New business opportunities, improved internal communications, and energy information services: three solid reasons electric utilities should form a telecommunications strategy (if they haven't already). Yet, while these motivations are compelling, none really demands utility participation. The overwhelming impetus is the strategic advantage that telecommunications can bring to the utility's core energy business.
Imagine the shape of the electric industry in a completely deregulated environment. Electricity, the most homogenous of products, will find differentiation only in price. Transmission and distribution systems will be open to all entrants at the same fee, and host utilities will have no inherent advantage. Anyone with a communications link to the retail customer will be able to purchase electricity at wholesale rates and resell it. The cable TV company, the telephone company, the cellular phone company, and the carrier offering personal communication services would all be able to resell electricity. Moreover, the forces at work in efficient markets will invite competition from new entrants and technologies not yet on the radar screen.
A telecommunications strategy will enable an electric utility to gather important information about customer preference and choice. Customer-specific market research will offer the single most effective tool for managing price. An industry that institutionalized pricing by service class must now learn to de-average and excel at mass customization (em to sell a standardized commodity to mass markets with a customized approach. A communications path to the customer will permit utilities to collect primary market research, ultimately enabling them to develop targeted marketing programs that focus resources and energies on the most profitable market segments.
Consider the long-distance telecommunications business after the Modification of Final Judgment (MFJ), which broke up the AT&T monopoly in 1984. AT&T had been the sole provider of long-distance services, but MCI and Sprint arrived quickly on the scene. Today there are 12 significant facilities-based long-distance carriers, 650 minor long-distance carriers, and 1,292 service resellers.1 Service resellers make little or no investment in plant and equipment. They purchase wholesale capacity, repackage it with unique service and pricing options, and resell to retail customers.
Winning on Two Fronts
A telecommunications strategy helps the electric utility communicate with its retail customer (em to combine intelligence with energy to achieve an advantage. Linking intelligence with energy will enable utilities to win the battle for market share on two fronts: in managing price and retaining customers.
The battle for market share will be fought first in the dimension of price. Utilities that are first to recognize this fact will stand ready to maximize profit. Price is the most effective means of managing profit. And having the right pricing strategy is the most efficient way to maximize profit. Indeed, for a company with average economics, price makes up the most important component of the profitability mix.2
A 1% improvement in:
Price Variable Cost Volume Fixed Cost
Boosts operating profit by:
7.8% 11.1% 3.3% 2.3%
Pricing cuts both ways, however. A 1-percent decrease in price can erode profits by 11.1 percent. Utilities that attempt to prepare for competition through across-the-board price reductions of 10, 15, or even 25 percent may leave a significant amount of money on the table.
Again, the experience of the telecommunications industry is enlightening. Prior to the MFJ, pricing options for long-distance calls were limited. Pricing was calculated from a single rate schedule based on distance, time, and duration of call. After deregulation, pricing options reflected six factors: actual duration, time of day, dial direct, calling card, distance, and volume discounts. The proliferation of pricing options began in an effort to retain customers by offering choices that stretched the customers' long-distance dollars. And pricing was managed sufficiently well. While AT&T's market share has slipped from 90 percent in 1984 to 60 percent today, profits have continued to grow. Meanwhile, the inflation-adjusted price for an average long-distance call has changed negligibly.3
On the second front (em customer retention (em a telecommunications strategy can prove vital in gathering information about customer preference and choice. Historically, businesses have relied on several strategies to retain customers:
s Maintaining customer satisfaction through product performance
s Simplifying the buyer's purchase decision
s Bundling product-related services
s Deterring a flight to competitors.
Each of these strategies can be achieved or significantly reinforced using communications to bundle intelligence and energy. Adding intelligence to energy delivery permits the utility to offer value-added services such as detailed usage data by appliance, information on how to improve efficiency, and beyond-the-meter energy services.
Rewards from Partnership
Utilities have found rewards in developing a telecommunications strategy. The continuing deregulation of the telecommunications business has created several niche markets for startup firms. The magnitude of the rights-of-way controlled by utilities and their existing investment in telecommunications infrastructure have made them partners of preference for many of these new entrants. The primary lines of business that involve electric utilities are competitive access and transport.
Competitive access means connecting a long-distance carrier's facility with a large-volume long-distance customer, "bypassing" the local exchange carrier. Bypass is a rapidly growing business typically found in large urban areas. There are over 20 competitive access providers operating about 6,000 route-miles of fiber-optic cable and connected to over 4,000 buildings.4 According to estimates, about half the bypass business uses electric utility rights-of-way, poles, lines, and/or fiber optics.
Transport involves transmitting high-density communications signals over long-haul distances (the primary business of long-distance telephone providers) (em one of the more mature portions of the communications business. The predominant interexchange carriers (IXCs) operate 100,000 route-miles of transport fiber. While this may sound like capacity oversupply, some regions of the country need additional facilities to provide alternate and diverse routing or to displace aging microwave transport facilities. Electric utilities are estimated to operate over 8,000 route-miles of fiber-optic capacity. Approximately 2,000 of these route-miles are leased by IXCs.5
While both businesses offer a return on investment (25 to 40 percent) that far exceeds the typical regulated return on equity, total returns are often too small to stimulate much interest on the part of the utility executive. This is particularly true where there may be legal and regulatory barriers to overcome. In fact, given the risk-aversion profile of many utilities and the abysmal diversification attempts of others, it may seem prudent to ignore telecommunications. In reality, the strategic importance of telecommunications goes far beyond a single opportunity to boost earnings.
In anticipation of competition, the entire industry seems to be focusing on cost control. But cost control will never be the source of strategic advantage. Electric utilities that add telecommunications to their core energy business can establish an intimate learning relationship with each customer. This degree of customer-specific knowledge will preempt the competition and seize strategic advantage.
I am not suggesting that each utility build a private network connecting every customer. Nor am I recommending which technology platform should be used. These and other operational decisions should be determined by myriad factors unique to each electric utility's competitive, regulatory, and public policy environment. But, irrespective of the "how" and "when," if a utility does not currently have a vision that includes telecommunications in the core-energy business, it soon must. t
Robert Picchi is a principal with Hoskins Davis, where
he specializes in strategic and business planning and performance management. He has a BA in economics from
the University of Michigan and an MBA from Duke University's Fuqua School of Business.
1. National Association of Regulatory Utility Commissioners, Utilities and the National Information Highway, Finding the Best Route, Sept. 1994.
2. Marn, Michael V. and Rosiello Robert L., "Managing Price, Gaining Profit," Harvard Business Review, Sept. 1992.
3. Federal Communications Commission, Industry Analysis Division, Rates, Price Indexes, and Household Expenditures, July 1994.
4. Federal Communications Commission, Industry Analysis Division, Fiber Deployment Update, May 1994.
5. Federal Communications Commission, Industry Analysis Division, Fiber Deployment Update, May 1994.
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