[BETA] Fortnightly

One of the iron rules of competition and open markets is that there are winners and losers. Winners tend to win very big; losers tend to lose everything and disappear, through absorption or insolvency. As deregulation takes hold, high-cost producers and less adroit managers may find themselves steamrollered by emerging strongmen and entrepreneurial upstarts. These rivals may usurp segments of their business by bidding the job cheaper and still making money, leaving a rising tide of shareholder suits in their wake. Some of these will be derivative suits for mismanagement; some will be securities law suits for misstatements in prospectuses. Most likely, the majority of lawsuits will cover both these bases.

The targets of this litigation will be the company officers and directors, of course. So how will they defend themselves?

Senior management will either take early retirement or add defending these suits to the list of their daily duties. Their lives are unlikely to be affected to any large extent. Outside board members, however, may find the experience a substantial and expensive headache. In part, this will be because some outside utility directors have a level of knowledge and involvement in their companies that may well fall short of the easily defensible threshold of responsibility.

Many utility companies are run like quasi-governmental entities, whose obligations are first to management and employees, second to ratepayers, third to creditors, and last to shareholders, who are really regarded more as deeply subordinated debt holders than as owners of the enterprise. The real owners are management. So when shareholders' lawyers ask for evidence of management and board efforts to deliver returns for common shareholders, some records will be hard to defend.

Through the Looking Glass

The current state of affairs is not at all surprising. Over the years, management and regulators have frolicked together in a Wonderland of "regulatory assets" and "mirror" CWIP; rate structures where large, powerful customers paid more than small ones who were expensive to serve; and where DSM programs paid vendors to encourage their customers to buy less of the product. This world is peopled with exotic creatures such as "PURPA

machines" (em independent power producers that leveraged off utilities' balance sheets and customer bases while earning rates of return frequently in excess of 30 percent annually (em in an industry where 10 to 12 percent is the norm.

Small wonder that directors found their roles limited: What market should we enter? Not an issue; our service territory is defined and so is our function. What plants should we shut down because 90 percent of the industry makes the product cheaper? Nobody ever asked, and until very recently, if at all, management never thought it their duty to provide boards with data about comparative costs and prices and staffing levels. Comparisons to other utilities were beside the point.

What was there, indeed, for the board to involve itself in under the old regime? The public utility commission (PUC) staff, and then the commissioners, were arguably the de facto management and boards of these companies. What was the real necessary level of