Council is provided additional information related to topics discussed at the February 13, 2017 San Jose Clean Energy Study Session.

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1 COUNCIL AGENDA: 03/21/17 ITEM: lijbiivi: j, CITY OF 2 SAN JOSE CAPITAL OF SILICON VALLEY TO: HONORABLE MAYOR AND CITY COUNCIL Memorandum FROM: Kerrie Romanow SUBJECT: UPDATE ON SAN JOSE CLEAN ENERGY DATE: March 7, 2017 Approved Date Z/8/rt RECOMMENDATION Accept the staff report on the San Jose Clean Energy update. OUTCOME Council is provided additional information related to topics discussed at the February 13, 2017 San Jose Clean Energy Study Session. EXECUTIVE SUMMARY Community choice aggregation (CCA) is an energy procurement model that allows local governments to pool or aggregate the electric load of their residents, businesses, and institutions to purchase electricity on their behalf. A CCA would determine the source of electricity including the percentage renewables in the power mix, set customer rates, and determine the use of revenues for local energy programs and projects. The existing Investor Owned Utility (IOU), Pacific Gas and Electric (PG&E), would continue to maintain the transmission and distribution infrastructure, deliver the energy, and bill customers. This memorandum provides additional information requested during the most recent CCA study session on February 13, 2017, including: the impacts of leaving PG&E service, analysis of a worst case scenario, renewables considerations, and operational models. BACKGROUND Community Choice Aggregation Overview Enabled by AB 117 (2002) in California, Community Choice Aggregation (CCA) is an energy procurement model that allows local governments to pool or aggregate the electric load of their

2 March 7, 2017 Page 2 residents, businesses, and institutions to purchase electricity on their behalf. PG&E customers in San Jose would automatically be enrolled unless they choose to opt out. If a CCA were to be implemented in San Jose, it would determine the source of electricity, set the customer rates, retain revenue, and determine spending priorities locally. The existing Investor Owned Utility (IOU), in San Jose's case Pacific Gas and Electric (PG&E), would continue to maintain the transmission and distribution infrastructure, deliver the energy, and bill customers. For these continued services, PG&E would charge CCA customers the same delivery rates as PG&E customers and these charges would be incorporated into the total CCA electric rates to its customers. CCAs can provide many community benefits, including significant environmental and economic benefits. CCA programs typically provide electricity options with a higher mix of renewable baseline energy than available from the incumbent utility, even at reduced rates. The percentage of renewables in baseline electricity from currently operating CCAs ranges from 35 percent to 50 percent. All operating CCAs also offer an optional 100 percent renewable option for a premium. CCAs are a primary component of climate action and/or sustainability plans as an increase of renewables in the baseline power supply leads to an immediate and significant reduction in community greenhouse gas (GHG) emissions. CCAs also allow local governments entities to have more control over rates and how the revenues are invested in the community. A CCA can offer rate structures and programs that are tailored to address a community's priorities and policies, including local economic development goals. For example, CCAs have implemented several programs such as net energy metering (NEM) programs that pay a higher incentive than PG&E to incentivize more rooftop solar; electric vehicle (EV) rate structures and incentives, low-income solar programs, and energy efficiency programs. CCA programs can also stimulate the local economy by investing in local renewable projects and incentivize manufacturing companies to site in San Jose by offering special manufacturing rates. There are currently five operational CCAs in California and another seven CCAs anticipate starting service in As many as 20 other California communities are currently exploring the opportunity of creating a CCA. Within five years, approximately 50 percent of California's power load could be served by CCAs. Prior Council and Committee Direction At the March City Council meeting. Council directed staff to proceed with a Request for Proposals (RFP) for an entity to develop, finance, launch, and operate a CCA program. Council directed staff to explore the single-jurisdiction CCA operational model allowing San Jose, not a third party, to manage the CCA program. Further, Council asked staff to return with an RFP framework prior to issuing it, and to return with additional program recommendations in the fall. Subsequently, the Mayor's March 2016 Budget Message, allocated $300,000 in one-time funding to conduct a technical study on San Jose's CCA program, also referred to as San Jose Clean Energy (SJCE). The direction from the March Budget Message, incorporated into the

3 March 7, 2017 Page 3 Council approved FY Budget, modified prior Council direction by focusing the RFP scope of work solely on a technical study that would help inform Council about whether to proceed with SJCE. In August 2016, Environmental Services staff began working with Bevilacqua Knight, Inc. (BKi) and their subconsultant EES Consulting ("EES") to develop a technical study and business plan ("Business Plan") for SJCE. On October a Council Study Session was held to provide Council with information on the status of CCAs, the different CCA operational models, potential risks and issues, and to solicit feedback to help inform the business plan and future staff recommendations. The Study Session included insights from people with experience and expertise in the longest operating CCAs, Marin Clean Energy (established in 2010) and Sonoma Clean Power (established in 2014), an operational single-jurisdiction model (Lancaster Choice Energy, established in 2015), and a municipal utility (Silicon Valley Power) and offered the City Council the opportunity to ask questions on specific areas of concern. An interdepartmental team consisting of representatives from the City Attorney's Office, Environmental Services, Finance, Office of the City Manager/Budget Office, and Office of Economic Development vetted the Business Plan and a public draft was released on February 3, On February a second Council Study Session was held to review the Business Plan findings and solicit feedback. Staff will host a public information session on the evening of March 15, 2017 in the City Council Chambers to review the Business Plan and answer questions from the community. ANALYSIS The purpose of this staff report is to provide further information in response to questions that arose during the February 13, 2017 Council Study Session and received via public comment (see items below). At the Council meeting, the City Council will also have the opportunity to ask additional questions of City staff, the City's consultant, operational CCAs, and other experts in the energy field. Impacts of Leaving PG&E Service The City Council has asked staff several questions related to PG&E, San Jose's existing IOU. Responses to these questions are included below.

4 March 7, 2017 Page 4 Impact on PG&E PG&E estimates that CCAs may serve up to half of the total load it currently serves by This is the result of all coastal counties and 13 inland counties either launching or exploring CCA service at this time. Attachment A includes a map of CCA activity in PG&E's service area. IOUs, such as PG&E, are not allowed to make a profit on the electricity generation component of their service. In other words, electric sales are a "pass-through" expense to customers. PG&E's profits are made entirely as a return on investments in the transmission and distribution infrastructure, such as wires and substations, for which they receive a set rate of return and for the capital costs of electric generation that the California Public Utilities Commission (CPUC) authorizes them to own. Therefore, PG&E's overall profitability will not be affected regardless of the extent of CCA activity in their service area. However, PG&E and the CPUC are concerned about increased costs to bundled customers as other customers create CCAs. PG&E has been outspoken on this and the CPUC has consistently acted to protect the interests of bundled customers in numerous proceedings. PG&E has been concerned about the impact on their business due to CCAs and exhibited business practices to protect their monopoly. These practices have included some misleading communication and placing an initiative on the California ballot (Proposition 16). The misleading communication resulted in additional legislation (SB 790, 2011) to prohibit such practices and Proposition 16 did not pass. Power Charge Indifference Adjustment (PCIA) The Power Charge Indifference Adjustment (PCIA) is a charge applied to customers who leave IOU service to become Direct Access (DA) or CCA customers. The charge is meant to compensate the IOU for costs that it has previously incurred for long-term power contracts to serve those customers in order to keep the IOUs continuing customers "indifferent". Once the contracts expire, the related PCIA will disappear. The CPUC determines the PCIA methodology and approves the PCIA calculation. The PCIA is calculated annually for each IOU service territory by subtracting a market price benchmark of wholesale power from the IOU's cost of above market power supply contracts in place at the time the CCA launches 2. Over time, the PCIA will vary, but it is expected that it will decline as market prices increase and grandfathered contracts expire. In order to retain customers, SJCE power supply costs plus PCIA, and other surcharges, will likely need to be lower than PG&E's generation rates. The assumptions and conclusions of the PCIA analysis in the Business Plan, consistent with those of other CCA technical studies, were 1 Diablo Canyon Power Plant Need Analysis: 2 Alternatively, a CCA can "reserve" a vintage prior to its launch by signing a Binding Notice of Intent (BNI) with the IOU. In this case, the PCIA calculation refers to the date the BNI is signed.

5 March 7,2017 Page 5 that the PCIA remains at risk of negatively impacting SJCE's rates but that CCAs are currently and will remain engaged in these regulatory matters. In October, 2016, the CPUC established a PCIA working group led by Southern California Edison and Sonoma Clean Power to propose changes to the PCIA methodology including increasing transparency and certainty of the calculation. PCIA working group meetings began on October 27, 2016 with participation from all operation CCAs and all three major IOUs and many other stakeholders. The group held its final monthly meeting on February 8, A working group report will be produced and delivered to the Commission by April 5, Impact of PG&E Diablo Canyon Nuclear Power Plant Retirement Proposal On June 20, 2016, PG&E issued a proposal to shut down the Diablo Canyon Nuclear Plant (Diablo) by 2025 and replace it with GHG-free resources. The proposal to the CPUC included three phases: 1. Energy Efficiency (EE): PG&E proposes to invest in energy efficiency programs to reduce electricity demand in its service area by 2,000 GWh between 2018 and GHG-free resources and EE: PG&E proposes to provide an additional 2,000 GWh between through a combination of new GHG-free electricity resources and EE investments to reduce demand - whichever is cheaper. 3. Increase Renewable Portfolio Standard (RPS) compliant generation share to 55% from 2031 to In order to recover costs for new generation resources acquired as part of the Diablo replacement plan, PG&E had proposed to create a new PCIA-like cost recovery-mechanism called the "Clean Energy Charge." However, CCAs, DA groups, and others, protested PG&E's proposal. On February 27, 2017, PG&E modified its proposal, withdrawing the second and third phases of the initial power replacement proposal and deferring the decision of how to replace that power to the Integrated Resource Plan (IRP) proceeding. This modification to the proposal is a win for CCAs because it reduces the likelihood of creating additional regulatory surcharges for CCAs. Thus, the Diablo retirement proposal proceeding no longer represents a risk for CCAs considering launching service. However, CCAs will need to continue to remain active in any future related proceedings, such as future IRP proceedings. Impact on Customers Participating in PG&E Low-Income Programs PG&E customers who are already enrolled in PG&E's low-income programs would continue those programs automatically if they become SJCE customers. These program discounts are applied to the distribution (not generation) side of the electricity bill so the discount is the same because all customers will continue to receive PG&E services. While PG&E would apply the PCIA to only CCA customers, this fee applies to the generation side of the bill. Since SJCE is expected to be able to offer a lower total (and therefore lower generation) rate to its customers

6 March 7, Page 6 per the Business Plan (Exhibit ES-5), S JCE customers participating in low-income discount programs would pay less than they do with PG&E, even with the PCIA included. Impact on Fees and Taxes Paid to City Franchise Fess The franchise fee is a surcharge that PG&E pays Cities and Counties for the right to use public streets and properties to provide utility services. This fee is collected by PG&E and paid to the Cities and Comities. This tax is calculated based on PG&E's rates and is collected from all customers, including CCA customers. This is a non-bypassable charge called the Franchise Fee Surcharge. PG&E will continue to collect the Franchise Fee Surcharge for both generation and distribution services and pay the same amount of revenue to the Cities and Counties, regardless of whether a CCA or PG&E provides power supply service. Therefore, the formation of a CCA does not affect the amount of franchise fee revenue paid to the City, and also does not require the negotiation of a new franchise fee agreement. Utility Users Tax The Utility Users Tax (UUT) is a tax imposed by Cities and Counties on the users of a utility service, such as electricity, gas, or internet. The tax is collected by PG&E on behalf of Cities and Counties as a part of its regular billing procedure and then remitted to the Cities and Counties. The rate of the UUT and the use of its revenues are determined by the City or County, as a percentage of the bill. Therefore, revenues from the UUT will decrease if CCA service results in lower bills to customers. The amount of these losses will be a percentage of the lower power bills incurred by SJCE customers. If SJCE employs the 10 percent more renewable power plan, residents and businesses of SJCE are anticipated to save $29,805,077 in the first full year of operation (see Business Plan, Appendix B). At the current UUT rate of 5 percent, the City of San Jose would expect to lose a projected reduction in UUT revenue of $1,490,254 per year, however, this would be partially offset by lower electricity costs to the City. In , San Jose paid $22,492,990 in power bills for municipal accounts. The General Fund was responsible for 53 percent of those accounts, or $11,932,364. Under SJCE rates that are 3.8 percent below PG&E's, the General Fund municipal accounts would have saved a total of $453,430 in energy bills. Therefore, with the simplifying assumption that 2019 rates are the same as 2016 rates, the net revenue lost to the City's General Fund as a result of the CCA's service would be $1,036,824. City accounts (General Fund and non-general Fund combined) would save a total of $854,734/year in energy bills. Therefore, the total net revenue lost to the City as a result of the CCA's service would be $635,520 per Table 1 on the next page.

7 March 7, 2017 Page 7 Table 1. Impact of CCA on City Revenues A Total SJCE Savings $29,805,077 B Lost UUT Revenue General Fund (5%*A=B) $1,490,254 C Municipal Power Bill $22,492,990 D Total Municipal Bill Savings (3.8%*C=D) $854,734 E General Fund Power Bill $11,932,364 F General Fund Bill Savings (3.8%*E-F) $453,430 G Net Loss to General Fund (B-F=G) $1,036,824 H Net Loss to City (B-D=H) $635,520 Worst Case Scenario City Council asked staff to outline a worst case scenario for SJCE. Although many permutations and combinations of factors could be used to analyze various scenarios for SJCE, a potential worst case scenario is outlined below. The worst case scenario is assumed to occur in February 2019, with SJCE being fully operational and having procured power for its total energy load for The initial start-up funding loan has not been fully paid back and SJCE's reserve has not been fully built up. It is assumed that SJCE's rates would need to be raised 5 percent higher than PG&E's rates in order to remain operational. The increased rate could be a result of one or more of the following: (1) the PCIA increases by 50 percent relative to 2017 without a corresponding increase in PG&E's generation rates, (2) SJCE has entered into power contracts with approximately 20 percent higher power prices than the market prices assumed in the Business Plan without a corresponding increase in PG&E's generation rates, or (3) new pass-through charges are added only to SJCE customers. As a result of the higher rates, it is assumed that more than 65 percent of SJCE's load opts out of SJCE over a one month period and operating expenses are projected to exceed those of incoming revenues in the following fiscal year. In this scenario, it is also assumed that SJCE is unable to get back its customers and is unable terminate its longer-term power contracts, thereby resulting in selling these contracts on the market for an assumed 10 percent loss. This scenario would likely result in the dissolution of SJCE and remaining SJCE customers returning to PG&E. These customers would be assessed a per customer fee for re-entry. The amount of this initial fee is currently at $4.24 per customer 3. 3 PG&E Electric Schedule E-CCA: SCHEDS E-CCA.pdf

8 March 7, 2017 Page 8 In the scenario outlined above, the financial and resource impacts would include: 1. If the "lock box arrangement" employed by the two other single-jurisdiction CCAs was unable to adequately protect the General Fund, the City's total exposure could be approximately $ 18 million including the following: a. S JCE would be unable to pay back all of its initial seed funding loan resulting in a loss of $4,105,000 b. $14,202,000 in power contracts and operational expenses could potentially be in default City staff would either need to be redeployed or laid off. 3. All other contractual services could be terminated without penalty. In reality, the risks stated above would be mitigated in several ways as outlined in the Business Plan (Exhibit 35) and as operationalized by the existing CCAs. Key risk mitigation strategies are reiterated below: 1. Strategically manage short term and long term power contracts: SJCE will initially have flexibility in the number of long-term contracts it signs. The long-term contracting requirement set by California Senate Bill 350 takes effect in 2021, when 65 percent of renewable energy contracts must be at least 10-year or longer commitments 4. Until that time, SJCE should balance short- and long- term contracts to hedge market price. Early risks can be reduced during contract negotiations based upon contract duration, exit provisions, and shared responsibilities with the electricity providers. 2. Establish a rate stabilization fund: SJCE can designate a certain portion of reserves as a rate stabilization fund as part of the reserve fund assumed in the Business Plan and draw on either to stabilize rates during any price spikes in the market and maintain competitive rates with PG&E. 3. Provide legal protection of the General Fund in power contracts: SJCE can reduce financial exposure in electricity procurement, as the single-jurisdiction CCAs in Lancaster and San Francisco have done, in order to protect the City of San Jose's General Fund from financial risk related to the power contracts. 4. Remain informed and actively engaged in regulatory items impacting CCAs: Participation in the new CCA trade association (California Community Choice Association) and active advocacy will reduce the likelihood that new costs are established on CCAs and that CCAs lose some of their existing authority. 5. Manage overhead costs: SJCE can minimize overhead costs and reduce them if load loss occurs to remain financially viable. With these strategies, risks can be managed as has been demonstrated by all other newly created CCAs in California thus far. Therefore, it is essential that the City hire experienced staff and contract personnel to operate SJCE. 4 California Public Utilities Code, Section (b): displavsection.xhtml?lawcode=puc&sectionnum=399.13

9 March 7,2017 Page 9 Renewables Considerations The City Council has asked staff several questions related to renewable energy. Responses to these questions are included below. Impact of High Solar Uptake Rates Council asked staff questions about the potential consequences of a scenario in which a large share of SJCE's load was lost to rooftop solar. As noted above, SJCE would remain feasible to launch even after a loss of 65 percent of its load whether that is due to the conversion to rooftop solar or another scenario. This level of solar adoption in San Jose in such a short amount of time that would not allow for adequate operational adjustments would be unprecedented and infeasible. For example, to reach even a 50 percent loss of load, roughly 1000 MW of solar photovoltaic would need to be installed - 10 times more solar than has been installed in San Jose throughout its history 5. Moreover, the CCA can adjust its rates to sustain the CCA, or reduce its overhead costs to accommodate additional solar adoption. More likely, solar will be installed at an increased rate over time, which SJCE would encourage (given its stated goals) and plan for in order to maintain SJCE's operational viability. Feasibility of Solar in San Jose City Limits Council inquired whether building larger scale solar within San Jose's city limits is feasible. The City has not conducted a community solar assessment nor has it proposed any specific solar installations related to SJCE. Depending on its size, a solar installation may cost more if built within the City limits than a similar facility built in more rural, less costly areas and, if larger, may be more difficult to site within the City limits. Tradeoffs between higher costs of construction and desired land uses versus more economic development within the City and lower transmission wheeling rates are policy decisions to be made by SJCE's governing board in the context of an IRP. SJCE can choose to finance and own a solar installation and incur the initial capital cost or it can procure its RPS-mandated renewable energy through power purchase agreements (PPAs) with private entities, where no up-front capital will be required. With a CCA, these types of decisions on whether, where, and how much solar to site in San Jose or elsewhere in California would occur locally, in the context of the IRP process, with the community's ability to provide input to SJCE's governing body. The IRP will likely be one of the first planning studies undertaken by SJCE prior to launch and San Jose may even want to conduct an analysis of the feasibility and potential for development of local renewable energy resources, similar to what Alameda County's emerging CCA is engaged in. 5 San Jose Installed Solar Capacity:

10 March 7,2017 Page 10 Feasibility of 100 Percent Renewable Power It is technically feasible for SJCE to offer 100 percent renewable power as either a baseline power product or as an optional power product if it so chooses. The fact that solar photovoltaic resources provide power during the light hours of the day but cannot produce at night is irrelevant given how the grid works. In order to provide 100 percent renewable power, SJCE would over-procure solar power during the day and sell the excess. SJCE would then purchase market power at night to make up its shortfall. SJCE would be responsible for the generation and use of an amount of renewable power equal to its total electric load. Thus, under the prevailing regulatory definition in California, SJCE's power usage would be deemed 100 percent renewable 6. The SJCE Business Plan assumes wind, geothermal and solar renewable resources will be acquired by SJCE with the requirement to provide stable, reliable and predictable supply of renewable energy. However, as noted in the February 13 City Council meeting, natural gas generation will be needed for the foreseeable future to shape SJCE's power supply to match the SJCE customer electric demands. With a CCA, the decision on what baseline and alternative power options are offered would occur locally with the community's ability to provide input to SJCE's governing body. State of Battery Storage Because renewable resources cannot be dispatched to match load, but rather generate when the sun and wind is available, options for storing energy are needed as California moves towards a 50 percent renewable resource portfolio. The CPUC has recognized this fact by requiring IOUs, Publicly Owned Utilities (POUs), and CCAs to invest in 1 percent of their 2020 renewable load in storage options by It is widely held by the California Independent System Operator 7 and investors that the cost for battery storage will experience the same downward price trends that have been experienced by the solar industry where prices are roughly one-half what they were five years ago and continue to drop 8. This trend will be bolstered by the new regulatory requirements for IOUs, POUs, and CCAs to invest in storage contracts. Current understanding of grid operations would indicate that significant advancements in battery storage will be required if the State wishes to meet its RPS goals by 2030 due to the intermittency of renewable resources such as solar and wind. 6 CPUC Rule 33: Procurement Rules 33/ 7 CaliforniaRoadmap.pdf 8 National Renewable Energy Laboratory, "U.S. Photovoltaic Prices and Cost Breakdowns,"

11 March 7,2017 Page 11 Operational Models City Council asked staff about additional evaluation of the two other operational models, Joint Powers Authority and third-party turnkey, other than the single-jurisdiction model that was the basis for the CCA feasibility analysis in the Business Plan. Third-Party Turnkey Option The assumed advantages for launching a CCA under a third-party turnkey operational model are 1) less upfront City cost and related risk, and 2) reduced reliance on City staffing and expertise. However, under this approach, the City would have a higher cost of financing, reduced revenues due to payments to the third-party, and reduced control over the program. Since there are no CCA turnkey models with a track record in California, this option also presents the highest risk and is not recommended by staff. With regards to having the appropriate expertise and experience, it is important to note that under a single-jurisdiction or Joint Powers Authority operational model, CCAs typically employ a variety of contracted staff (e.g. for power procurement, data management), so having sufficient expertise on hand is not an issue. Joint Powers Authority Option Per the Business Plan (Exhibit 1), Peninsula Clean Energy and Silicon Valley Clean Energy were the only operational and soon-to-be operational CCA Joint Powers Authorities (JPAs) amenable to further discussion about having San Jose join them. Staff has begun exploratory discussions with both of the organizations and will bring back further information in the memo for the April 25 Council meeting. Next Steps In additional to the information provided in this memo and at previous Council meetings, City Council will have an opportunity to ask additional questions of City staff, the City's consultant, operational CCAs, and other experts in the energy field. Staff will return to Council on April 25, 2017 with a recommendation on whether and how to proceed with SJCE. EVALUATION AND FOLLOW-UP Staff will incorporate Council feedback and return to Council on April 25, 2017 with recommendations on whether and how to proceed with SJCE.

12 March 7,2017 Page 12 PUBLIC OUTREACH Staff will host a public meeting in the City Council Chambers on March 15, 2017 to discuss the SJCE Business Plan results, respond to questions, and gather input from interested parties. This memorandum will be posted on the City's website for the March 21, 2017 City Council meeting COORDINATION This memorandum has been coordinated with the Departments of Finance, Planning, Building, and Code Enforcement, the City Manager's Budget Office, the Office of Economic Development, and the City Attorney's Office. CEOA Not a Project, File No. PP10-069(a), City Administrative Activities, Staff Reports that involve no approvals of any City actions. /s/ KERRIE ROMANOW Director, Environmental Services For questions, please contact Kerrie Romanow, Director of Environmental Services, at (408) Attachment A - Status of CCAs in PG&E Service Territory

13 Attachment A: Status of CCAs in PG&E Service Territory