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Fossil in Your Future? A Survival Plan for the Local Gas Distributor

Fortnightly Magazine - April 1 1996

that, barring a significant change in utility regulation, the business of LDCs is planting rate base. If utility management permits an erosion of the ability or motivation to grow the system, it risks reaping a diminished harvest.

Many might argue that independent marketers will provide cheap gas and actually grow the C/I market share. I suggest, however, that marketers will squeeze out every penny of margin the market will bear. They will plant no pipe. Industrial groups and gas marketers will pressure LDCs to reduce transportation rates, leading to a further reduction of an LDC's ability to grow the system; or, in the alternative, forcing it to take on higher levels of capital risk.

Further, independent marketers will not be willing or able to take on the overhead of local, front-line marketing of new gas technology, or the hands-on, long-term relationships with builders and developers. Nonutility gas marketing is a lucrative business because it is intensely focused on communications/computer technology and a minimalist labor force; it eschews field labor and nonportable capital investment.

Luckily, the "do nothing" path of devolution is slow. Utility managements should have the time to evaluate their business environment and opt for alternatives. Abysmal as this picture may appear, it is far brighter than the path of "degeneration" many LDCs are now embarking on.

Degeneration: "The Great Myth." In biological terms, "degeneration" marks the deterioration or loss of a function or structure in the course of evolution (em for example, the vestigial eyes of some cave animals. Many LDCs have begun separating noncore sales markets from the LDC and establishing a separate, "nonregulated" affiliate. Some have even discussed dropping the merchant function completely and "outsourcing" the gas-supply function. This behavior will produce LDC Minimus, a creature with all the predicted problems of LDC Insipidus, but more, and at a much accelerated pace.

Herein lies the "Great Myth" that the resulting "nonregulated LDC marketing affiliate" will totally escape state regulation. As noted above, 13 states already place significant restrictions on LDC affiliate relations, while seven others are considering it. Further evidence can be found in Standards of Conduct for LDCs and their Marketing Affiliates, recently released by the New Jersey Board of Public Utilities. Standards is touted as one of the first of its kind; doubtless, brethren in other states will soon emerge.

A corollary myth says that regulators will see no need to adjust the allowed rate of return of the diminished LDC. My discussions with regulators have indicated that this issue will remain open for debate.

Traditional management at LDCs may have presumed that their detailed knowledge of local customers and real-time knowledge of supply portfolios will promote synergies with nonregulated marketing affiliates, maximizing economic efficiency and competitive advantage for both sides. However, the New Jersey Standards permit no communication between LDCs and marketing affiliates, and no development of synergies. In fact, LDCs must provide to all marketers any useful information they provide to their affiliates, at the same time. Of course, anyone who has ever tried to extract customer information from a marketer or a pipeline