The Electric Fuel Cost Adjustment Clause: Balancing Risk and Fairness
Sharing the uncertainty of risk and reward
Electric utilities face a unique challenge: the cost of fuel used to generate electricity is one of the most volatile elements in their cost structure. Prices for coal, natural gas, oil, or even wholesale power purchases can change dramatically in short periods of time. To manage this uncertainty, many utilities employ a Fuel Cost Adjustment (FCA) clause on customer bills. The FCA ensures that changes in fuel costs are fairly and transparently passed through to customers, rather than absorbed entirely by the utility or built into base rates that may quickly become outdated.
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How It Is Calculated
The FCA mechanism typically begins with an estimate of average fuel costs that is embedded in the utility’s base rates, approved by regulators or the utility’s board. Each billing period, the utility compares its actual fuel costs to the baseline fuel costs in rates. If actual costs are higher, the difference is charged to customers through a fuel cost adjustment line item. If actual costs are lower, customers receive a credit.
For example, if a utility’s base rates assume $25/MWh for fuel, but the actual cost in a given month is $28/MWh, the $3/MWh difference is multiplied by customer usage and added to the bill as an FCA charge. Conversely, if the actual cost falls to $22/MWh, the $3/MWh credit reduces bills.
Pros of the Fuel Cost Adjustment
• Fairness and Transparency: Customers pay the true cost of the fuel required to generate their electricity.
• Financial Stability for Utilities: Utilities are not forced to absorb uncontrollable fuel price increases, helping maintain margins and debt coverage ratios.
• Flexibility: Fuel costs can be passed through monthly or quarterly, keeping bills aligned with market conditions.
• Symmetry: When costs decline, customers benefit through lower charges, not just higher costs.
Cons of the Fuel Cost Adjustment
• Bill Volatility: Customers may see significant swings in their bills from month to month, creating budgeting challenges.
• Perception of Complexity: Customers often struggle to understand why fuel costs are “separate” from base rates, leading to questions about fairness.
• Limited Utility Incentives: Because costs are passed through, utilities may have less motivation to aggressively manage fuel procurement, though regulators typically monitor these costs.
Why It’s Considered a Best Practice
Ultimately, the FCA is a best practice because it shares the risk of fuel cost variability between the utility and its customers. Without such a mechanism, utilities would need to build a “risk premium” into base rates, which could lock customers into higher-than-necessary costs. With an FCA, customers see both the ups and downs of fuel markets, while utilities remain financially healthy and able to invest in reliable service.
When explained clearly, the Fuel Cost Adjustment is not just a line item—it’s a tool for fairness, transparency, and stability in the ever-changing world of energy prices.
How I Can Assist
If your electric co-op or utility is looking to update rates—whether for traditional structures or innovative designs that align with the evolving energy landscape—I’m here to help. Let’s connect to explore solutions tailored to your needs. Please contact me with any questions to discuss your goals in more detail.
Thanks for reading! I welcome your suggestions for future topics and am always eager to provide insights on pressing industry issues. My goal is to be a trusted resource for utilities and electric cooperatives navigating today’s challenges.
About Russ Hissom - Article Author
Russ Hissom, CPA is a principal of Utility Accounting & Rates Specialists a firm that provides power and utility cost of service and rate studies, expert witness, and consulting services, and online/on-demand courses on accounting, rates, FERC/RUS construction accounting, financial analysis, and business process improvement services. Russ was a partner in a national accounting and consulting firm for 20 years. He works with electric investor-owned and public power utilities, electric cooperatives, broadband providers, and gas, water, and wastewater utilities. His goal is to share industry best practices to help your business perform effectively and efficiently and meet the challenges of the changing power and utilities industry.
Find out more about Utility Accounting & Rates Specialists here, or you can reach Russ at russ.hissom@uarsconsulting.com.
The material in this article is for informational purposes only and should not be taken as legal or accounting advice provided by Utility Accounting & Rates Specialists, LLC. You should seek formal advice on this topic from your accounting or legal advisor.