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The Blackout of 2003: Why We Fell Into The Heart of darkness

The road to the current reliability crisis is paved with four decades of bad policy decisions.
Fortnightly Magazine - September 15 2003

growing electricity needs. The answer was partial industry restructuring, including passage of the 1992 Energy Policy Act.

The Act gave utilities and independent power producers the ability to invest in generation wherever and whenever they wanted. But it did not resolve the issue of who would pay for it (remember retail rates are set by state regulators), and did not address the need to upgrade the power-carrying capacity of the electrical grid. The result was that utilities and independent power producers went in search of profits outside historical lines of business, and left the electrical grid to a condition that was, in effect, benign neglect. Electric infrastructure investments as a percent of revenue dollars fell to record lows.

Unfortunately, not only did essential electric infrastructure investments not get made, but significant elements of the electricity sector are in a state of near bankruptcy as one unregulated investment after another failed.

  • Natural Gas Merchant Power Plant Investments. Upward of $100 billion dollars was invested in merchant power plants since passage of the 1992 Energy Policy Act. Nearly all of these plants are fueled with natural gas (because they are cheap to build). But as a result of the steady increase in natural gas prices over the last four years, nearly all are uneconomic. Power plants fueled with natural gas will simply not be dispatched when natural gas costs $4.50 per MMBtu and up. Accompanied by a reduction in wholesale electricity prices as the national economy slowed, merchant power plant profit margins collapsed. Those companies that made merchant power plants a key component of their business strategy have seen their share price collapse.
  • Energy Trading. Energy trading, and in particular electricity trading, combined with misleading if not falsified financial statements, were at the heart of the collapse of this business. Again, literally billions of dollars have been lost by energy trading organizations and their financial backers on Wall Street. Investors failed to realize there was much less business here than could sustain the hype surrounding it. Electricity wholesale contractual agreements almost always exist between companies or organizations in close proximity to one another. This is because the greater the number of electric systems bulk power has to move across, the greater the friction in moving it, and consequent transmission losses. Unless systems are strongly interconnected, bulk power transfers become uneconomic, if not physically impossible.
  • International Acquisitions. Beginning in the early and mid-1990s, acquisition of power plants and other utility assets in the international market place became a preferred investment strategy. While international investments were worldwide, they were concentrated in Latin America, the United Kingdom, and Southeast Asia. Acquisitions included buying existing generating assets, building new plants, and buying entire distribution systems. It is the rare utility that has made any money in international utility investments. Most, like TXU in the United Kingdom or AES in Latin America, lost hundreds of millions, if not billions of dollars.

As a result of these and other investment misadventures (e.g., diversification into telecommunications and real estate) the electric power sector has been, to put it mildly, financially traumatized.