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17.8 Discontinuation of rate-regulated accounting
Publication date: 31 Aug 2023
us Utilities guide
Certain changes to the regulatory or competitive environment in which a regulated utility operates may result in the regulated utility no longer qualifying for application of ASC 980 to all or certain portions of its operations. Whether and when a regulated utility no longer meets the criteria for application of rate-regulated accounting for all or a portion of its operations is highly judgmental. See UP 17.2 for further information on factors that support continued application of ASC 980 as well as indicators that ASC 980 may no longer be applicable. Furthermore, ASC 980-20 includes examples of factors that may lead to the conclusion that a regulated utility fails to meet the criteria in ASC 980-10-15-2.
Failure of an entity’s operations to continue to meet the criteria in paragraph 980-10-15-2 can result from different causes. Examples include the following:
- Deregulation
- A change in the regulator’s approach to setting rates from cost-based rate-making to another form of regulation
- Increasing competition that limits the entity’s ability to sell utility services or products at rates that will recover costs (as used in paragraph 980-10-15-2)
- Regulatory actions resulting from resistance to rate increases that limit the entity’s ability to sell utility services or products at rates that will recover costs if the entity is unable to obtain (or chooses not to seek) relief from prior regulatory actions through appeals to the regulator or the courts.
17.8.1 Partial discontinuation
Discontinuation of application of ASC 980 may apply to all or part of a regulated utility’s operations. ASC 980-20 specifically indicates that discontinuation of ASC 980 should apply to a separable portion of a regulated utility’s operations that no longer meets the application criteria (i.e., partial discontinuation). Examples of a separable portion of the business include:
- All operations within a regulatory jurisdiction
- An operating asset
- A customer class
- A functional activity, such as generation
ASC 980-20-40-1 also indicates that the discontinuation of ASC 980 for a separable portion of a reporting entity’s operations within a jurisdiction creates a presumption that discontinuation of ASC 980 should apply to the entire jurisdiction. That presumption can be overcome by demonstrating that the reporting entity’s other operations within the jurisdiction continue to meet the criteria in ASC 980-10-15-2. See Question 17-2 for further information on whether a group of costs would represent a separable portion of the business.
17.8.2 Timing of discontinuation
It may be difficult to determine the point in time when a regulated utility no longer qualifies to apply ASC 980 because the factors that impact its application may change gradually. For example, deregulation initiatives as well as changes in the ratemaking process, the competitive landscape, and customer demand may occur over several reporting periods. As a result, determining whether, and when, a regulated utility should discontinue applying ASC 980 requires judgment and monitoring of the regulatory, legal, and competitive factors described in UP 17.2.2 and UP 17.2.3.
One negative factor on its own would not necessarily lead to a determination that ASC 980 should be discontinued; however, regulated utilities should weigh the nature and pervasiveness of any factors that are present and assess the preponderance of evidence in reaching a conclusion.
Prior to the codification, FAS 71 addressed the appropriate timing.
FAS 71, paragraph 69
Users of financial statements should be aware of the possibility of rapid, unanticipated changes in an industry, but accounting should not be based on such possibilities unless their occurrence is considered probable.
Based on this guidance, application of ASC 980 should not be discontinued until it becomes probable that deregulation legislation and/or regulatory changes will occur and the effects are known in sufficient detail to be reasonably estimable.
17.8.2.1 Timing of discontinuation when deregulatory legislation or a rate order exists
ASC 980-20-40-6 provides specific guidance addressing the appropriate timing for the discontinuation of the application of ASC 980 to all or part of a business when deregulatory legislation is passed or when a rate order is issued that provides for a transition plan to deregulate. The guidance has been interpreted to mean that ASC 980 should be discontinued for the relevant separable portion of the business at the beginning, rather than the completion, of the transition period.
Excerpt from ASC 980-20-40-6
When deregulatory legislation is passed or when a rate order (whichever is necessary to effect change in the jurisdiction) that contains sufficient detail for the entity to reasonably determine how the transition plan will affect a separable portion of its business whose pricing is being deregulated is issued, the entity shall stop applying this Topic to that separable portion of its business.
17.8.3 Accounting for the discontinuation of ASC 980
The discontinuation of the application of ASC 980 by a regulated utility to all or a portion of its operations generally results in the elimination of assets and liabilities that were created out of the regulatory process, with the exception of certain portions of utility plant and inventory. The net effect of the adjustments should be included in income in the period of discontinuance.
Excerpt from ASC 980-20-40-2
When an entity discontinues application of this Topic to all or part of its operations, that entity shall eliminate from its statement of financial position prepared for general-purpose external financial reporting the effects of any actions of regulators that had been recognized as assets and liabilities pursuant to this Topic but would not have been recognized as assets and liabilities by entities in general.
In addition, once a regulated utility discontinues the application of ASC 980 to all or a portion of its operations, in accordance with ASC 980-20-35-1, it will no longer recognize regulatory assets or liabilities arising from those operations. If a reporting entity ceases to meet the criteria to apply ASC 980 yet continues to be subject to regulation, evaluation of the regulator’s intentions will be necessary in determining whether any existing regulatory assets or liabilities continue to exist.
ASC 980-20-55 illustrates the accounting for the discontinuation of ASC 980. The following sections also discuss specific considerations related to various aspects of accounting for a discontinuation. See UP 17.8 for information on presentation and disclosure considerations relating to the discontinuation of ASC 980.
17.8.3.1 Derecognition of regulatory assets and liabilities
Regulatory assets and liabilities are generally eliminated as a result of discontinuation of regulatory accounting. In determining the amount of the adjustment, a key step in the process is to identify all of the reporting entity’s regulatory assets and liabilities. Although some regulatory assets may be easy to identify, reporting entities also need to consider whether there are any regulatory assets or liabilities embedded in other balances or labeled differently (e.g., deferred credits). Examples of regulatory assets and liabilities that should be written off upon discontinuation of regulatory accounting are as follows:
- Regulatory assets and liabilities related to deferred income taxes recorded under ASC 740 for flow-through items and other tax regulatory differences
- Regulatory assets related to pension and other postretirement obligations
- Unamortized deferred gains or losses on debt refinancings
- The cumulative difference between capital lease expense and the amount of lease expense recognized under the rate process for capital leases
- Post-construction operating costs capitalized in plant accounts
- Regulatory assets embedded in plant arising from regulator-imposed depreciation methods (see UP 18.6 for further information on depreciation)
- Liabilities for revenue subject to refund
- Liabilities associated with the cost of removal of plant in-service
Regulated utilities should evaluate regulatory liabilities prior to write-off to determine if they will remain obligations of the reporting entity and therefore continue as liabilities under US GAAP in general. Pursuant to ASC 980-20-40-2, only liabilities recognized as a result of the regulatory process should be written off upon discontinuation of ASC 980.
Question UP 17-18
How should a reporting entity evaluate “common” assets and liabilities when ASC 980 is applied to a separable portion of the business?
How should a reporting entity evaluate “common” assets and liabilities when ASC 980 is applied to a separable portion of the business?
PwC response
When discontinuation of ASC 980 is applied to a separate portion of the business, the accounting for common regulatory assets and liabilities (i.e., those that relate to more than one customer class, business segment, or other separable portion of the business) will depend on regulatory actions and other factors. There may be different approaches to determining the amount of write-off required for common regulatory assets. We believe one acceptable approach would be to write off a pro rata portion of the regulatory assets and liabilities based on the proportion of the amortization of the regulatory asset or liability allocated to the separate portion of the business in the most recent rate case. There may be other methods that are appropriate under the facts and circumstances.
In addition, if the regulated utility can establish that the regulator will allow specific recovery of the regulatory asset from a portion of the reporting entity’s operations that continue to qualify for application of ASC 980, a proportionate write-off may not be required pursuant to ASC 980-20-35.
17.8.3.2 Utility plant and inventory
ASC 980-20-35-2 through 35-5 and ASC 980-20-40-2 through 40-4 provide specific guidance for adjusting utility plant and inventory as part of the discontinuation of regulatory accounting. In accordance with this guidance, the carrying value of utility plant and inventory should not be adjusted for the following amounts:
- Allowance for funds used during construction
- Intercompany profit
- Disallowances of costs of recently completed plant
However, other amounts capitalized in utility plant or inventory as a result of regulator action should be written off when recording the effects of discontinuation of ASC 980. Examples of such types of costs include:
- Post-construction operating costs (costs the regulator allows to be capitalized from the time a plant is placed in service to the effective date of inclusion of the plant in rates)
- The cumulative difference, if any, between depreciation recorded based on rates and lives approved by the regulator and depreciation that would be recorded by entities in general (e.g., recovery of accelerated depreciation)
In addition, as part of the discontinuation of regulatory accounting, the reporting entity should perform an impairment analysis of utility plant in accordance with the guidance in ASC 360. In assessing the recoverability of the carrying amount of plant, the undiscounted cash flows used in the analysis should not include cash flows that will be recovered from any portion of the business that meets the criteria for continued application of ASC 980. See UP 18.7 for further information on impairment of utility plant.
17.8.3.3 Stranded costs and other regulatory adjustments
During the transition to a deregulated environment, regulators may provide regulated cash flows for the recovery of specified regulatory assets or to settle regulatory liabilities of a deregulated portion of the business. These transition charges are generally designed to recover a regulated utility’s “stranded costs” arising from the part of the business that no longer meets the criteria to apply ASC 980. Stranded costs are generally costs that would not be recoverable by an unregulated entity in a competitive marketplace and may include items such as the above-market value of utility plant, purchase power contracts, and regulatory assets.
If recovery is provided for regulatory assets and regulatory liabilities that originated in the separable portion of a reporting entity to which ASC 980-20 is applied, the reporting entity should evaluate whether a full or partial write-off is required. If the regulator issues a rate order or other decision that such amounts will be recovered or refunded through future regulatory cash flows, the related existing balances will not be written off. The existing regulatory balances must be specified in the deregulatory legislation or transitional rate order to avoid a write-off. In accordance with ASC 980-20-35-7, such amounts will not be eliminated until one of the following events occurs:
- They are recovered or settled as the regulated cash flows are collected
- They are impaired, or in the case of a regulatory liability, they are eliminated by the regulator
- The separable portion of the business generating the regulated cash flows no longer meets the criteria for application of ASC 980
ASC 980-20-35-8 through 35-9 also provide similar guidance that permits capitalization of future regulatory assets and liabilities (i.e., not just those that existed at the date of discontinuation) arising from a deregulatory legislation or a transitional rate order. Similar to the guidance for the recognition of existing regulatory assets and liabilities, the potential future regulatory assets and liabilities must be specified in the legislation or transitional rate order. Furthermore, the related costs must be incurred after ASC 980 is discontinued.
It may be difficult to distinguish when it is appropriate to retain existing regulatory assets or liabilities or to record future regulatory assets and liabilities, once a reporting entity has discontinued the application of ASC 980. Unless there is specific transitional legislation or a rate order permitting such accounting, a reporting entity should record only balances and transactions related to the separable portion of the business pursuant to US GAAP applicable to entities in general.
Question UP 17-19
Are securitized stranded costs financial assets?
Are securitized stranded costs financial assets?
PwC response
No. Reporting entities may sometimes securitize their enforceable right to impose a surcharge or tariff. When a reporting entity securitizes its stranded costs, it obtains cash from investors in exchange for future regulated cash flows representing the surcharge or tariff. Such securitizations are typically set up through a trust that sells the securities and administers the ongoing cash flows related to those securities.
ASC 860, Transfers and Servicing, provides specific guidance on securitized stranded costs and states that they do not meet the definition of a financial asset. ASC 860-10-55-7 through 55-8 indicate that securitized stranded costs are not financial assets because they are imposed on ratepayers through the surcharge or tariff (i.e., imposed by the government) and do not represent a right to receive payments from another party as a result of a contract. Therefore, reporting entities should evaluate transfers of stranded costs in a securitization transaction as a borrowing and consider consolidation requirements related to the securitization trust.
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