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is owed some $2 million for work which it has previously performed. In addition, we are advised extensive additional construction involving Pepco is anticipated over the next several months. Pepco has taken the position that it is very reluctant to go forward with additional work until the total of the past-due amounts have been paid and until the definitive agreement has been entered into.

2. The proposed agreement deals exclusively with the installation of service connections and the provision of electric energy to Metro.1/ The salient provisions of the proposed agreement are these:

(a) Metro will buy all of its electric energy for operation of the subway system within Pepco's franchise areas (D.C., Maryland and a small portion of Virginia) exclusively from Pepco. The contract is supposed to provide that all purchases of energy on Metro's contiguous right-of-way will be made pursuant to a newly created single rate designated "RT." Purchases of energy for delivery to other locations owned by Metro i.e., bus terminals, chiller plants, executive offices, etc. are to be made at Pepco's generally applicable rate for that type of use.

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(b) Pepco will install service connections in accordance with the technical standards specified by Metro. It will be compensated for this investment and labor in the form of Contributions-in-Aid-of-Construction. The Contribution-in-Aid-of-Construction requirement is premised upon the concept that Metro's technical standards. will cause Pepco to incur a larger investment and more labor costs than the company would have incurred in connecting other (more "normal") customers. Contribution-in-Aid'of-Construction thus purports to represent the difference between (i) the cost to Pepco of investment and construction in accordance with Metro's technical requirements and (ii) the lesser cost which Pepco would have incurred were it not for Metro's specific engineering standards.

1/ During the course of construction in the streets, Metro has required considerable relocation of Pepco's underground facilities. These relocation projects are carried out by Pepco work crews but the utility is reimbursed by Metro. The relocation arrangements are the subject of a separate agreement which, we are advised, was entered into some time ago.

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(c)

The Contributions-in-Aid-of-Construction are to be computed in accordance with a complex formula which operates in the following manner:

(i) At the commencement of a project involving Pepco, the utility will estimate the cost of construction on two bases: (1) in accordance with the utility's normal standards but without regard to Metro's technical requirements; and (2) in accordance with the utility's standard construction practice but in conformance with Metro's technical requirements. The difference between these two estimates constitutes the "Estimated Contribution-in-Aid-of-Construction.". Metro will make advance payments based on this figure during the construction of the specific project; these payments will be scheduled on the basis of pre-determined: "S" curves, representing the various stages in completion of the project.

The

(ii) At the completion of the project, Pepco will determine the Actual Cost of Construction. balance of Metro's Contribution-in-Aid-of-Construction is then determined: (1) the Actual Cost of Construction is divided by the Estimated Cost in accordance with Metro's technical provisions; (2) the resulting quotient is multiplied by the Estimated Cost without Metro's technical requirements; and (3) the Total Contribution-in-Aid-of-Construction is then determined by subtracting the result of this multiplication from the Actual Cost of Construction. Metro is required to pay at the end of the project the difference between the amount which it has theretofore paid in accordance with the "S" curves and the Total. Contribution-in-Aid-of-Construction.

(a) Pepco may re-estimate any Estimated Contribution-in-Aid-of-Construction as described above; and the increased amount of such estimate must be paid by Metro along with the "S" curve. In addition, if Metro changes the conditions of a project resulting in a increase in cost, Pepco is to be reimbursed as those increased costs are incurred.

(e) The agreement gives Metro the authority to examine Pepco's books "for the sole purpose of validating estimated or actual costs" during the project and for a period of two years after final payment. Metro has a similar authority to examine the books of Pepco's subcontractors for the same two-year period after final payment; but this audit authority does not apply to subcontracts for less than $100,000 and to subcontracts "awarded competitively."

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(£) The proposed agreement contains standard provisions prohibiting officials, members of Congress, etc. from "benefitting from the contracts; and requiring equal employment opportunities as specified by law.

The agreement recites that the Public Service Commissions of Maryland, the District and Virginia shall have jurisdiction over the agreement to the extent that they would otherwise have such jurisdiction as provided by their respective enabling statutes.

(g) The agreement excuses Pepco from liability for non-performance or delay in performance as the result of circumstances beyond its reasonable control. But circumstances beyond Pepco's reasonable control is defined to include "inability to obtain . . . labor, materials or manufacturing facilities from usual sources, lack of capacity or lack of energy."

(h) The agreement specifies a term of 30 years, cancellable thereafter by either party upon one year's written notice. The agreement, however, is subject to the further condition that it shall not in any way prevent Pepco from filing amended, new or superseded rate schedules, general terms and conditions or rules and regulations "governing any rates or terms of service for electricity sold by utility to authority" with any regulatory commission having jurisdiction in the premises.

B. Substantive Matters

The matters which we consider to be in need of clarification fall into two categories: (i) problems of substance and (ii) problems of contract drafting. This section

, of the memorandum deals with the substantive matters; the problems of drafting are noted in the succeeding section.

1. RT Schedule. The single most important problem arises from the requirement that Pepco establish an "RT" rate. (Contract, Section II.A.) In essence, this RT schedule will constitute the basis upon which all Metro payments to operate its trains and stations will be made.. We are informed by Metro officials that Pepco is supposed to prepare a cost of service study and develop the RT schedule from that study. The study, however, has not yet been done. (Section II.B.) problems therefore arise:

Immediate

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(a) Rate design is of great importance to a utility user like Metro which has unique energy usage characteristics. Metro's officials and consultants have described to us the rate design which they contemplate for the RT schedule in some detail; and, as described, the rate design may not be entirely satisfactory. Metro's consultant anticipates that there will be a two-tier rate design consisting of (i) a demand charge representing Metro's proportionate share of Pepco's investment in production facilities and (ii) an energy or variable charge reflecting the actual cost of providing electric energy to transit operations. Such a rate design may be in accordance with normally accepted rate making procedures and may be favorable to Metro without unduly discriminating against other Pepco customers. However, the design of the RT rate is decidedly not spelled out in the proposed contract (Section II.B.); and there is no documentation in the files which we have examined showing that Pepco 'is in agreement as to this.proposed rate design. There is thus no assurance that the rate will, in fact, be designed as described. Any other rate design i.e., a single charge covering both fixed and variable Costs be detrimental and extremely costly to Metro.

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could well

(b) Because no cost of service study has been performed, there is no way to determine what the rate levels (that is, the precise charges) to Metro under the RT schedule will be. 2/ This makes it impossible for the Metro Board at the present time to make an accurate estimate of (i) the total amount in dollars which it will be required to pay Pepco for the provision of energy in a year and (ii) the amount, expressed as a percentage, that energy costs will represent to Metro's total operating costs. Moreover, until the cost of service study has been completed, a number of technical rate questions--which may be of interest to the Metro Board cannot be answered. For example, because of differences in the authorized rates of

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27 Rate levels are directly a function of the cost of service analysis. Under accepted rate making principles, Pepco is entitled to earn a specified rate of return on its investment or rate base. Pepco's determination of the rate base properly attributable to Metro is made in the cost of service study; and will thus absolutely control the rate levels which Metro will be required to pay.

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return in Maryland, Virginia and D.C., the RT rate in each jurisdiction may be different. No procedure is established in the contract to obtain uniform rate treatment, but the . extent of rate differences among the respective jurisdictions cannot now be determined. Similarly, until the cost of service study is done, Metro cannot determine whether Pepco properly computed the Metro Rate Base.

2. At the present time, then, acceptance of the agreement would effectively commit Metro's Board to the purchase of all electric energy from Pepco without any knowledge of how the charges will be imposed (rate design) or how much it will cost. Metro officials have suggested that there is some tactical advantage to execution of the agreement before the RT schedule has been drafted and the cost of service study prepared. We do not understand the basis for this suggestion. Further, Metro officials point out that the RT schedule must, in any case, be submitted to the Public Service Commissions in each of the three jurisdictions; they suggest that if the RT schedule is unacceptable in design or levels, Metro would be free to contest implementation of the rates before the Public Service Commission. That may be correct. Nevertheless, in our view, prudence dictates that the Metro Board have before it a cost of service analysis and rate schedule before it enters into a contract which absolutely commits it to buy energy from Pepco.

3. The Contributions-in-Aid-of-Construction. Metro's technical standards will require Pepco to incur more investment and labor costs than would otherwise be the case if proper controls were established. Under the contract, Metro is required to pay at least a portion of the service connection investment and associated costs. There are, however, a number of questions concerning the implementation of this concept:

(a) The audit controls are inadequate. Under the agreement, Metro is not required to pay the full cost of service connections but only that proportion of the cost representing the difference between what it would cost Pepco to connect a more normal customer and the. higher cost of connection resulting from Metro's specific