and with your experience in the utility industry I wondered if you might know the answer to this question. But Accenture says that they "Outsource the customer-management systems for five utilities in North America, representing a customer base of 10 million." 296 Would you have any idea of who those utilities are that have outsourced customer functions to Accenture? 297 DR. BAUER: Well not in detail and let me reiterate that if I thought it would be necessary to review what others are doing, because it is important for my evidence, I would have done it, although I found that the issues really are totally unrelated as to what others are doing. I do not think that outsourcing per se needs to be criticized. I think it is a trend, as I stated in my evidence, that is ongoing in the utility industries. I also receive, as far as I follow it, -- was aware of comments that some utilities, in fact, are reducing the pace of outsourcing. But I don't think it was a crucial issue for my evidence was the magnitude of outsourcing per se. 298 The same issues that we need to discuss here may arise in one way or another in those other cases of outsourcing. 299 MR. CASS: Yes. That was interesting what you said there because in fact, I do recall that your evidence indicated that the level of outsourcing was ebbing and I'm looking, for example at this B.C. Hydro outsourcing which was this year, it appears to be, and so I was wondering on what basis you reached the conclusion that this sort of activity was ebbing given that you don't seem to be familiar with the transactions I'm describing to you. 300 DR. BAUER: I did not say that it is ebbing, I said it seems to be and this was based on talks that I had with utility managers, with other consultants who were in the field as well as, you know, with my cursory reading of trade press articles, let's say in the utilities -- Public Utilities Fortnightly and others. But I indicate that this is -- may be the case. I did not say that this is the case. 301 MR. CASS: Okay. And just to be clear, there's no issue about your expertise in the area of PBR, Dr. Bauer, so don't take my questions in the wrong way as far as that's concerned. But I would assume from what you're saying that specifically as far as outsourcing is concerned, you're not a particular expert in that aspect of utility business? 302 MR. BAUER: I was also not hired into that -- that role; right. 303 MR. CASS: Right. Now, what about benchmarking, sir? Have you ever testified on the results of a benchmarking study that you either performed or directed? 304 MR. BAUER: No. 305 MR. CASS: Have you ever performed or directed a benchmarking study? 306 MR. BAUER: Not in a regulatory proceeding. 307 MR. CASS: Have you written articles, books, or chapters on benchmarking? 308 MR. BAUER: I have written articles that deal with issues that are conceptually similar to benchmarking, yes. 309 MR. CASS: If you have articles on benchmarking, I would like to ask you for them, but I don't want to ask you for things that are going to be irrelevant. Have you specifically written -- 310 MR. BAUER: Not specifically on benchmarking, no. 311 MR. CASS: What about presentations or speeches? Any specifically on benchmarking? 312 MR. BAUER: Well, benchmarking was -- in fact, the presentation that was mentioned before was part of the presentation to the Board five or six years ago. It was part of other presentations that I'm giving to regulators, so the answer is yes. 313 MR. CASS: The presentation you referred to five years ago was the presentation to the Board about PBR? 314 MR. BAUER: Right. 315 MR. CASS: Right. I'm talking about a presentation that would be specifically on the subject of benchmarking. 316 MR. BAUER: No, I haven't done anything. 317 MR. CASS: So just to come back to where you were a moment ago, Dr. Bauer, and I appreciate your helping me with that, you do agree, then, that outsourcing is common? 318 MR. BAUER: Yes. 319 MR. CASS: And more specifically, it is common among energy utilities? 320 MR. BAUER: Yes. 321 MR. CASS: And it is not uncommon for outsourcing arrangements to be large? 322 MR. BAUER: That is true. 323 MR. CASS: And as I think you've said a minute ago, outsourcing, per se, is not an improper thing for a regulated utility to pursue? 324 MR. BAUER: Right. 325 MR. CASS: And I think it's your evidence that where possible, it's desirable to minimize regulatory scrutiny of outsourcing and leave the decisions to management; correct? 326 MR. BAUER: That would be the ideal world of performance-based regulation; that is correct. 327 MR. CASS: And I think you also agreed, from reading your evidence, that outsourcing can yield benefits; correct? 328 MR. BAUER: Yes. 329 MR. CASS: But would you agree with me that to the extent that rates are set in a cost-based environment, that is cost-of-service regulation, outsourcing to affiliates actually could create an incentive for the affiliate to charge the utility high transfer prices? 330 MR. BAUER: Only if the utility is able to recover those in rates. 331 MR. CASS: Yes. 332 MR. BAUER: So if that's the case, yes. 333 MR. CASS: Yes. And so in that sense, an efficient PBR can actually facilitate efficient outsourcing better than cost-of-service; correct? 334 MR. BAUER: It certainly does, and I mention this in my evidence when it comes to third parties. As I indicate in detail, the issue is different with respect to affiliates, because it is a way to -- a vehicle to -- within the envelope of the PBR plan to, in fact, shift efficiency gains to an affiliate. 335 Now, PBR does provide stronger protection than cost-of-service regulation -- again, this is stated in my evidence -- in the sense that such strategies do not make sense over and above the PBR envelopes. There's a ceiling that's being set by the PBR envelope. 336 MR. CASS: Well, in fact, isn't it your evidence that under an efficient incentive plan the -- this Board would not even have to worry about outsourcing? 337 MR. BAUER: If the Board were confident that the parameters of the plan are correctly determined, and if the plan were of a nature that is, I would guess, comprehensive, then I think in theory I would tend to agree with your statement. 338 But as I indicated in my evidence as well as in the examination in chief, I do not think that we are, given the problem of asymmetric information, in a situation where such a perfect plan could be drawn. 339 MR. CASS: All right. Do you have your answers to interrogatories with you, sir? 340 MR. BAUER: Yes. 341 MR. CASS: If I could take you to the response you made to interrogatory number 2 from the Coalition for Efficient Energy Distribution. 342 MR. BAUER: Yes. 343 MR. CASS: The second sentence of your answer says: 344 "Furthermore, if an efficient incentive plan were in place during the planned period, the Board would not have to worry about the details of outsourcing." 345 I take it from what you're saying now, sir, that that would need to be qualified by words like "in theory" or something like that? 346 MR. BAUER: Well, "efficient" refers to a plan that would be drawn up on the conditions of full perfect information, and since -- you know, as I said before, in deciding upon the parameters of a PBR plan, we typically do not have perfect and full information. This is really a theoretical statement only; that is correct. 347 MR. CASS: I see. So you were -- 348 MR. BAUER: So in order to make this more precise, perhaps, you would add in parenthesis, "(only theoretically feasible)"; right. 349 MR. CASS: You were speaking here of a perfect incentive plan, then, were you? 350 MR. BAUER: Right. 351 MR. CASS: And perfection doesn't exist. 352 MR. BAUER: It doesn't exist; that's correct. 353 MR. CASS: All right. And I understand from your evidence that you would agree that the mandate of this Board is to fix or approve just and reasonable rates; correct? 354 MR. BAUER: Yes. 355 MR. CASS: And that flowing from that mandate, the bottom line in respect of outsourcing is whether the outsourcing costs are reasonable; correct? 356 MR. BAUER: Yes. 357 MR. CASS: Okay. And in that regard, if I could take you to page 13 of your evidence. 358 So following page 13, sir, what you do is you propose four alternative solutions that the Board might adopt to address what you call problems raised by outsourcing to affiliates; right? 359 MR. BAUER: Yes. 360 MR. CASS: And then looking at the bottom of page 13, what you're saying is that these four principal options are ones for the purpose of determining the reasonableness of charges; correct? 361 MR. BAUER: Yes. 362 MR. CASS: Okay. Thank you. 363 And I think you would also agree with me, sir, that where possible it is preferable not to have to examine the costs and earnings of unregulated affiliates; right? 364 MR. BAUER: If the evidence available is sufficient to avoid this, it would be an approach that is more compatible with performance-based regulation; correct. 365 MR. CASS: Thank you. And you can turn it up if you wish, but, in fact, I think you say in that same interrogatory response we were looking at, the response to CEED interrogatory number 2, that the Board could scrutinize the cost of an unregulated affiliate but that such an approach should not be used lightly; correct? 366 MR. BAUER: That is correct. 367 MR. CASS: All right. Now, to take you back to your prefiled evidence if I may, sir, at page 16. 368 I'm looking at the portion on page 16 at the bottom of the page starting with the word "Because," and actually the next sentence says, where it starts out: 369 "Unless reliable information from an effectively competitive market is available, information from affiliates is required." 370 So just to go back, we start from the proposition that it's preferable not to have to go to unregulated affiliates, but here you're addressing when it would be required to go to unregulated affiliates' information; correct? 371 MR. BAUER: That is correct, yes. 372 MR. CASS: And the first choice, as I think you already said in your examination in chief, is to get competitive market information if that's possible? 373 DR. BAUER: That is correct. 374 MR. CASS: And so you're talking about going to get information from affiliates only where the first choice doesn't work; right? 375 DR. BAUER: Right. 376 MR. CASS: And then just to carry on with where we were, the next sentence starts out: 377 "To determine whether a price paid to an affiliate reflects a fair market value it is necessary to examine certain things." 378 Which we will come to, but looking at those first words, then, what you're suggesting is the aim is to determine whether the price paid to an affiliate reflects a fair market value; right? 379 DR. BAUER: That is correct. 380 MR. CASS: Okay. And then if we can go on to what you say ought to occur in those circumstances, the next sentence or -- you talk about: 381 "It is necessary to examine the return on investment achieved by the affiliate in transactions with the utility. Whereas, this return may deviate from the utility's return, the Board will have to make an assessment whether it is excessively high." 382 So what you're saying, sir, is in these circumstances where it does become necessary to look at the information from the unregulated affiliate, what the Board should be assessing is whether there is an excessively high return; correct? 383 DR. BAUER: Well, the Board would have to examine the cost of that particular service, that service being outsourced, as well as the return that is being achieved in providing that service, because one of the indicators of a noncompetitive market is a return that exceeds the return that would be typical for the business, in that risk category of a business, significantly. 384 MR. CASS: Yes. And you're suggesting that that's the exercise the Board needs to undertake as an assessment of whether that type of return is being achieved; correct? 385 DR. BAUER: Right. 386 MR. CASS: And just going back to the very bottom of page 16, you indicate: "Whereas, this return may deviate from the utility's return." 387 So you accept, of course, sir, that an unregulated company in a competitive market may well earn a type of return that deviates from the utility type of return; right? 388 DR. BAUER: Yes. 389 MR. CASS: And you elaborate then on this a bit more in your response to Interrogatory No. 12 from Enbridge Gas Distribution. Looking at the first sentence of that answer, sir, you're talking about this assessment of the return of investment being advisable and you say: "If no competitive market price for a service can be observed." 390 So this, again, is consistent with what we just talked about, that the Board would embark on this assessment only if no competitive market price could be observed; right? 391 DR. BAUER: Yes. 392 MR. CASS: And then in this answer, you actually clarify what you mean when you talk about this excessive return that the Board would look for in these circumstances if it had to go that route. And you say: 393 "A return can be considered excessive if it lastingly exceeds that considered normal for a firm in that business and/or risk class." 394 So that's the excessive return that the Board would be trying to assess; is that correct? 395 DR. BAUER: That is correct. 396 MR. CASS: Thank you. And if I understand your evidence here and elsewhere correctly, sir, even that excessive return if the Board found it, that does not necessarily indicate a shifting of profits, does it? 397 DR. BAUER: As I say here, it doesn't define it in one particular moment in time, is not a sufficient evidence for the shifting of profits, and because markets are volatile, markets move up, markets move down, so it's difficult to rely on one specific observation at one point in time. 398 So I think the key test here would be whether there is a structural phenomenon in place and, you know, therefore, there would have to be evidence that this is something that, you know, is observable as a pattern, rather than a one time spike, perhaps. 399 MR. CASS: Fair enough. And, again, I think you elaborate on this even more in your response to Interrogatory No. 2 from CEED that we've already looked at, and perhaps, if you don't mind turning that up. We already talked about the first paragraph of your answer. 400 If we go to the second paragraph, about halfway through, you say: 401 "A supernormal rate of return could be an indication that a contract is priced above the fair market value." 402 That supernormal rate of return is the same thing as you were talking about with the excessive rate of return? 403 DR. BAUER: Yes, it's just a different -- it's a synonym. 404 MR. CASS: Right. And you point out that even if the Board were to find that sort of excessive or supernormal rate of return, there could be other factors contributing to that; correct? 405 DR. BAUER: Correct. 406 MR. CASS: And you, indeed, give an example here, an affiliate may achieve a supernormal or excessive return because it possesses superior knowhow and, therefore, is able to earn an innovation premium. That's just an example, but that's the one you gave? 407 DR. BAUER: Right. 408 MR. CASS: Thank you. 409 DR. BAUER: But one would have to, of course, look at the competitive situation of the market, and that is an important proviso that I would like you to keep in mind. 410 MR. CASS: Yes. Well, you have talked a little bit about the competitive situation of markets, and you did so in your examination in chief, but the service providers that are providing, for example, customer care, they are operating in a competitive market, aren't they? 411 DR. BAUER: Likely -- it's difficult to say at this point, I would say, and there is an expectation that this market may, at some point, develop into a fully competitive market, but there's also many indications that at least make me cautious. 412 For example, if it were a fully competitive market, it is difficult to understand why a firm like Enbridge Gas Distribution would not ask for competitive bids to outsource that service. So my view currently, and this may change, there were expectations in many utility industries how quickly we would see competition, many of those expectations were disappointed. 413 I think this is a market in a similar situation where, you know, there are prospects of competition, but we don't know yet whether there will be sustainable lasting competition in that market. That's my present assessment. 414 MR. CASS: Okay. Well, I had intended to ask you a little bit more about the participants in this market, but as I was going through some of my examples of outsourcing, I didn't get the sense that you had really studied this very carefully. You know enough about the market to know that there are service providers like Cap Gemini Ernst & Young, Accenture; correct? 415 DR. BAUER: Correct. 416 MR. CASS: Are there others that you know about? 417 DR. BAUER: Alliance Data, for example. 418 MR. CASS: Is there one called Vertex, or something like that? 419 DR. BAUER: Yes. 420 MR. CASS: Are there others? 421 DR. BAUER: Well, there are several companies that would like to get into that market, but there are other companies that have exited that market. So, you know, I do not want to claim that I have studied the dynamics of that market. 422 What is clear though, is that from an outsourcers perspective, one would have to ask the question, "If the market is competitive, why don't you ask for bids?" And what is relevant, I think, in our case, is less the fact that this market may be in transition to be a competitive market for customer care services, than is the fact that there were no open bids in determining this initial contract. Which, you know, is something that may change in the future. 423 MR. CASS: You're aware, sir, that the company did a blind tender are you, or have you read that evidence? 424 DR. BAUER: I read it. I was not sure what a "blind tender" meant and the information I had was not sufficient to make an assessment what exactly was tendered. 425 MR. CASS: I see. And have you read the company's evidence as to what drove the original decision to outsource customer care and what were the circumstances that gave rise to the manner in which it proceeded at that time? 426 DR. BAUER: I did have a chance to look at it after I made my evidence. 427 MR. CASS: Yes, and what's your understanding of that? 428 DR. BAUER: Well, I think there are various views that one could have. One is, apparently, the goal to, perhaps, become a stronger player in that outsourcing market. But I also read in a number of submissions, and this may now be confidential, I'm not sure, so I'm raising the flag, about strategies to shield profits from the utility, to move earnings out of the utility. And it's -- you know, without having been an eyewitness to those discussions, it's very difficult to assess what the overarching goal was. 429 To me it seems clearly to be a mix of longer-term competitive, strategic goals to be at play in a market but also goals related to earnings management and my evidence and other testimony just emphasizes the fact that organizational structures, rules, do matter and what I'm -- want to emphasize is the fact that in a situation like in the current -- in the past PBR plan, there are certain incentives that may not be, you know, in the best interest of ratepayers or not be compatible fully with, you know, how PBR was initially imagined and this has nothing to do with improper behaviour -- let me make this clear. But it's just the way how the rules of the game result in specific actions and one of them is that it's feasible on the PBR within the envelope of the PBR plan, in fact, to sort of shift profits outside of the utility. 430 And looking at some of the information that I have received, I think there is a lot of indications that this in fact has happened. 431 MR. CASS: Well, sir, my question started out with your understanding of the factors that drove the decision to outsource customer care. Now, I've heard considerable evidence here about the situation the company found itself in when it was unbundling its ancillary businesses and needing to provide customer care both to the unbundled businesses and the core utility. I didn't hear you refer to that at all. Are you aware of the evidence in that regard? 432 DR. BAUER: I am aware of it. I subsumed it in the larger comparative strategy. 433 MR. CASS: But I take it from an answer you gave previously that you have not done any study of the competitive nature of the customer-care market and things for example like providing call-centre functions. 434 DR. BAUER: No. 435 MR. CASS: Now you did at one point in your examination in chief talk about outsourcing of core utility functions. You would agree with me, would you not, that customer care is not necessarily a core utility function? 436 DR. BAUER: Well, in my view, it is very closely related to the utility's business. I would consider it as a core utility function. 437 MR. CASS: I see. Well, can you just help me with how you define a core utility function, then? 438 DR. BAUER: Well, I would say core utility functions are all those that are required to provide the utility service. So that would include the investment necessary in plan, it would include the management of these operations, that would include customer-care service. 439 MR. CASS: Okay. Well I'm just -- 440 DR. BAUER: Services -- perhaps another way to look at this would be to ask whether the consumer has any alternative to receive that same service. And you know if you look at gas commodity, for example, there are alternatives, you can buy it from others, but I assume you could not buy your customer-care functions from Toronto-Dominion Bank if you wanted to. 441 MR. CASS: But is it not true, sir, that the proposed GDAR through vendor-consolidated billing makes customer care a non-core utility functions? 442 DR. BAUER: This may, on a prospective basis may be the case, but I'm not familiar with the details of that, as I understand, ongoing discussion. 443 MR. CASS: So you say -- 444 DR. BAUER: As -- in the relevant period that I was asked to look at, I think it is fair to consider customer care as a core function. 445 MR. CASS: So you say on a prospective basis it may become non-core. 446 DR. BAUER: Well it is, in principle, feasible but I can't speak to it. 447 MR. CASS: So something that's today core can be tomorrow or some time in the future become non-core, in your view of what is a core function. 448 DR. BAUER: That's correct. 449 MR. BETTS: Mr. Cass, I was just going to look for a break in there. 450 MR. CASS: That's probably a good time, sir. 451 MR. BETTS: I don't want to interfere with your cross-examination but is it a good time. And Mr. Cass, can you just anticipate how much longer you may need. I'm just thinking ahead in terms of scheduling. 452 MR. CASS: I'm well through what I intended to do, sir, so half an hour, perhaps 45 minutes on the outside left. 453 MR. BETTS: And Mr. Moran. 454 MR. MORAN: Sir, I might have 10 or 15 minutes. 455 MR. BETTS: And then there may be the need to reexamine the witness. 456 So let us break now for a 20-minute break and we will return at 25 minutes to 12:00. We'll see where that takes us and whether we can achieve an end to this before lunch. We'll just see how that works out. Thank you. We'll return at 25 minutes to 12:00. 457 --- Recess taken at 11:15 a.m. 458 --- On resuming at 11:38 a.m. 459 MR. BETTS: Thank you, everybody. Please be seated. 460 Before we resume with your cross-examination, Mr. Cass, are there any preliminary matters for the panel to deal with? There appear to be none; Mr. Cass, please proceed. 461 MR. CASS: Thank you, sir. 462 Just to very briefly come back to something we were talking about before the break, Dr. Bauer. I had made reference to the unbundling of ancillary businesses that preceded the targeted PBR plan. You would agree with me, I take it, that that unbundling of ancillary businesses resulted in a company that was considerably smaller than it was before; correct? 463 DR. BAUER: Yes. 464 MR. CASS: Now, in your examination in chief, you had corrected the point in your evidence where you referred to a sale to Accenture and I certainly don't mean to be critical of that by any means at all. I think Mr. Louth actually used similar terminology. But I just wonder, is that an example of the sort of information that you would have received from your clients for the purposes of this case? 465 DR. BAUER: It's an example of what I got from reading the Board's decision and the concerns that were raised in the decision. 466 MR. CASS: I see. So that came from the Board's decision. 467 DR. BAUER: As far as I recall, yeah. 468 MR. CASS: All right. Thank you. 469 DR. BAUER: But it was an assumption, I think, that I made, because -- which was wrong, apparently. 470 MR. CASS: Okay. If we could just talk about the circumstances where, in a sales transaction, a premium is paid for a business, you would agree with me, I'm sure, that there could be many factors at play that would account for the willingness of a buyer to pay a premium. 471 DR. BAUER: Yes. 472 MR. CASS: And these could be for example factors that are specific to the buyer's own business or other things, like how the purchased business might fit in with the operations of the buyer; correct? 473 DR. BAUER: Yes. 474 MR. CASS: Thank you. Would you agree with me that in endeavouring to measure the overall benefits of a performance-based regulation plan that the appropriate measure would be to compare the situation at the beginning to the situation at the end? 475 DR. BAUER: Well that would be probably the -- I would not agree with this, simply because things change. For example, the number of customers changes, inflation occurs, and that's one of the reasons why the PBR plan, in fact, tries to adjust for these factors. So I think the correct measure would be -- and this is again under the proviso that the plan was specified correctly. But the starting point, in my view, would be where the plan would have taken you and then you compare your actuals to that envelope that the plan would have yielded. But let me emphasize this only is correct if the plan was specified correctly. But you know, assuming that, I think that's where I would start. 476 MR. CASS: Okay. So one of the factors you referred to was customer growth. Are you aware of the extent to which Enbridge Gas Distribution experienced customer growth during the term of the targeted PBR plan? 477 DR. BAUER: I don't know the exact numbers, but I know that it was in the range of a few percent, percentage points, I should say, every year. 478 MR. CASS: So I hesitate to use words like "massive" or "significant," but not insignificant customer growth during that period? 479 MR. BAUER: It is steady. I would call it this way. 480 MR. CASS: Yeah. And what about inflation during the period? 481 MR. BAUER: It was, in historical terms, relatively low. 482 MR. CASS: Did you have a sense of what the inflation rates were during the period? 483 MR. BAUER: Well, below 3 percent a year. 484 MR. CASS: Thank you. 485 And, now, are you also aware of the fact that there was warm weather experienced during the time of the targeted PBR plan? 486 MR. BAUER: Yes. 487 MR. CASS: And I think -- I may be wrong, but I think you allude to this somewhere in your written evidence. You would accept the notion that the management of the utility, as well as its obligations to ratepayers, owes obligations to its shareholder or investors, I take it? 488 MR. BAUER: Absolutely. 489 MR. CASS: And so I assume you would agree with the proposition that in unusually warm weather, it would be contrary to the management's obligations to its investors just to do nothing and allow the return to be eroded significantly? 490 MR. BAUER: That's correct, and I assume it has been the same in the past. 491 MR. CASS: Yes. So it is fair, then, for management to take such actions as it can while still maintaining safety and reliability and so on to deal with the financial impacts of warm weather; correct? 492 MR. BAUER: Yes. 493 MR. CASS: Thank you. 494 I just wanted to come back to your written evidence, if I may, sir, at page 11, towards the bottom of the page. 495 MR. BAUER: Yes. 496 MR. CASS: I think it's about the third-last sentence. It talks about competitive market prices being a first-best reference point. 497 So what you're saying is that for a regulatory body such as this Board in the circumstances before us, the best thing, if possible, for the Board to look at is competitive market prices; right? 498 MR. BAUER: That is correct. 499 MR. CASS: And as I understand what you're saying, in comparison to that, something else is going to be second-best, right, imperfect? 500 MR. BAUER: That is correct. 501 MR. CASS: So it's in that context, if you carry on then, that portion of the evidence I took you to that you're talking about benchmarking, you talk about benchmarks derived from historical data or from a set of comparable utilities, and you say, These are imperfect proxies. 502 And the point is that the best reference point is competitive market prices, but if you haven't got that, benchmarking is a proxy. 503 MR. BAUER: That's right. 504 MR. CASS: And I think you actually go on to say that they are often the only -- this is benchmarks -- the only feasible solution to the affiliate transaction problem; correct? 505 MR. BAUER: Well, it will depend on the information that is available. And so depending on the information available, that statement may be correct or it may be incorrect. 506 MR. CASS: Yeah. Well, your statement included the word "often," and I just wanted to be clear on that. They are often the only feasible solution; right? 507 MR. BAUER: Exactly. 508 MR. CASS: Thank you. 509 Through your counsel I had indicated to you that I wanted to ask you some questions about the evidence that you had provided for the targeted PBR case. I brought extra copies. I can provide a copy to you if you don't have it. It's evidence dated November 12th, 1998. 510 MR. WARREN: We've got it. Thank you. 511 MR. BETTS: Mr. Moran, can we have a -- 512 MR. MORAN: Yes, Mr. Chair. This would be Exhibit K.29.1, the evidence of Johannes M. Bauer on behalf of Consumers' Association of Canada, Industrial Gas Users' Association, and Ontario Coalition Against Poverty dated November 12th, 1998. 513 MR. BETTS: Thank you. 514 EXHIBIT K.29.1: EVIDENCE OF JOHANNES M. BAUER ON BEHALF OF CONSUMERS' ASSOCIATION OF CANADA, INDUSTRIAL GAS USERS' ASSOCIATION, AND ONTARIO COALITION AGAINST POVERTY DATED NOVEMBER 12TH, 1998 515 MR. CASS: Now, I assume you've had a chance to reread this before taking the stand today, Dr. Bauer. I'm correct in indicating, am I not, that in the TPBR case you testified in favour of benchmarking to industry standard? 516 MR. BAUER: Yes. 517 MR. CASS: And I don't know whether you recall this, but see if you do. I believe that Dr. Northworthy, who was another expert called in the same case by the same clients, also testified in favour of that sort of benchmarking; correct? 518 MR. BAUER: But you know, keep in mind you are talking about benchmarking to determine the parameters of the PBR plan, which is a different context for benchmarking. But this is correct. 519 I mean, that PBR plan, as I said before, really defines a benchmark on a going-forward basis. 520 MR. CASS: Yes, we're going to come to that. Thank you, sir. 521 Could I take you, then, to page 12 of Exhibit K.29.1. I'm looking at the full -- the last full paragraph at the bottom of the page starting with the words "The company..." 522 MR. BAUER: Mm-hm. 523 MR. CASS: There's a discussion here about a past-productivity differential and what might have caused that. And the second-last sentence says: 524 "The company could thus maintain its productivity lead over other market participants. Overall, it is thus recommended to utilize an industry-wide measure to forecast the productivity offset." 525 So to take this a bit at a time, what was being talked about here was the fact that the company, Enbridge Gas Distribution, actually had a productivity lead over others in the industry; correct? 526 MR. BAUER: The data then, yes, seems to indicate this. 527 MR. CASS: Right. And so the issue was whether it was fair, given that the company already had this productivity lead, to use industry benchmarking to try to assess what further productivity the company might be able to achieve; correct? 528 MR. BAUER: Right. 529 MR. CASS: And what you were saying here was notwithstanding this productivity lead, in fact, it is recommended to use an industry-wide measure, because you say the company could maintain that lead; correct? 530 MR. BAUER: This is correct. And it has to do with the fact that benchmarking, in a sense -- I alluded to this before, but benchmarking when it is used in regulatory practice is used in this context, you know, where you try to anticipate change over time. And it has to do with, secondly, the question of what's the relevant benchmark? 531 And basically what I'm saying here is that the company to a certain degree could retain its position rarely through industry. What I'm saying is that industry average, in a sense, on a change basis, perhaps, is a meaningful benchmark. 532 MR. CASS: Right. So the fact that other companies may actually be less efficient than the company being measured doesn't stop one from using benchmarks to the other companies, does it? 533 MR. BAUER: But it's a different context. We're talking about rates of change over time. We're not talking about levels, and that's a very different context for benchmarking. 534 What it really says is that independently of where you are, it is feasible, you know, to continue to make improvements. And as I said before, you know, if you look at measures that compare utilities cross-sectionally at one point in time, there are all sorts of other reasons that determine why, you know, a utility may do well or may do poorly. 535 And so in the cross-sectional interpretation, it's very difficult to come up with meaningful benchmarks. Although, in a longitudinal way where you talk, you know, from one period to the next, I think I'm much more comfortable with the reliance on benchmarking, and that's why, you know, I'm an advocate of PBR for exactly that reason. 536 MR. CASS: Right. Well, you say it's a different context, Dr. Bauer, and I would suggest to you it's a more difficult context for the company than is the subject of the benchmarking. The context is not whether the company can achieve better -- or is achieving better productivity than others in the industry, it's whether it can have an increment, having already achieved better productivity, have an increment to its productivity that's the same as the rest of the industry. I suggest to you that's a more difficult standard. 537 MR. BAUER: Well, not if -- not if the reason why you're doing better is because of the factors related to the specifics of the service territory. As I said before, there are other external factors that contribute to the relative position the company compared to others, and your interpretation may be correct for part of that productivity gain, but it may be incorrect for another part of it. And, you know, without having more detailed evidence and data, it would be very difficult to disentangle those. 538 MR. CASS: But you agreed with me, sir, that you had not performed or directed a benchmarking study of this nature; right? 539 DR. BAUER: Yes. 540 MR. CASS: And you were prepared to urge the Board that the company meet that incremental standard of other companies' productivity gains without having done a study of the reasons for Enbridge Gas Distribution's productivity lead; correct? 541 DR. BAUER: That is correct. But it was also, you know, if you remember, I embedded that proposal in a number of other features of the performance-based plan that would actually safeguard that proposal. That's, in my view, the advantage of performance-based regulation, that there are sort of self-correcting mechanisms. 542 Now, in the end, the Board did not agree to having an earnings sharing mechanism involved, for example, but that would, exactly, be a safeguard if, in fact, that assumption was incorrect. So I think my own argument then was, in fact, sensitive to that fact and proposed, you know, a safeguard for the case that, for reasons not related to the utility, the industry trend would be not a good proxy. So in other words, you know, I was fully aware of the fact that when we used industry trends or other proxies that we make mistakes. 543 Now, my plan proposal, in fact, included a self-healing mechanism to take care of this. 544 MR. CASS: But, in fact, the way the case proceeded was not an earnings sharing mechanism, you made recommendations about a stretch factor; correct? 545 DR. BAUER: In addition to an earnings sharing mechanism, right. 546 MR. CASS: A stretch, I'm sorry, as an alternative or in addition, I don't remember? 547 DR. BAUER: No, this was in addition. 548 MR. CASS: You recommended both? 549 DR. BAUER: Right. 550 MR. CASS: And in fact, the Board did apply a stretch factor to the productivity, didn't it? 551 DR. BAUER: Yes. 552 MR. CASS: And I don't know whether you'd be aware of this, but would you agree with me that it was twice the stretch factor later applied to provincial power distributors in the Rates Handbook decision. 553 DR. BAUER: I didn't follow that in detail. 554 MR. CASS: Okay. But the effect of that was that the TPBR formula had included in it the annual productivity that the company was expected to achieve and a stretch factor as part of that; correct? 555 DR. BAUER: Right. 556 MR. CASS: And so by this means, ratepayers shared in efficiency gains during targeted PBR didn't they? 557 DR. BAUER: To the extent of that additional stretch factor there was an upfront sharing, that is correct. 558 MR. CASS: Yes. And because the company in the context of this plan was committed to delivering these annual efficiency gains with the stretch factor, it really had no choice but to take a look at new ways of doing business; right? 559 DR. BAUER: It is the goal of PBR, in my view, to really look for innovative ways of organizing one's business, right. 560 MR. CASS: Right. 561 DR. BAUER: PBR does not pre-specify though what you do. 562 It's really just result-oriented. So there are choices, in other words, it's not that there is no choice, per se, but there are different options that one could proceed. 563 MR. CASS: And it leaves it to management? 564 DR. BAUER: Right. 565 MR. CASS: Just to digress for a moment, Dr. Bauer, I'm sorry to skip around, I try not to do too much of this. But you would agree with me, I take it, that in looking at competitive businesses such as service providers, and I know we've had a discussion about the extent to which that's competitive, but the return on investment achieved across the industry would be driven to a significant extent by risk; right? 566 DR. BAUER: That is correct. 567 MR. CASS: Just while we're talking about PBR, you had said in your original evidence, I don't think you'll need to turn this up, that the initial enthusiasm for PBR had somewhat receded, and then, in Interrogatory No. 13 from Enbridge Gas Distribution you were asked for examples and references; do you remember that? 568 DR. BAUER: Yes. 569 MR. CASS: Do you mind just turning up Interrogatory 13, or the response to it? 570 DR. BAUER: Yes. 571 MR. CASS: So looking at the end of the question, I won't read the whole question, but it says: "Please provide all examples and references to support Dr. Bauer's statement." 572 I didn't see any references in the term of regulatory decisions or regulatory developments. Am I right in interpreting your answer that way? 573 DR. BAUER: Yes and no. You're right in a sense that PBR experiences are too young to say that companies abandon PBR or regulatory agencies abandon PBR. On the other hand, you know, five years ago, eight years ago, the expectation was that everybody would move to PBR very quickly, and that has not materialized. 574 So if you look at today's gas industry or electricity industry, many more jurisdictions still continue to use cost-of- service regulations than do PBR. And, you know, PBR is expanding gradually, but it is not expanding as fast as people had thought it might expand five or six years ago. Everybody thought it was like reinventing the wheel, it was just the perfect regulatory model. In fact, today I think we are experiencing, live, some of the concerns, that it doesn't mean that regulatory issues go away. 575 MR. CASS: Okay. That's helpful. So you're not suggesting it's no longer expanding. You're simply indicating it's expanding at a lower rate than had been expected? 576 DR. BAUER: Right, yes. 577 MR. CASS: All right. 578 DR. BAUER: That's what I meant, with somewhat lesser enthusiasm. 579 MR. CASS: Thank you. Now, you do in your answer, you refer to what you call "recent theoretical and empirical studies." Do you see that in the first line there? 580 DR. BAUER: Yes. 581 MR. CASS: And then you go on, and correct me if I am wrong, but the empirical studies that you refer to are actually from the telecommunications area; is that correct? 582 DR. BAUER: That is correct. And the simple explanation for it is that is the longest record available. So as it takes time to really review data and experience, you can only really do meaningful statistical studies, econometric studies, if you have a significantly long period of studies. And in energy, the data is just too scattered, it's too short-term in nature to have the same kind of studies. I expect that, you know, as more observations will become available, we will be able to do similar things. 583 MR. CASS: All right. And I think that you confirm the result of that in the last sentence on this page, because you indicate that you're not aware of comparable detailed studies of the experience in energy regulation; correct? 584 DR. BAUER: Right. 585 MR. CASS: Right. But in this reference to detailed studies, I take it you're not meaning to suggest that there's no longer favourable writing or commentary about PBR? 586 DR. BAUER: No, no. I think what I was referring to is the fact that through experience with regulatory practice and regulatory issues, we now know much better what the difficulties are in determining what I call efficient PBR plans. That, you know, PBR doesn't mean that the problem of asymmetric information is eliminated. It continues to exist. 587 Now, there are case studies in the energy industries, but when I say comparable statistical studies, I'm referring to large samples, you know, of 50, 60 companies, where you have five, six, eight years of experience under PBR and can systematically compare what happened without PBR and with PBR. I'm not aware of any study in energy. 588 MR. CASS: Thank you, sir. Can I take you then to the answer to Undertaking J.21.3. What this is is another item of your previous evidence. This is evidence dated November 10th, 1998. I had also indicated, through your counsel, that I was going to ask a few questions about that. 589 So in the record of this proceeding, it's the response to Undertaking J.21.3, but it's your evidence dated November 10th, 1998. 590 MR. WARREN: Dr. Bauer has this. 591 DR. BAUER: Yes, I have this. 592 MR. WARREN: B tab, thanks. 593 MR. CASS: Perhaps, just for the record of this case and to set the stage of what this evidence is. If you look at the first page of the evidence that has the title of "Proceeding" on it, Dr. Bauer, there's a bunch of case numbers up in the top right corner. Are you with me there? 594 DR. BAUER: Yes. 595 MR. CASS: And the first case number, the 497-01 case, that was the targeted PBR case, right? 596 DR. BAUER: Yes. 597 MR. CASS: And the evidence that we looked at a moment ago, Exhibit K.29.1 was actually your evidence in respect of targeted PBR; correct? 598 DR. BAUER: Mm-hm; correct. 599 MR. CASS: And then there are a couple of other case numbers on this evidence of November 10th, 1998 and if I may use the terminology that was really the unbundling part of the case; correct? 600 DR. BAUER: Mm-hm. 601 MR. CASS: So the document we're now looking at was your evidence in respect of the unbundling matters; right? 602 DR. BAUER: Right. 603 MR. CASS: Thank you. If I could just quickly take you to page 5. 604 MR. BETTS: Mr. Cass, it's quite probable or possible that we have that but neither of us can find it so I'd like to make sure we have a copy. We've been busy searching up here and neither one has come across it. Thank you. That's fine. Please proceed. 605 MR. CASS: I just wanted to quickly turn to something here, Dr. Bauer. I don't think too much turns on it. The partial paragraph on the top of page 5, I'm looking at the second last sentence, and you make a statement there to the effect that, "A high level of uncertainty surrounds the further evolution of the energy industries." 606 I just wanted to confirm with you, if I can, that a utility entering into contractual arrangements in circumstances where there's a high level of uncertainty surrounding evolution of the industry would want to take that into account in its contractual arrangements, wouldn't it? 607 DR. BAUER: It will likely try to do so, yes. 608 MR. CASS: That's all it was on that page. 609 Can I take you over to page 7, please. Starting at the bottom of page 7, you refer to this Board's advisory report on diversification. Do you see that? 610 DR. BAUER: Yes. 611 MR. CASS: And I noted in your CV provided with your current evidence that you were actually an expert to this Board on utility diversification; have I got that right? 612 DR. BAUER: I did testify once, yes. 613 MR. CASS: Okay. And over at the top of page 8, you indicate that the Board did not mandate corporate restructuring but gave the utilities some freedom to develop their own business strategies. Is that a fair summary of the Board's conclusion in that matter? 614 DR. BAUER: As far as I recall, yes. 615 MR. CASS: So in the case that this evidence was submitted for, the -- what I've called the unbundling case, you would recall, I take it, that what the company was proposing was to divest certain ancillary businesses, but to retain both the natural-gas-for-vehicles program, NGV, within the utility and to wind down the rental program in the utility; do you recall that? 616 DR. BAUER: Yes. 617 MR. CASS: And then just in that regard, could I take you over to page 10 of this evidence. Just in the middle of the page, paragraph starting with the words "As will be discussed," and about six or seven lines down from that, you say, 618 "It would seem more in line with the goals of a separation between competitive and monopolistic operations to divest the rental business altogether." 619 So what you are saying was that contrary to this notion of winding down the rental business within the utility, you felt that the rental business should be divested; is that correct? 620 DR. BAUER: That was my conclusion, yes. 621 MR. CASS: And then we skip back one page to page 9, we're again right in the middle of the page. You give a little more discussion of your conclusion. So the third line down about halfway across, you say, "A bright line could be a differentiation between structurally competitive businesses and monopoly operations," and you say, "applying this to the rental program, the NGV program they ought to be separated"; right? 622 DR. BAUER: Right. 623 MR. CASS: And then you say the same thing with respect to functions such as call centre, meter reading and billing, don't you, because you say those are increasingly considered structurally competitive operations; right? 624 DR. BAUER: Right. 625 MR. CASS: So -- 626 DR. BAUER: That's what I said. 627 MR. CASS: So at this point, this is the time of the unbundling which preceded the PBR, you were advocating consideration of divestiture of the call centre, meter reading and billing; right? 628 DR. BAUER: And in fact I would still advocate the same move because as I indicated before full divestiture, in act, eliminates many of the concerns that we have to discuss today. Because if you fully divest that function, the incentives of management and the ratepayers are fully aligned. Under outsourcing to a third-party, independent company, the utility would have no opportunity nor any interest in really shifting profits or costs. You would be interested in the lowest cost possible for these services contracted from a fully divested company; you know, an independent party. 629 MR. CASS: And we had a discussion before the break about what a core and non-core utilities service is, and your evidence seemed to be that these could change over time. So would I take it then that you felt at the time of this evidence that those were not core utility functions? 630 DR. BAUER: Whenever this was, five years ago, it looked like those markets might develop a more competitive structure much faster. As I said before, we expected many submarkets to develop competitive structures and in many cases it didn't really materialize. And it seems to be the case that this is one of those examples where the advent of competition is slower than originally anticipated. Then, as far as I recall my rationale, then I felt that it would be sufficiently fast transition to competition. 631 My point is this: If indeed consumers had a choice to contract for those customer-care services, I think I would retain exactly the same argument. 632 MR. CASS: Sorry, sir, my question was in relation to core utility functions. I was asking whether you agreed with me that at this time, at the time of this evidence, you did not perceive these as being core utility functions. 633 DR. BAUER: At this point it looked like there would be very quickly competitive alternatives; that is correct. But now it's five years later. The problem of asymmetric imperfect information we know more today than then, and so in hindsight this probably was the wrong expectation. But I would make the same argument, in fact, if I had sufficient evidence that this is a very competitive business and options do exist. 634 MR. CASS: I see. I'm sorry, I didn't mean to interrupt. 635 I'd asked you for a definition of what is a core utility function and I'm sorry I won't be able to repeat the words for you but I don't recall your having said that whether something is a competitive business determines whether it's a core utility function. But should I have read that into your definition? 636 DR. BAUER: No, I said that -- if I can paraphrase myself, I said the key test would be whether consumers or ratepayers have the choice in contracting for that function. And then I gave the example of the gas commodity market where there is a choice and the example of customer care, where currently I don't think you can contract with a third party for that customer-care function, and if -- however, if that choice were available, then I think one can be considered whether this is a core utility or not. 637 MR. CASS: I'm just missing something here and I'm sure it's obvious to everyone else. I'm not understanding why you say you can't contract with a third party for a customer-care function. Didn't we talk about many market participants that offer customer-care functions in the competitive market? 638 DR. BAUER: But as far as I understand the evidence and I may be wrong in this, an Enbridge consumer at this point, the ratepayer could not contract Toronto-Dominion for that function yet. Maybe you could help me by giving me examples of how an Enbridge ratepayer could contract for a customer-care function. 639 MR. CASS: I'm sorry. I think I understand what you're saying, then. You're saying that the ratepayers have to have the ability to choose from a range of different service providers who would offer this customer care for Enbridge Gas Distribution? 640 MR. BAUER: Right. 641 MR. CASS: Can I take you to page 12 of this evidence that we're looking at. That's part of Undertaking J.21.3. 642 MR. BAUER: Yes. 643 MR. CASS: Now, this is your discussion of the no harm to ratepayers test and the benefits to ratepayers test, and I fully understand, Dr. Bauer, that you've already explained that there's a different context. 644 MR. BAUER: Okay. 645 MR. CASS: But I just wanted to look at the words that you used here and ask you some questions about them. 646 In relation to the benefits to ratepayer test in this context, in the context of the unbundling case, you were saying that the weakness of that rule is that basic fairness criteria would require not only a sharing of benefits but also of losses resulting from diversification or restructuring; correct? 647 MR. BAUER: Right. 648 MR. CASS: Now, would you agree with me that in the context of outsourcing, that basic fairness would suggest that if ratepayers are to share in the benefits, they ought to share in the losses? 649 MR. BAUER: If one follows that same rule, yes. 650 MR. CASS: Thank you. And you said the -- I'm sorry. I'm just skipping down a little bit: 651 "The benefits to the ratepayer approach may thus lead to serious regulatory dilemmas." 652 Was the point we just alluded to the regulatory dilemma, or are you talking here about other things as well? 653 MR. BAUER: No, this is the regulatory dilemma. It's the symmetry of that standard. 654 MR. CASS: Yes. And so, then, just carrying on with your words, you say: 655 "The benefits to ratepayers test is clearly inferior to the no harm to ratepayer rule." 656 So it's because of that asymmetry that you say that; right? 657 MR. BAUER: Right. 658 MR. CASS: Thank you. 659 Well, Mr. Chairman, believe it or not, I'm finished. 660 Thank you very much for your responses, Dr. Bauer. 661 Thank you, Mr. Chairman. 662 MR. WARREN: No need to be disappointed, Mr. Cass. 663 MR. BETTS: Thank you, Mr. Cass. 664 Mr. Moran? 665 MR. MORAN: Thank you, Mr. Chair. 666 CROSS-EXAMINATION BY MR. MORAN: 667 MR. MORAN: Dr. Bauer, as I understand it, the answers that you've given to questions today, essentially what you're here to do is to offer the Board some advice based on your expertise in PBR with respect to an appropriate approach to take in the context of rebasing; is that fair? 668 MR. BAUER: Correct. 669 MR. MORAN: And I think you also indicated that in the context of a PBR plan, a utility may have an incentive to shift functions into unregulated affiliates in order to shield efficiencies. 670 MR. BAUER: That is correct. 671 MR. MORAN: And then I think you indicated that at rebasing, it would be important to review the cost data of the involved companies along with service-quality issues and so on in order to understand what those efficiencies might be. 672 MR. BAUER: In situations where those services are not procured through a competitive market, that is correct. 673 MR. MORAN: Right. And I think you indicated also that if something is outsourced to an affiliate, the affiliate would have an opportunity to charge back for the service at the PBR envelope amount and, therefore, realize the gains outside the utility. 674 MR. BAUER: This is correct. 675 MR. MORAN: All right. And then I take it -- as I understand it, you said if a market price is available for that particular service, then that's a very useful piece of information for the Board to be able to assess the appropriateness of the arrangement. 676 MR. BAUER: That is correct. 677 MR. MORAN: And the problem doesn't arise until you're into a situation where it's not clear that there's a market price available. 678 MR. BAUER: Exactly. 679 MR. MORAN: Okay. And again, if I understand what you indicated in that context, there were two things you would then consider looking at: One thing is benchmarking, and the other thing is the actual cost data that I referred to previously. 680 MR. BAUER: Correct. 681 MR. MORAN: All right. I think your counsel has provided you -- 682 Mr. Chair, I should indicate at this point I'm very briefly going to refer to a document that is in the confidential binder, X.21.1, and when I come to the specific confidential information, I'll alert you to that so that we can go in camera for a very brief moment of time. 683 MR. BETTS: Before we do that, so I don't have to interrupt you, can I just survey the audience and ask, Is there anybody here that has not signed the confidentiality agreement? 684 MR. MORAN: Everybody in the room has signed it. 685 MR. BETTS: Thank you. 686 And when you're about to do that, Mr. Moran, please advise me, and we will go off air. 687 MR. MORAN: I will do that. Thank you. 688 Dr. Bauer, I think you have in front of you a table that's entitled "Impact During the TPBR Period." 689 MR. BAUER: Yes. 690 MR. MORAN: Mr. Chair, this is the table that is found at tab 1.B of Exhibit X.21.1. 691 MR. BETTS: Thank you. 692 MR. MORAN: To understand your evidence with respect to the use of cost data, I just want to take you to some of the information that's on this table and see if I have an understanding of it. 693 You will see at the top of the -- I assume you haven't seen this before; right, Dr. Bauer? 694 MR. BAUER: I have seen it in passing. 695 MR. MORAN: All right. 696 MR. BAUER: But as I said, I have not studied the numbers or the consistency. 697 MR. MORAN: All right. So just for your assistance, the -- you can see that there are four groups of numbers there next to four headings. The first two are a matter of public record, and the last two are the ones that are being treated confidentially. 698 So if you look at the column for the year 2001, as an example, then, to look at, in the second group of numbers under the heading "Actual Outsourced Service-Provider Charges," and the line specifically with respect to customer care, you will see a number of 90.0 million. 699 MR. BAUER: Right. 700 MR. MORAN: All right. So that's been identified as the actual outsourced service-provider charges paid by EGDI to the customer care service provider. 701 MR. BAUER: Mm-hm. 702 MR. BETTS: Mr. Moran, sorry. Is this not confidential? Help me again here. 703 MR. MORAN: No. The first two parts, as you'll recall, Mr. Chair, are a matter of public record. It's the second -- it's the third and fourth group of numbers that are confidential, and -- 704 MR. BETTS: Sorry. I was seeing similar numbers, so that's fine. Thank you. 705 MR. MORAN: So I'm referring specifically -- 706 MR. BETTS: It's very difficult. We've really worked our way through this, Dr. Bauer, but anyway... 707 MR. MORAN: So, Mr. Chair, just for your assistance, I'm specifically referring under the heading "Actual Outsourced Service-Provider Charges" on the customer care line in the 2001 column, the 90.0 million number. 708 MR. BETTS: Thank you. I see which number you're referring to. 709 MR. MORAN: All right. So that's the actual payments by EGDI for customer care to ECS. 710 Now, I have to refer you to another number. 711 And, Mr. Chair, at this point we have to go in camera, because the number I want to refer to is on the confidential side. 712 MR. BETTS: Thank you, and we will go in camera and off air. 713 Thanks. Please proceed. 714 --- In-camera session commenced at 12:20 p.m. 715 MR. MORAN: Now, Dr. Bauer, now if we go to the next set of numbers under the heading "Service-Provider Revenues," again for customer care, year 2000, not surprisingly there's a matching number. EGDI paid $90 million -- the service provider received revenue of $90 million. 716 And then if you go to the last set of numbers under the heading "Service-Provider Costs," you will see three categories of costs. There are direct costs, and then the five line items, and then there's depreciation and financing that's been added to the total of those lines. 717 So starting with the direct costs, then, for customer care, again under the column for 2001, you will see the number 63.4 million. 718 MR. BAUER: Yes. 719 MR. MORAN: All right. And then roughly -- and then -- you'll go down to the depreciation line, 19.8, and there's a financing line, 2.7. And allocating depreciation and financing to that number at the same percentage, customer care would become 78.3. 720 Can you take that subject to check. 721 MR. BAUER: Yes. 722 MR. MORAN: So in the context where the direct -- the service-provider costs, including depreciation and financing are at 78.3, and that compares to the actual charge to EGDI of 90.0 million, is that the concept you had in mind when you were suggesting that it would be appropriate for the Board to examine the costs of a service provider upon rebasing? 723 MR. BAUER: These would be the steps, yes. 724 MR. MORAN: Thank you. 725 Mr. Chair, I think it's now safe to go back into public session. 726 --- In-camera session concluded at 12:22 p.m. 727 MR. BETTS: Thank you. We are now back in public session. 728 MR. MORAN: In your response to one of the questions by Mr. Cass, you were using a term, "full divestiture," and I wanted to understand what you mean by that. In the context, to use the customer care example again, EGDI transferred the customer care function to an affiliate, ECS, and then ECS entered into a partnership called CWLP and the customer care function was transferred to CWLP, and then, subsequently, an arrangement was entered into with Accenture where ECS retained ownership of the assets and Accenture took care of the rest. 729 In the context of what you mean by full divestiture, where the contracts essentially remain the same from CWLP back to EGDI, what would your comments be on that series of transactions? Would that constitute full divestiture from your perspective? 730 DR. BAUER: No, it wouldn't. Full divestiture would be to sell that business to an independent other firm. So, in other words, you sever all links directly and indirectly between the utility in that service providing organization. 731 MR. MORAN: All right. 732 DR. BAUER: So for example, AT&T was divested, you know, the holding company had to sell, into independent separate companies, all the operating companies. My argument is the following: That in this arrangement, there is a very, very strong safeguard provided by PBR against any kinds of abuses of outsourcing because, you know, the services being procured by a fully independent company, there's no way the utility could benefit from charges that are above market. There's no way the utility could actually shift efficiency gains outside of the utility. 733 If the utility would pay too much for services procured from an independent third party after full divestiture, and it pays too much, then it reduces its earnings. Therefore, that's really the basic principle of PBR. Therefore, it will do its best to make sure that the prices paid for those outsourced services are as low as possible. 734 So assuming full divestiture, I have absolutely no, or very limited qualms about outsourcing arrangements, because there is really a full alignment of the interests of ratepayers and shareholders. But that becomes more blurry if there is a link between the utility and service provider for outsourced services that, you know, is mediated through one or more layers of holding company structures. 735 I may, you know, just to remind you, point out, that historically, the existence of these arrangements, in fact, was the reason why regulation was introduced to begin with, because in the electricity, in particular, there were incredibly complex arrangements, multiple layers of holding companies where it was absolutely impossible to review, monitor those transactions between the different parts. What was clear was a significant level of abuse. 736 Now, I don't say that this is in any way near to this historical situation, but I think it's important to remember that this is not a new problem, but is, in fact, as old as regulation itself. 737 MR. MORAN: Thank you, Dr. Bauer. 738 One last area then to cover with you. In terms of the time line, we have a TPBR plan that covers the years 2000 through 2002. Shortly after implementation of that plan, there is outsourcing, and again, to use the customer care function as an example, it's outsourced on the basis of a contract that expires in the year 2005, I believe. So the TPBR plan ends in 2002, the contract expires in 2005, potentially a new PBR plan could be implemented before the expiry of that plan, and then it could be -- there is a number of variations. 739 What would your views be, again, drawing on your expertise as a person with experience in PBR, how would the Board manage those overlapping time lines in the context of rebasing and going into a new PBR plan at some point? 740 DR. BAUER: In my view, one way to manage it, let's say if there is a successive PBR plan, would be to go back to what I had recommended initially. That is, some kind of earnings sharing so that subsequent developments would not be fully shielded, if you wish. 741 One of the concerns that I would have in this context is the following: That, you know, at the beginning of the rebasing of the PBR plan, the numbers sort of try to be on the upside somewhat, okay? And because of the problem of asymmetric information, it's really difficult, unless one has detailed cost information, to assess the quality of those numbers. 742 Then, you know, during the PBR plan, one can actually realize efficiency gains which then are shielded actually from ratepayers, and in fact, do not benefit ratepayers but do benefit shareholders only to, as we get close to a review of the PBR plan, try to submit cost data that are again higher than the actual cost data are. 743 And, you know, that's the kind of manipulation that could happen on the PBR, could happen to a certain degree independently of whether you outsource to a third party or to an affiliate, but it is even aggravated if you outsource to an affiliate. It's known as, sometimes, the ratchet effect, that you strategically submit cost claims to make it easier post review, in fact, to achieve higher returns. 744 And, you know, given the overlap in the time frame here, this could be one of the concerns because what could happen is that the customer care contracts will be negotiated within the envelope of a second generation PBR plan, and if you negotiate a lower price, that entire difference again accrues to the shareholders for the remainder of that second generation plan. 745 Now, you know, I really hate to sort of engage in speculation as to what might happen, but that would be one of the concerns that I have. And one way to mitigate it would be to have some proviso that addresses that issue upfront, where you say, okay, if you renegotiate, you treat it as a Z factor, for example. So under the PBR, for example, there are ways to address that concern. 746 MR. MORAN: Thank you, Dr. Bauer. 747 Mr. Chair, those are all my questions. 748 PROCEDURAL MATTERS: 749 MR. BETTS: Thank you. Do the sponsoring parties have any questions in redirect? 750 MR. WARREN: We may, Mr. Chairman, and what I would ask the Board to do, if it would be appropriate, is to take the lunch break now. 751 I have to speak to my elders and better to see if there is anything they would like to do in re-examination. So if we could take some time now, not necessarily a lunch break, but at least some time so that I can discuss with the elders and see if they want anything done. 752 MR. BETTS: How long do you think you would need for your discussion? 753 MR. WARREN: We certainly don't need more than probably 10 or 15 minutes. 754 MR. BETTS: I think my preference, then, at this point, would just be to take that break, allow you to have that communication. We'll come back and again assess when and if a lunch break will be required then. 755 MR. WARREN: Thank you, sir. 756 MR. MORAN: Mr. Chair, sorry, just on that point, the parties also need an opportunity to discuss two scheduling questions. One, does Enbridge plan to call reply evidence and two, there are some issues with respect to the HVAC case that have to be addressed. 757 So I was wondering if it made sense to break to allow enough time for Mr. Warren to consult his elders, along with the other discussions to take place, so that everything might be wrapped up in one piece right after lunch. It's just a suggestion. 758 MR. BETTS: So you're going back to the first suggestion of a lunch break then; am I correct? 759 MR. MORAN: Yes, sir. 760 MR. CASS: Mr. Chairman, I don't think we need a lunch break to consider the reply evidence issue or the HVAC issue, just so that you know. 761 MR. BETTS: Then I'm going to try and, if we can, accomplish this again on the Board's preferred schedule. Let's allow for a 20-minute break and hopefully we can accomplish all of that and come back and tell the panel what the outcome was. 762 So I'll make that to be -- well let's say five minutes to 1:00 that we'll attempt to be back here. Thank you. 763 --- Recess taken at 12:37 p.m. 764 --- On resuming at 1:05 p.m. 765 MR. BETTS: Thank you, everybody. Please be seated. 766 Thank you, and we are about to consider questions in redirect from the sponsors of this witness. Were there any procedural items that arose during the break that the panel should be aware of? 767 MR. DINGWALL: Mr. Chairman, with respect to the scheduling of the proffered HVAC witness, I understand Mr. Cass is at this point reserving his decision as to whether or not he seeks to cross on that based on Mr. Rook's decision. I have spoken with Mr. Rook on the break and he's indicated that he's in the process of seeking instructions from his client and should have an answer either later today or early tomorrow morning. 768 MR. BETTS: Thank you. And Mr. Cass, you would reserve your position on it until you hear the outcome, or the Direct Energy position; is that the idea? 769 MR. CASS: Yes, Mr. Chairman. 770 Might I just take a moment and elaborate on what the position of Enbridge Gas Distribution is. Fundamentally, where an item of evidence has been filed and there is an inability to cross-examine on the evidence, it would be my view that the evidence should be withdrawn if there cannot be cross-examination on it. These are unusual circumstances, though. We all know, of course, that Mr. Bergsma has a serious medical problem and we all want to conclude this hearing. So in those circumstances, I was prepared to agree with Mr. Dingwall's suggestion that the evidence stay on the record with the understanding that Enbridge Gas Distribution had every intention of cross-examining on it and that the lack of cross-examination would go to weight. 771 Now, when we had that discussion offline then the response was, well, it would not go to the weight of the survey evidence because the survey person, not Mr. Bergsma, some other person, could come here and testify. I'm struggling with that proposition, that this survey would have some stand-alone value independent of the witness, Mr. Bergsma, who sponsored it, but I am waiting to hear what Mr. Rook's position is before addressing that further. 772 So I hope that clarifies where the company is coming from. 773 MR. BETTS: Yes. Since we may be deciding this matter -- in fact, at this point, the panel would prefer to proceed unless we hear from the other interested parties before we break, we would prefer to proceed on the basis of the witness coming on Monday as a possibility and it will be concluded when we hear back from parties, probably outside of this hearing room and then all interested parties would be advised as to whether there would be a witness called or not. 774 On that basis, it does, after you made that particular submission, Mr. Cass, I think it's important for the panel to find out if there is any party that wishes to make any comments with respect to Mr. Cass's point before we break, because the panel may not be able to hear any response afterwards. 775 So based on Mr. Cass's position, are there any submissions that the panel should hear? That's fine. That's great. Thank you. 776 So as I say, if we have not had conclusion to this question of doubt before we break, we will -- if any parties wish to have that witness on the survey brought forward on Monday, then the hearing will be run on Monday. If not, then today would conclude the evidentiary portion of the hearing. 777 With that said, Mr. Warren, do you have questions in redirect? 778 MR. WARREN: I do. Thank you, sir. 779 RE-EXAMINATION BY MR. WARREN: 780 MR. WARREN: Dr. Bauer, the first -- I have six areas that I want to cover, Dr. Bauer, all of them I believe quite brief. 781 The first area I want to cover is: Mr. Cass asked you a number of questions about what material you had reviewed prior to the preparation of your pre-filed evidence and in response to his questions, you indicated that you had expressed certain conceptual views on the principles to be applied to the issues in the case; do you remember that exchange with Mr. Cass? 782 DR. BAUER: Yes. 783 MR. WARREN: Subsequent to the time that you prepared and -- prepared the pre-filed evidence, Dr. Bauer, have you had occasion to review all or substantial parts of the evidence that have been filed in the case? 784 DR. BAUER: Yes. 785 MR. WARREN: As a result of that review, sir, are the views expressed in your pre-filed evidence, have they changed? 786 DR. BAUER: No, not at all. 787 MR. WARREN: And just refining that one step further, there have been, in the addition to the pre-filed evidence, there has been an ADR agreement in this case. Has your view on whether your views on the analysis of how the Board should approach the issue of PBR savings achieved outside the utility, has that changed? 788 DR. BAUER: Not at all. 789 MR. WARREN: Now I want to take you to an area that Mr. Cass spent a substantial amount of time on and that's the issue of benchmarking. And he took you to your pre-filed evidence in the 497-01 case and you spoke -- and perhaps in that context you could turn it up. I believe it now has a separate exhibit number which is K.29.1, Mr. Chairman. And if you could turn up your pre-filed evidence in that, Dr. Bauer, and Mr. Cass's questions referred you to in particular page 12 of that. And as I understood the exchange with Mr. Cass, he was asking you about your use of the benchmarking analysis in the context of that case. 790 You made a distinction, as I understood your answer, between the context in which it was used in that case and the context in this case. And I'd like to clarify exactly where we are on that. First of all, what was the context in the 497-01 case in which you were talking about benchmarking? 791 DR. BAUER: The context was to find, on a going-forward basis, the proxy for what would happen under the assumption that gas distribution were a competitive industry. That really was the goal. And as is known from economic analysis, what would happen on a going-forward basis if the market were competitive is that prices would go up if there were cost inflation; prices would go down if there were productivity gains. And in that sense only, in a longitudinal sense, and based on a number of assumptions that need to be made, the envelope set by the PBR plan is similar to what the benchmark is. But it's -- the context is really to define the escalation of that PBR envelope. 792 MR. WARREN: Now, what is the context within which benchmarking is being used in this case or proposed to be used in this case? 793 DR. BAUER: Well, the context here is to assess whether -- well there are several contexts, in fact -- whether a charge paid for a service contract is a market price and benchmarking was also used to compare the utility, Enbridge Gas Distribution, to a sample of other utilities in terms of the level of operation and maintenance expenditures. So there are really two basic contexts. And the second scenario is a cross-sectional analysis where you really compare different utilities in different circumstances without really spending much time in why those circumstances are different. 794 MR. WARREN: Now, in the context here of the first of the two contexts, the determination of a market price, is it your view -- what is your view as to whether benchmarking is an appropriate tool in that context? 795 MR. BAUER: Well, I indicated, you know, three concerns, and my answer was maybe too academic. I said it's insufficient. 796 The clean language answer is, No, benchmarking cannot be used to establish a proxy for a market price, and the reason -- the reasons I gave are threefold: One is that we really do not observe competitive market prices. These are, as far as we see at this point, negotiated prices, prices that are not determined in an open market. 797 Secondly, that, you know, other factors that influence the level of those charges are not being considered. And last but not least, that even if you -- even if we were to solve all these issues, we couldn't really determine what the relevant benchmark is. 798 MR. WARREN: Now, as a, kind of, segue from that issue, I'd like to turn to the fourth area, and that is your exchange with Mr. Cass on what it is you use to determine a competitive price in the absence of a -- of actual trading data, I suppose, in an open market. And in that context, Mr. Cass talked about what alternatives you might use. 799 What relevance, if any, does the Affiliate Relationships Code have to that analysis? 800 MR. BAUER: Well, it defines a standard that the Board thought was relevant to apply to those transactions. And the Code, as far as I recall, speaks of either the use of a competitive tendering process as one opportunity to determine such a competitive market price or the determination of the fair market value based on cost plus a return. 801 MR. WARREN: In your view, would the Affiliate Relationships Code allow the use of benchmarking to establish prices? 802 MR. BAUER: It doesn't explicitly exclude it, but I think the problems with benchmarking that I identified would, in my view, suggest that benchmarking is not an instrument to achieve that goal. 803 MR. WARREN: Now, I want to turn to, in the fifth area, to the question of premiums, and Mr. Cass asked you a question about premiums to be paid on an asset sale. Do you remember that exchange with Mr. Cass? 804 MR. BAUER: Yes. 805 MR. WARREN: I'd like to ask you in the context of premiums, sir, in that exchange, what in your view is the appropriate regulatory treatment for the transfer of -- rather than an asset -- of an intangible in, for example, the form of utility know-how to a third party for a premium? 806 MR. BAUER: Well, the short answer is that there should be compensation for the transfer of know-how, and I think it's difficult to give a specific, you know, method to determine that, but it's clear that there should be compensation for the transfer of knowledge. 807 MR. WARREN: My final area, sir, is to go back to an exchange that you had with Mr. Cass, and that the text, if you wish, for the exchange is the prefiled evidence in the -- what is known as the unbundling case, which is EBRO-497-01, EBO 179-14/15, which I believe, if memory serves me correctly, was part of Undertaking J.23.1, Mr. Chairman, that you were handed. 808 And if you could turn up, sir, in that -- in your bundle of materials, Dr. Bauer -- it's at the "B" tab, 3.B, I believe, and -- 809 MR. BETTS: And, Mr. Warren, I think you referenced it as J.23.1, and it's 21.3, I believe. 810 MR. WARREN: I'm sorry, sir. 811 MR. BETTS: That's okay. I just wanted to make sure Dr. Bauer wasn't looking for something he didn't have. 812 MR. WARREN: Actually, Dr. Bauer has it in a different form than I gave him. 813 But it's -- the reference that Mr. Cass was referring to was at page 12 where you were talking about the distinction between the benefit to ratepayer and benefit to -- sorry, the no harm to ratepayer versus benefit to ratepayer test. 814 And I wonder if you could, first of all, provide the context within which that discussion was taking place in the unbundling case. 815 MR. BAUER: Well, in my view, the context here was the question whether a business that for many reasons could not be considered a core business and where there existed many competitive alternatives could or under what conditions it should be separated from the utility. And in this case, we also, I think, entered into a broader discussion as to what the standards should be for dealing with diversification issues in general. 816 And I essentially referred to two standards that are widely used, the no harm to ratepayers approach, as well as the benefits to ratepayers approach, which are used differently by different regulatory agencies, and tried to assess the advantages and disadvantages of using either one of them in this case. 817 And the conclusion, then, was that in this particular case, the no harm to ratepayers approach, in fact, would enjoy advantages, because it would avoid the disadvantage of the benefits approach that is that losses would be incurred in a diversified business, somehow would have to be considered as well at some later stage. 818 Now, here, though, you know, we are talking about a different situation, and as of today, I think that I'm wholly convinced that customer care is a core function. And I think in that context, it would be appropriate, as long as customer care can be considered such a core function, to use the benefits to ratepayer approach. 819 MR. WARREN: Okay. In the -- just so that I understand it, in the context of the case which is now before the Board, what do you believe to be the appropriate to test to use? 820 MR. BAUER: The benefits to ratepayers approach. 821 MR. WARREN: Those are my questions in re-examination, sir. 822 MR. BETTS: Thank you, Mr. Warren, and I believe the Board panel do have a few questions, and we'll invite redirect if you feel that's necessary afterwards. 823 Mr. Dominy? 824 QUESTIONS FROM THE BOARD: 825 MR. DOMINY: You just talked about the choice of a benefits to ratepayers type of criterion for looking at outsourcing functions. I was wondering if you could give me some examples where that test is used by other regulatory agencies, the sort of applications for which it's being used. 826 MR. BAUER: I -- maybe we could move this into an undertaking, because I have not -- I couldn't -- didn't want to pull off some responses to -- 827 MR. DOMINY: Well, that would be fine by me if it's all right with Mr. Warren, but I'm not looking for an exhaustive list. I'd just like a few examples of where that test is being used. 828 MR. BAUER: Well, it is -- it is used relatively widely. I mean, for example, in U.S. regulatory agencies, typically, unlike here, reorganization of utilities is, in fact, contingent upon commission approval. And you know, there's currently debate down in the U.S., of course, to eliminate the public utility holding company acts that was historically the law governing reorganization as in holding companies. 829 But while this is likely to happen, the fact is that the state laws now that govern public utility commission activity have included many of those provisions. And typically, this is the predominant model, really, when an agency has to decide whether a company, a utility, could reorganize as a holding company, that benefits to ratepayers approach typically will be the yardstick. 830 And there is a number of cases, for example. Recently in New Mexico where the public service commission in one case accepted, in other case declined the formation of such structure. So I think it is a standard that is, in fact, used in this context of reorganization. 831 It's probably fair to say that it is not as much used in the context of pure diversification into unrelated activities. 832 MR. DOMINY: You mentioned that you thought, in terms of rebasing, that you should start from actuals. I think you made that statement. 833 DR. BAUER: Right. 834 MR. DOMINY: And we've heard a lot of discussion in this hearing that in the view of the applicant, the actuals appear not to reflect what they regard as a reasonable base from which to go forward, having asked your opinion with regard to actions taken by the company to meet shareholders' expectations of earnings. 835 I was wondering, in your view, do you think adjustments should be made to actuals if you are going to start a new PBR plan and if no adjustments are made to actuals, how would you determine the best way to set up the parameters for the productivity improvements going forward? 836 DR. BAUER: The reason why, in my view, actuals need to be considered is that it is, in fact, very powerful evidence as to what the utility can achieve. In contrast to, you know, discussions about budgets and forward-looking benchmarks and other things that we use in designing PBR plans, realized results speak a very, very concrete and very specific language, and in fact, the realized results enable us to compare the expectations that are built into a PBR plan and real achievements during that planned period. 837 Now, of course, they are the combined outcome of different factors, one of them is the effect of the PBR plan and then there are external factors such as weather changes that need to be taken into account. It is necessary to take these factors into account. So therefore, the actuals on the appropriate starting point would need to be modified for variances that aren't, you know, the outcome of just temporary events. 838 One has to be careful in that process to really identify variances caused by short-term external factors, and in looking at a very high level at some of the data that I have seen, I had this concern that perhaps PBR was used as a financial management tool more than as a tool to lastingly increase efficiency. And this is compatible, of course, with PBR as it was specified. It's not intended to provide that kind of flexibility. 839 Another concern that emanates from that view is: Did the utility, in fact, postpone expenses that it should have taken care of during that PBR period, to the time of rebasing, and therefore, does the rebased budget, the new budget contain items that should have been taken care of, you know, during that plan period? And I'm -- the numbers experts here, I think these are issues that need to be looked at. 840 But to come back to your point, the appropriate method would be to start from actuals, assess the impact of those short-term external factors, come up with a corrected figure and then use it on a going-forward basis. Now, if, for some reason, one would just start from actuals, the concern would be that if, indeed, such one-time factors played a role, that is also not a good number. It may be, if the weather was beneficial to the utility, it may be too low, and in the PBR context it's as bad, I think, to have a base for operations and maintenance that is too low, as it is to have one that is too high. It's just that the distributional impact will be different. If the base is too low, it will be the shareholders who suffer. If the base is too high, it will be the shareholders who benefit, but the ratepayers who are "disadvantaged" compared to a better O&M base. 841 If that were to be the goal to go ahead in such a model, I would, again, highly recommend to have some kind of safeguard in the terms of an earnings-sharings mechanism because that's a really way to, after the fact, you know, every year, to take corrective measures to mitigate unexpected impacts. 842 MR. DOMINY: So an earnings-sharings mechanism, I believe you were putting an earnings-sharings mechanism, or recommended one, with a band, sort of earning too much or earning too little, with a band in the middle. Is that the sort of model you are thinking of? 843 DR. BAUER: That is one model there is different designs feasible. If there is a high degree of confidence that the O&M base is a good number, then the band would be -- in which all the variances accrue to the utility would be reasonable. If there's less confidence that this is a good number, maybe 50/50 sharing, you know, for any kind of variance may be a good idea. And I have not studied the numbers carefully enough and analyzed them for the consistency to be able to make that assessment. But I think these two options would be available and are used. 844 MR. DOMINY: In this particular case, what we have is a TPBR for O&M projected going forward, and then an assessment of what the savings that have been achieved are and then a debate as to whether what is reflected in the numbers that have been agreed to accurately reflects those savings. 845 The question I have for you is: How would you set about trying to determine what those savings might be as opposed to a measurement of the actual costs today? 846 DR. BAUER: Well, I think one cannot avoid looking at those actual costs, savings of two type. I think we are really in a scenario here where a part of the savings is visible in the utility's financial data, which I referred to as the sustainable savings, and part of the efficiency gains is probably not visible in that data but is visible if one looks at the financial statements of the affiliates with which the utility has contracted. 847 If there was confidence that the prices in those transactions were market prices, then I think many of the issues would, in fact, go away. But as I indicated, I don't think that given the way these contracts were negotiated and designed, the information is not strong enough to say these are market prices. 848 I think, in that case, there is really no meaningful alternative than to go back to cost information. And I said before on some occasion, I think it was in our conversation, that the use of benchmarks, as opposed to cost, depends on the information available. Now, in this case, there is information available, fairly detailed information available, as to the costs of those affiliates and I think that would be a reasonable starting point. 849 Now, the cases, in my view, are somewhat complicated by the fact that you face, really, a switch from the PBR regime to the cost of service regime to a prospective other PBR regime, and my position would be, if there were a seamless transition to a PBR, another PBR regime, there would be, in fact, more regulatory options available to address this issue. 850 For example, one could modify the productivity factor on a going-forward basis if there is concern that, you know, those services prices are above what market price might be, or that the mark-up, the implicit mark-up that we see by comparing the contract price to the cost, is too high. 851 Again, an earnings-sharings mechanism would take care of that on a going-forward basis, but in the switch from PBR to cost of service, it's almost like there is no other choice than to really look at the cost base, because that's really the information that is compatible with that kind of regulatory method. 852 MR. DOMINY: Now, looking at the question of return, I think you made a comment that the cost to the service provider plus a return (sic). 853 DR. BAUER: Yes. 854 MR. DOMINY: And I think you alleged that the return may not be that of the utility but there were reasons why it could be higher or lower depending on the circumstances, of the particular circumstance. I was wondering whether you could just elaborate on that. 855 DR. BAUER: It very likely would not be lower, I would have to say. Very likely, it would be above the utility's return. But the way one would address this issue is simply -- similar to how the issue of determining a fair return for utility is being approached: One looks at the risk class in which this business operates and tries to determine a return that corresponds to that risk class. It's really a risk-return type of an analysis and the various methods that one could use from traditional CAPP aim to more elaborate methods that financial analysts use. That would be the correct approach to determine that return. 856 MR. DOMINY: It might be quite difficult to determine the risk environment of the service provider. 857 DR. BAUER: I don't disagree. 858 MR. DOMINY: In terms of the savings or the efficiencies that have been achieved, there was a line of questioning that didn't go very far, probably because of our rules that Mr. Shepherd was raising with one of the company panels with regard to, are there different types of savings that one would expect should return to the ratepayer in the context of efficiency and perhaps other types of savings, that one might say would probably be retained by the service provider because they are savings that may not be possible other than in a new structure. You started a line of questions there, but I'm afraid I think we probably led to them being not developed. 859 I was wondering whether you could talk about the sources of savings and whether there's any case where one would say that perhaps some of the savings do not necessarily or couldn't return to the ratepayer because they wouldn't arise other than through the new structure or the new supplier. 860 DR. BAUER: This is an interesting question. Let me try and come at this from a different perspective. I'm just trying to think of a specific example where your scenario would be appropriate; off the cuff, I can't come up with any. But let's perhaps think about a situation where a function is outsourced to an affiliate, that affiliate engages in providing similar types of services to other clients, and that was kind of the competitive vision, really, and because of doing so, one would be able to achieve economies of scale, maybe economies of scope. It is possible to provide that service at a lower price than it would ever have been possible in the utility. 861 If this indeed is the case, and that business runs -- works in an open market environment, in fact, the business would be able to achieve a higher return and in that sense, once one looks at the return of the specific business these advantages derived from economies of scale or scope, in fact would be part of the return. 862 So in that sense, if one follows that method of looking at the cost plus adequate return, the remaining savings really, I think, would be appropriately attributed also to ratepayers and, you know, the shareholders would derive the benefit in the form of higher returns. 863 MR. DOMINY: So if we have a competitive market, lots of these issues resolve themselves. 864 DR. BAUER: Right and -- that is correct, but if we, you know, need to emulate in the approximated market using accounting tools, I think we have the standards to do it in a meaningful way. 865 MR. DOMINY: Thank you. 866 DR. BAUER: But as I indicated in my evidence, it sort of expands somewhat the reach of regulatory monitoring. One could say, though, that you know that this was a voluntary choice. 867 MR. DOMINY: I think you -- one of the comments you made with regard to benchmarking was that in the case of utilities, the trouble is that a competitive market doesn't exist because they are all monopolies operating in monopoly areas. So would it be a reasonable assumption to say that, in effect, what you get is a reasonableness of regulation? 868 DR. BAUER: Well, to a large degree what you see, right. Correct. And you know there are some agencies that are very lenient and very generous, others that are not. So you, exactly, see to a large degree the effectiveness of regulation but also the effectiveness of management. There's no doubt about it. 869 MR. DOMINY: Coming back to customer care which you say is a core utility function. As I understand the evidence in this case, customer care consists of a number of separate functions which are packaged together under something called customer care. And I was wondering if you could comment on this perception or perspective, that customer care will always be a responsibility of the utility because, after all, it's the customers they manage, but that outsourcing functions within the customer care you would accept provided the management or the responsibility for the overall customer care function stays with the utility; would that be a reasonable understanding of your position? 870 DR. BAUER: Well some -- you know, for example, maybe the invoicing and billing function can be unbundled so I think that border line is really -- is fluid, you know, it depends on the number of things. And, for example, with more sophisticated information technology, perhaps that border line is shifting, that things that used to be core utility functions five years ago, maybe even in the present, may not be considered as such. 871 If the customers can manage their own functions online, you're right, then the utility's role would be to make sure that the procedures are appropriate, that the -- those functions fit into the whole bundle of services provided but they could be taken care of in a more open environment. 872 MR. DOMINY: In terms of PBR systems with SQIs, et cetera, the utility could still have an SQI on the quality of service even though they had outsourced it and it would be their responsibility to ensure that that SQI was met. 873 DR. BAUER: Yes. 874 MR. DOMINY: And the last question related to the comment you made in response to redirect from Mr. Warren with regard to premiums on the sale of the utility know-how, et cetera. And I was wondering whether you could perhaps consider who has -- if such a premium was obtained, who has rights to the premium? Is it the shareholder or the ratepayer in the context of, say, stakeholder knowledge -- consumer knowledge that the utility has? 875 DR. BAUER: If it is a clear case of knowledge that was developed under regulated conditions whereby ratepayers helped fund the development of that knowledge, I think some sharing would be appropriate. Now, know-how is something that may change very quickly and, you know, as you remove functions away from the utility and then further away in multiple layers, then it may be difficult to trace what part of the know-how was, in fact, sponsored by rates that I just described. And this I foresee as a big challenge. But if they can be identified, if this can be disentangled, some form of compensation seems to be appropriate. 876 MR. DOMINY: I'm sorry and one last question and that is: I think my understanding that there was a lot of discussion when PBR things were proposed of PBR incentive regulation and, I suppose, streamlined regulation. 877 And the expectation was that the regulatory burden might be reduced through it, but then I hear about shared-savings mechanisms, and I hear about the difficulty of setting productivity parameters, et cetera. 878 Do you believe that there's any regulatory streamlining or savings possible through the application of PBR as opposed to the application of cost-of-service model? 879 MR. BAUER: As long as the regulated segment of the industry that we're looking at remains a monopoly, I don't think there's any serious evidence that the regulatory costs are decreasing under PBR. 880 I mean, it's -- we see the PBR, and I think I have argued this in front of this Board in the past that PBR can reduce the regulatory load if the segment of an industry is really developing to a competitive industry, so that it's a transitory mechanism to the state of competition, perhaps, within anti-trust rules can govern the activities in that sector. 881 But if the segment of the industry, such as gas distribution, remains monopolistic, then the issues just reappear in a different guise. They resurface, and instead of talking about an adequate rate of return, one will then debate an appropriate productivity offset. 882 So in that sense, the evidence is -- doesn't exist that regulatory costs are being reduced by PBR. 883 MR. DOMINY: Thank you, Dr. Bauer. Thank you very much for your answers. 884 MR. BETTS: I am basically just left with one fairly simple question for you, and it's a question that's, I think, popped up in various comments from participants in this hearing. 885 I wonder if you could define for me your understanding of "fair market value," the term "fair market value," particularly in the context of outsourcing. 886 MR. BAUER: All right. "Fair market value" would be price determined in a competitive interaction in the marketplace, and, you know, several -- it can happen in several ways: 887 One would be that, indeed, several organizations compete for providing certain services, and they compete in several dimensions: One of them is price; another would be service quality. That price that is determined in an effective competitive process would be determined as the fair market value. 888 Now, typically, that fair market value has two components: One is it will typically be sufficient to allow the service provider to recover its cost, including a return on the capital invested that is sufficient for that risk class of business. 889 Now, markets, of course, you know, they vary, and markets are not always in equilibrium. This would be the static position of the market. And at any point in time, it could be that there are variances around, sort of, that fair market value, but those variances are, (a), typically should not be very large, and, (b), they would disappear over time. 890 So the fair market value, if you wish, is the average price that one can observe in a well-working market. 891 MR. BETTS: So in our Affiliate Relationships Code, it does refer to fair market value and a tendering process as being a method of deriving that. 892 Am I correct in hearing you say in your opinion that's the only accurate way of determining it, and all others are just proxy for that? 893 MR. BAUER: That would be -- that would be a very good way to establish it; right. And, in fact, many regulatory agencies require a tendering process as a precondition to accepting, you know, an outsourced price as a fair market price. 894 And one has to be careful how the tendering process is being structured, and, you know, some of the evidence refers to a right to first refusal provision, for example, in service contracts that exist currently. That would not be compatible with the notion of a fair tendering process. 895 But one also would have to pay attention to the responses to tendering processes, okay. And for example, if there's only one bid that is being submitted, that's an evidence that the market is not competitive. 896 So you know, the process plus debate unfolds would be the right thing to look at. 897 MR. BETTS: Thank you. 898 Mr. Warren, do you need to redirect based on those questions? 899 MR. WARREN: No, thank you, sir. 900 MR. BETTS: Thank you. 901 Then I believe that concludes the Board's need for this witness. 902 Thank you very much, Dr. Bauer. You, along with many other witnesses we've heard, have contributed substantially to our understanding of the issues and hopefully can help us draw a reasonable conclusion. 903 PROCEDURAL MATTERS: 904 MR. BETTS: We are very close to adjourning at least for today, and that will be subject to final determination of our status for Monday. 905 I would like to ask, first of all, Mr. Cass, at this point in time, subject to whether or not we have another witness, have you felt or found it necessary, or do you feel it's necessary to bring back witnesses in reply? 906 MR. CASS: At this point in time, Mr. Chairman, no. 907 MR. BETTS: And can I, therefore, take that that as long as there are no other witnesses called that that would be your position? 908 MR. CASS: Yes, sir. And even subject to this HVAC issue, I think it's highly unlikely that something coming out of the HVAC issue would necessitate a reply panel. I hesitate to say "never," but I think its pretty unlikely. 909 MR. BETTS: Thank you. 910 Then subject to actually what's going to happen on Monday, this could, in fact, be the final day of this hearing and -- or we may have another day or part day of it. And the Board is quite happy to see all these faces again on Monday if that's required, and we've probably all got other jobs that we have to do. 911 I do want to thank everybody, all of the people that are here, all of those that are not here but have been, on behalf of Mr. Dominy, myself, and the Board in general, for your contribution to this very long effort. 912 I think in many ways it's helped -- it certainly has helped the Board understand these issues far better than we had in the past, and I think that's important, and I trust that it's helped all participants understand the issues better than they have in the past. 913 And I would like to compliment all of the parties that were asked to contribute information that they would -- that they were probably surprised to have been asked to contribute. I found the final results have been very, very effective, very beneficial, and the Board simply extends its thanks for their willingness to work with us on that particular issue. 914 And certainly, Board Staff, if we don't see you on Monday, thank you so much for your efforts through this hearing, and there's still work to do, obviously. Actually, maybe the bulk of the work starts now, as far as Mr. Dominy and I are concerned, and that's trying to consider all of the information that we have. 915 And once again to our court reporting staff, thank you so much for your flexibility and your outstanding work in keeping us informed about these proceedings. 916 So subject to making this speech again on Monday, I think we'll adjourn now. And once again, thank you all for your contribution. 917 MR. THOMPSON: Mr. Chairman, just two points that I'd like to mention, if I could, to complete the record here as far as IGUA is concerned. 918 First of all, just to get clarified on the record the -- my understanding of the status of the evidence of IGUA. Mr. Fournier was here to testify on -- when the DSM was up, and I believe he adopted the entirety of the IGUA evidence under oath. And my understanding is no one wished to cross-examine him on the outsourcing part of that, and so that evidence stands. And I just wanted to confirm that no one is expecting a further affidavit from Mr. Fournier to prove the outsourcing aspect of his testimony. 919 I spoke to Mr. Cass, and I believe that's his understanding of where the IGUA evidence sits. 920 MR. CASS: Yes, I had no expectation of an affidavit, Mr. Chairman. 921 MR. BETTS: Thank you. 922 Any further submissions from parties present? That would appear to be the understanding, Mr. Thompson. 923 MR. THOMPSON: The second point deals with unanswered undertakings. My understanding is that some of them are yet to come, and in speaking with the company, I understand we won't have any further opportunity to ask any questions about those that are yet to come. There is one that's not on the record yet, as I understand it, that the company has agreed to provide. It arose out of discussions that we had in the documentary production phase of the process. 924 There was a meeting scheduled, I think, following the initial Board ruling on that issue and during that discussion, the company agreed, by way of undertaking, to provide what I call the actual avoided costs associated with the functions that were outsourced to EOS and EGS. The fully allocated costs of that exercise are shown at tabs 1 and 2 of the non-confidential binder brief, and the company has agreed to provide that information to the Board and to IGUA by way of a further undertaking. 925 I just wanted to have that recorded today for the record and that will come in due course. 926 MR. BETTS: Thank you. 927 MR. MORAN: Mr. Chair, I guess that would be Undertaking J.29.1, and just for the assistance of the court reporters, perhaps, Mr. Thompson, you could give a snappy description? 928 MR. THOMPSON: Yes, my description is the actual avoided costs, the company's description may be marginal avoided costs associated with the outsourcing of functions to EOS and EGS. 929 UNDERTAKING NO. J.29.1: TO PROVIDE THE ACTUAL AVOIDED COSTS/MARGINAL AVOIDED COSTS ASSOCIATED WITH THE OUTSOURCING OF FUNCTIONS TO EOS AND EGS 930 MR. BETTS: Thank you. 931 MR. THOMPSON: Thank you very much, sir. 932 MR. BETTS: Just in case this is the last day of the hearing, is there anyone else that would like to make a submission to the Board Panel or clarification? 933 Mr. Cass, could I inquire with you as to the expectation on delivery of undertakings? 934 MR. CASS: I have to confess, Mr. Chairman, I don't know the timing. All I can say is the company has been putting together the answers as quickly as possible and getting them into this room and to participants as quickly as possible. 935 At this point, I don't even know how many are outstanding. All I can say is we will continue to do the responses as quickly as can be achieved and get them out to the participants in that fashion. 936 MR. BETTS: Thank you. I would probably then have to provide one caveat, that there were several undertakings that were offered on the basis that it may be necessary to call panel members back to explain them or provide further evidence, and depending on what those undertakings are, I just would warn the applicant that that may, in fact, be necessary, but hopefully not. 937 MR. WARREN: Mr. Chairman, just before the Board rises, at the risk of straining your observation that you would be happy to see us all again on Monday, I wanted on behalf of my client, the CAC, IGUA and VECC, to thank the Board and all of the parties. There have been aspects of this case which have been unusual, which you refer to I think obliquely in your observations, and have been contested with vigour. 938 I wanted to thank the Board and all of the participants for having engaged in that process with a remarkable degree of civility throughout the process. I think it reflects well on the Board and its processes and I wanted to make that observation before we finished, sir. 939 MR. BETTS: Thank you. And I think credit for that goes to everybody in terms of the results that we've achieved. 940 Mr. Moran. 941 MR. MORAN: Yes, Mr. Chair, just one last housekeeping matter. I don't know if this was formally put on the record, but there was a consensus reached with respect to argument. The company has indicated that it can deliver its argument in chief, in writing, by June 20th. That would give them two weeks from tomorrow. 942 The intervenors have indicated they could deliver their responding arguments in writing by July 4th, that's a period of two weeks. 943 And the company has indicated it can produce its reply argument by July 18th, another period of two weeks. 944 MR. BETTS: Thank you. And I don't see anybody arguing against that schedule so that's great. Thank you. 945 Just for information, because many of you will be participating, I'll just remind you that we will be considering the QRAM application on Tuesday morning, the start time is 9:00 a.m., rather than 9:30. And just a note, as well, that we're hoping -- it's the Board's expectation that we will receive arguments orally in that session and we have allowed a spillover into the next day if that's necessary. 946 Mr. Dominy has brought up a question about the arguments, a very good question. Have the parties figured out how they will be dealing with the arguments based on confidential information? I'm almost reluctant to ask that question. 947 MR. MORAN: There has been some discussion, Mr. Chair, and as I understand the working proposal at the moment, the idea would be to produce two versions of written argument, one that's redacted and one that's not, and before the redacted argument is filed, parties who have an interest in ensuring that everything that should be redacted is redacted would have an opportunity to review those redacted arguments prior to filing, and we just have to hope that that all works out. 948 MR. BETTS: Okay. The Board Panel may have some suggestions that we will pass on to Mr. Moran to pass out in terms of how we could be aided in receiving those arguments as well, just to make sure we don't confuse what's confidential and not confidential as well. 949 MR. MORAN: Again, just for certainty, Mr. Chair, the time line that's been agreed to would apply to unredacted arguments and to the extent that an unredacted argument refers to confidential information, you would have the entire argument on a confidential basis, subject to the process of determining what really needs to be redacted. So it's a similar process to what has been used for the transcripts and for the undertakings. 950 MR. BETTS: What I was going to suggest that you might pass on, and we can think about another approach, would be if somehow the unredacted arguments could indicate by either font or some other process which information is confidential, so that the Board Panel, in writing its decision, doesn't accidentally take something from an unredacted argument and put it in its decision which would compromise what we've done so far. So that would be helpful, if you could do that. 951 And also if, in doing your arguments, you could, as much as possible - and this is generally the route that you will take, I know - separate by issue your arguments and make a clear separation for us, that would be beneficial as well. 952 So we've done a lot of procedural stuff here as well. 953 Mr. Cass. 954 MR. CASS: Sorry, Mr. Chairman, the longer we sit here, probably the more things occur to people. 955 I had a question, if you don't mind. I wasn't involved in the DSM issue, but my understanding is that it has been fully argued separately. I wondered if I might inquire with the Board as to whether the Board's plan would be to get out a separate decision on that, when it's able to do so, or whether that would await the final decision? 956 MR. BETTS: The Board has thought about that and we do not feel that it will be necessary to keep -- we will have no problem separating it from the final decision. It will depend on how quickly we can draw that decision, but we are prepared to issue that early if the circumstances permit. 957 MR. CASS: Thank you, sir. 958 MR. BETTS: Is there anything else that's occurred to anybody? Then thank you all once again and we will adjourn. 959 --- Whereupon the hearing adjourned at 2:05 p.m.