Joint Cost Allocation and Cogeneration

Abstract

With the joint production of two goods, one subject to competition and the other being a natural monopoly, the threat of cost based price regulation should lead the rational producer to allocate as much costs as possible to the product under scrutiny. We investigate whether Swedish district heating companies allocate joint costs accordingly as well as the importance of these choices in terms of reported segment profitability. The study is conducted through telephone interviews with Swedish companies with combined heat and power (CHP) production, and by analyzing effects on segment profitability from different allocation policies in a DH firms. Our main findings are that most CHP producers do not allocate costs for purposes of reporting or decision making, but that they, implicitly or explicitly, consider electricity a by-product which is used to subsidize heat customers. The case study also suggests that the choice of allocation method has a substantial impact on reported business segment profitability.

Keywords: Joint cost allocation, Mark-up pricing, District heating, Combined heat and power, Cogeneration, Sweden

JEL Classification: L10, L52, L97, M11, M40