Residential Pilot Programs:
Customer choice and electric restructuring may appear synonymous to regulators, but for utilities "choice" means "market share."
THERE WERE 19 PILOT PROGRAMS
planned or underway in the United States by the end of November, involving some 500,000 customers in all classes. The goal? To test competition in retail electric markets.
In the residential class, pilots were operating in Illinois, New Hampshire, and New York. Massachusetts expected to roll out its pilot by January 1. Pennsylvania was planning an April startup.
These programs capture market experience for incumbent utilities, their affiliates (regulated and unregulated), and independent marketers. And this experience raises some pertinent questions. But "Who's winning?" isn't one of them.
Better to ask, "How are the players going about attracting customers? What strategies work best? Do any tactics appear unfair or questionable?"
Is anyone making money?
And, oh, by the way, are customers saving money? In New Hampshire, after receiving solicitations from more than two dozen marketers, some customers discovered "choice" came down to a
6-cent-a-month decision, says one supplier.
In Illinois and New York it was the electric utilities who proposed the retail pilot programs. On the other hand, New Hampshire's pilot began by order of the state public utilities commission (PUC). These pilots operate very differently. They adopt varying objectives and offer varying results.
In more than a dozen interviews, regulators, utility officials, independent and affiliated marketers, and a consumer representative fielded these questions and raised other issues:
s Conflict of Interest. In Illinois, it's believed that at least one marketer may have held back from joining in a pilot-related complaint against Central Illinois Light Co. (CILCO) and its affiliate, QST Energy, Inc., so as to preserve working relationships with CILCO. The complaint, later settled, claimed the utility's sister company wielded its ties unfairly in the pilot rollout. QST won about 96 percent of those residential customers who chose to leave the utility system. Does a competitor's "holding back" to protect itself in other business lines hurt electricity's new free enterprise? If so, should regulators take notice and cure the defect by forcing utilities to spin off marketing affiliates?
s Predatory Pricing. Another antitrust issue: Should marketers be allowed to reduce energy prices below the cost of generating power to win customers? In Massachusetts, Enova Energy did just that, offering power at 1.93 cents per kilowatt-hour.
s PUC Oversight. Pilots clearly aren't the "main event" for regulators (em full restructuring is. Regulators are already saying that pilots, while interesting, aren't worth their full attention. But if pilots are voluntary, such as in Illinois, can the PUC direct the company to resolve problems?
If pilots lay the groundwork for restructuring, when will the players have learned enough to make them unnecessary?
Getting Down to Business
No one is making money in pilots. That much is clear. Not utilities, not affiliates, not independent marketers. Not in Illinois, New Hampshire, or Massachusetts.
Says Kathy Therrien, a principal at XENERGY, Inc., a second-tier subsidiary of New York State Electric and Gas Co. and a participant in the New Hampshire and Massachusetts pilots: "I think that everyone was in the overall game to learn. I don't think anyone was up there to make money."
According to Martin Murray, a spokesman at Public Service Co. of New Hampshire (PSNH): "Nobody is making money on this ... and I think they would tell you that honestly too. Because in some cases, I don't think it's market share, but like what we're hoping to gain, it's knowledge."
Robert O. Viets, CILCO's chief executive officer (CEO), recently told a group of industrial consumers: "The first factor with the CILCO program is that we're determining you really can't make money on pilots. ... You have a lot of thrown-in marketing costs to develop the kind of packages that you want for those customers. It is awfully hard to make that pay off."
Ed Van Herik, a spokesman for San Diego Gas & Electric and Enova Corp., suggests, however, in a "noncompany" opinion, that there's nothing wrong with not making money.
"Where does the free market start and where does the regulated portion end?" he asks. "There's a concept known as 'loss leader.' Is that illegal? Certainly not in the open market. And that's not an antitrust violation. ... When people are talking about creating a free market, they're talking about it with a regulatory mindset, and it's real hard to see how the two of them fit together."
His colleague, Mona Yousry, a senior vice president at Enova Energy, declined to disclose the identity of the particular generators within the New England Power Pool from which her company buys power for the Massachusetts pilot. "Whether you make money or not is not the issue," she says. "The issue is, we spent money on marketing and advertising. ... And, to me, that's just our way of marketing in an environment which is going to be the environment of the future."
Explain that to John O'Brien, president of Wheeled Electric Power Co., which seems to be fighting for its competitive life. Wheeled Electric is the company that filed one of the complaints, later settled, against CILCO. In Massachusetts, through a partnership formed with CINergy Corp., Wheeled Electric is trying to win market share with a 2.71-cent commodity price against Enova's 1.93-cent price.
"Selling below marginal costs is a felony," O'Brien says of Enova's rate. "It's a per se violation of the antitrust laws. The idea that they're going to sell power at 1.9 cents (em frankly, I don't know that there is production in NEPOOL that's that inexpensive. And if there is, then the utility should be buying it for their native load, not trying to use it to capture market share."
So money isn't the name of the game. The fight is over share, winning customers. How that share is being captured and leveraged, and why these pilots are happening might teach regulators much more about competition than they'd like to know.
When CILCO rolled out its self-proposed Power Quest electric pilot on May 1, 1996, for 2,365 customers in three small Illinois towns, power marketers stormed the state. Six ultimately entered the market.
Yet, just months later, nearly all the suppliers had dropped out of the utility-proposed pilot. QST Energy, CILCO's affiliate, had captured all but 4 percent of the 700 customers choosing to leave the utility. And Wheeled Electric and the state's Citizens Utility Board (CUB) were meeting in a series of sessions mediated by the Illinois Commerce Commission (ICC) to resolve complaints against CILCO and QST.
"They cheated in the pilot program," says one supplier. "You don't get 96 percent [of the market] because you're lucky."
"Nobody can say that," responds Viets, also CEO of QST Enterprises, QST Energy's parent. "We did not cheat."
The mediation sessions failed. ICC chairman Dan Miller predicted the matter would only be resolved in litigation before the commission.
In the CUB complaint filed August 23, and in a similar complaint filed by Wheeled Electric five days later, the parties alleged, among other charges, that CILCO had given its affiliate QST a head start on the residential sites; that QST leased and opened energy stores about two months prior to the pilot's rollout; that QST advertised as CILCO's "sister company" giving the same reliable service; and that as many as 15 out of 16 QST employees moved over from CILCO to QST, including its president.
Viets countered most of the claims, saying there was no advanced notice of sites. He did say QST was staffed largely by transfers from the utility. "I don't know what the exact numbers were ... certainly more than half."
CUB and Wheeled Electric, as part of a proposed remedy, wanted to expand the pilot to more customers and exclude QST from the territory.
During mediation, "CILCO essentially said, 'no, we're not opening it up to any more people,'" says Tony Visnesky, the ICC's energy programs division manager. "They didn't think it was appropriate for other parties to dictate the terms and conditions of their experiment."
Yet despite the predictions of ICC chair Miller, a surprise settlement came almost exactly two months after the complaints were filed. Both CUB and Wheeled Electric agreed to drop their petitions. CILCO said it would add as many as three more residential electric retail wheeling sites, with at least 2,500 more customers. Power was set to flow this February.
Expanding the pilot seemed like the only concession the utility had made, but according to the private settlement agreement, a copy of which was obtained by PUBLIC UTILITIES FORTNIGHTLY, QST also must "not refer to itself as a 'sister company' of CILCO."
In interviews prior to the settlement, the parties spoke about issues the case raised. The issues are unlikely to continue to be debated by the ICC, given the larger concern of restructuring overshadowing this year's commission and legislative sessions.
Miller says he was "extremely gratified" by the settlement. "It shows that CILCO and CUB and Wheeled Electric are all aiming at the same thing. Which is how a competitive market works."
Others might disagree strongly with that opinion.
But few states, Miller says, are as progressive as Illinois in electricity. "In Illinois, perhaps they can see the mistakes we made and learn from them and avoid them in their own jurisdictions."
He says Illinois also learned that the price of electric is set by the market, not by producers. "You put enough competitors in the market with a knowledgeable consumer and prices fall . . . even below their margin in some cases. Is that 'predatory pricing?' ... From my perspective, that kind of pricing is beneficial. I see it all the time in cereals, foodstuffs, automobiles."
Viets says the pilot has proved that competition does work: the average cost of residential power on the CILCO system (em bottom line on the bill (em runs 7.28 cents per kilowatt-hour (¢/kWh); under the QST program, power averages 6¢/kWh or less. (O'Brien says his 17 residential customers are saving 10 to 15 percent overall.)
Said Viets at an industry conference the day before the settlement between CUB and Wheeled Electric: "As in other competitive markets, competition merely answers the question of which suppliers are willing to absorb margin or to invest in efficiency measures in order to gain access to the customer."
Viets said CILCO was a low-cost, popular utility and customers are aware of CILCO's progressive
restructuring attitude (it wants customer choice for all classes immediately and is decidedly against stranded-cost recovery): "And that rubs off on CILCO's affiliates. Now the success of QST has been challenged by some who are concerned with the affiliated-interest relationship. But nobody has questioned the fact that customers have benefitted from competition."
Subsequent to his speech, Viets was asked whether two companies (em QST and Wheeled Electric (em provided a large-enough universe of suppliers to represent "competition."
"The objective of competition is to win," he counters.
Viets agreed that the policy issues raised by the pilot would have to be heard at a higher level than the ICC.
Visnesky thinks the case boils down to two policy issues:
s Are PUCs willing to direct a "volunteering utility" to put conditions on its experiment and perhaps force an end to it?
s Should the U.S. Department of Justice get involved to minimize possible collusion with affiliates?
Significantly, suppliers were notably absent in support of CUB and Wheeled Electric as they battled against CILCO and QST. One observer explained why Enron sat out: "They've got other deals and irons in the fire and they don't want to get in CILCO's face. Enron [Corp.] has got a lot of deals with CILCO. And it's also true that CILCO is not perceived by anybody on the competitive side of the industry to be the enemy here. ... I don't think Enron ... wants to jeopardize [its] relationship with a company that's going to be helpful politically."
Martin Cohen, CUB executive director, says the settlement with CILCO and Wheeled Electric should in no way be viewed as a concession, even if the parties will work together on larger legislative issues, issues that may pit them against high-cost utilities like Commonwealth Edison Co., which supports phased-in restructuring and stranded cost recovery.
"We have no side deal with CILCO that says, 'Well, no, we're going to work to support your legislative proposal' or anything like that," Cohen says.
He says when the CILCO complaint was filed people asked why they were going after CILCO: "And the reason is because we take a principal position that the market has to be fair, the playing field has to be level, and it's the responsibility of legislators, who still run this industry ... to make sure that everything is done fairly."
Cohen, perhaps giving some reason why the complaint was settled, and echoing Visnesky's comments, says that current statutes did not specify what the commission could do to enforce the law, which itself wasn't sufficient to deal with the issues.
"Pilots have to be designed as closely as possible to replicate the expected conditions in the real market to come (em not simply to be opportunities for marketing experiments by incumbents," he adds
O'Brien, whose company has won market share in Illinois, New Hampshire, and Massachusetts (em one of the few, if not the only, independent suppliers (em has become the "bad boy" of marketers, calling opponents on the carpet when he sees uncompetitive practices. "What it comes down to is we're going to serve notice on everybody and do whatever it takes to enforce the rules of competition. Because that's our only defense."
He says Wheeled Electric settled with CILCO because it didn't know who would win the case. The ICC staff, he says, was confused, and didn't understand its implications.
"So it was in our best interest to get on with this, to get along with CILCO," O'Brien continues. "And we've all agreed on how to do that, and we're very satisfied with the result."
"We keep hearing the same thing. 'It's just a pilot. How come you're complaining?' Well the fact is, the early marketplace is where all the rules are going to get set, so we say, 'Guard competition early, guard it now, use all existing laws, and whatever else you can use to make sure you end up with a competitive marketplace.'"
O'Brien says New Hampshire's pilot, ordered by the state PUC, has appeared to be more equitable than the Illinois pilot. But the state whose motto is "Live Free or Die" has witnessed a huge electric price war since the pilot began, on July 1, 1996.
Almost immediately, about 30 suppliers vied for 17,000 customers from four utilities in the pilot program. Most of those customers (about 11,400) belonged to PSNH. The percentage share that each competitor earned during the pilot hasn't been made public.
Each of the four utilities added a "10-percent incentive credit," or took 10 percent off electric bills through a shareholder subsidy. For PSNH, that will mean a $6- to $8-million revenue loss over two years.
According to various sources, Enron was selling residential power at the rollout at 2.1¢/kWh. As a comparison, PSNH Energy was selling power at 3.3¢/kWh, and PSNH Energy's "sister" companies in the Northeast Utilities hierarchy (em Northeast Utilities Wholesale Power and Northfield Mountain Energy (em were selling power at about 2.7 to 2.8¢/kWh.
"The price competition in New Hampshire got to the point of one tenth of a mill, making the difference to a residential customer, just so you know, of 60 cents a month they might save," says O'Brien. "Probably a lot lower than that, though. In fact, we had customers making decisions based on saving six cents a month."
"I think all of the customers are getting prices below what we assumed to be the market price," says George McCluskey, restructuring division director at the New Hampshire PUC. "They're getting prices below the incremental cost of supplying it. Which may or may not be true. We
understand that some suppliers were willing to take a hit just to develop market share. But until you actually know what their costs are, it's a little difficult to say that. We're not there yet.
"The market, based on prices that we heard about in the pilot program, has turned out to be considerably lower than we projected. So the savings are expected to be on the order of 15, perhaps up to 18, percent when all is said and done."
Says Murray, of PSNH: "For me personally, I don't think the fact that they're selling it at the prices they are is a violation of law. They're doing it so openly. I would just have to imagine they know what they're doing. They're selling for less than it's costing them to generate themselves or purchase it, that's true.
"Do you think those prices are really going to be there when competition is all over?" he asks. "Where's the savings going to come from when the utility isn't kicking in 10 percent?"
Murray says he's uncertain as to whether the pilot will determine who will win or lose competitive advantage.
Therrien, of XENERGY, says the pilot has revealed at what price point customers will switch suppliers.
"The minimum point that people make decisions seems to be at least 5 percent of their total bill," she says. "A 5-percent change in their bill before they'd consider changing. Although in New Hampshire, I think the situation was little bit different. You have some customers who just don't like their local utility, they don't like the prices ... and as such were willing to make a change without much savings."
McCluskey has the final word, however, noting that "the pilot, while interesting, is not the main goal at this time.
"The pilot was required because of legislation and the restructuring is required because of legislation. ... Now we'll switch our resources toward implementing the second piece of legislation, which is the restructuring legislation. When we get a little bit of downtime, we'll get back to analyzing the data from the pilot."
He says when the data is in, utilities might find that all they have at risk during a pilot is their pride. "I'm not suggesting that they're not going to retain ... their market. I think you'll find out when it's all said and done that the utilities probably did as well, if not better, than any of the competitors."
On January 1, the juice kicks on for the Power Pick residential program. About 1,500 residential consumers get to choose their power supplier in the pilot, which, like the Illinois pilot, also is proposed by an incumbent utility. Savings projected by the program sponsor, Orange & Rockland Utilities, Inc. (O&R), run 1 to 2 percent. But because of commodity competition, similar to New Hampshire's, savings could run higher.
Would such savings (em $1 to $2 on a $100 electric bill (em produce enough incentive for customers to leave their utility and pick a company they may have never heard of to supply their power?
"No," says Terry Dittrich, O&R's regulatory affairs manager.
"We're not offering incentives to people to switch," he says. "What we're trying to do is an experiment that allows for customer choice. In New York, anyway, there's a lot of people running around (em as a matter of fact it's even been stated in some of the commission writings on it (em that customer choice is in and of itself a goal. So we said, 'OK, we'll try it out.'"
The experiment is aimed at how to handle and work with a market that gives customers the ability to choose.
"It is not a program designed to produce savings for the customer," Dittrich says flat out.
There's no risk to the utility because the rates are designed for energy only. The financial exposure to the utility is nil; O&R will receive 100 percent of its stranded costs. The savings will have to be pure commodity savings.
So what will be learned from this pilot?
O'Brien weighs in again: "Early surveys showed that a large percentage of customers would switch for no savings, just because they would like to have a choice," he says of pilots in any state. "That really hasn't panned out to ring true. Where a customer isn't going to save any money at all, we haven't seen them switch."
Like New York's program, Massachusetts Electric Co.'s Choice: New England, began January 1. Some 10,000 residents and small businesses in four towns are participating in the stipulated pilot.
Coordinating the program is Environmental Futures, Inc., which will report results to the state's Department of Public Utilities (DPU). According to the company's data, residential electric is being offered by six suppliers at prices ranging from a low of 1.93¢/kWh (Enova Energy) to a high of 3.4¢/kWh for an AllEnergy "green power" option. AllEnergy is a New England Electric System affiliate, as is Massachusetts Electric.
Brian Abbanat, DPU electric power division director, says the commission is taking a "hands off" approach with pilot programs. The DPU's perspective says that pilots offer opportunities for companies to learn about customers, to improve customer relations skills, and to learn about technical systems needed to do business in a competitive market. The DPU sees pilots as company programs, he says.
"We wanted to put more energy into the restructuring process. We really aren't following [pilots] all that closely."
He says he guesses that residential customers might "save a little bit" through choice, maybe a few percentage points off their bills.
"It depends on where the market goes," he explains. "New England was in better shape a few months ago than if you look at the current problems with nuclear facilities. And clearly, that could have an impact on the rates at which power is being traded.
"Some [consumers] want to pursue it as something new and different and exciting to do (em this may be me speaking more than anyone (em but if you were going to save 10 percent, or had the impression that you might save 10 percent or more off your bill, you might go after it," he says. "If it was going to be a lower percentage than that, I know that I would wonder if it would be worth the trouble."
But Abbanat says savings aren't expected to be 10 percent, so the experiment may not give a true picture of how motivated customers are to choose an electric supplier.
Looking at New Hampshire, he says, customer confusion engulfed the pilots and left "unfulfilled expectations."
"Maybe a pilot program represents something of a risk in that a customer goes forward and views the program as a company program, and the opportunity for customer dissatisfaction might be something they would want to worry a little bit about," Abbanat cautions. "I suppose the flip side of that is it may be the competitive market that will be assigned fault for whatever dissatisfaction a customer experiences."
So a pilot's success or failure, under Abbanat's theory, could be blamed on a utility or the competitive market. Although it may be too early to tell, blame also could lie with allowing utilities (em not commissions (em to set the rules of the game.
Whatever the case, whether the pilot is stipulated or ordered, the result will be: Someone will win advantage . . . or no one will. In the luckiest outcome, the consumer gets to choose and save (em even if it is just 6 cents a month. t
Joseph F. Schuler, Jr. is an associate editor of PUBLIC UTILITIES FORTNIGHTLY.
Do customers come first?
"As in other competitive markets, [electric] competition merely answers the question of which suppliers are willing to absorb margin or to invest in efficiency measures in order to gain access to the customer."
(em Robert O. Viets,
Chief Executive Officer, CILCO
"The minimum point that people make decisions seems to be at least 5 percent of their total bill. You have some customers who just don't like their local utility, they don't like the prices ... and as such were willing to make a change without much savings."
(em Kathy Therrien,
Principal, XENERGY, Inc.
"We're not offering incentives to people to switch. [It's] an experiment. It's even been stated in some of the commission writings that customer choice is in and of itself a goal. So we said, 'OK, we'll try it out.' It's not a program designed to produce savings for the customer."
(em Terry Dittrich,
Regulatory Affairs Manager,
Orange & Rockland Utilities, Inc.
"Maybe a pilot program represents something of a risk in that a customer goes forward and views the program as a company program. ... I suppose the flip side of that is it may be the competitive market that will be assigned fault for whatever dissatisfaction a customer experiences."
(em Brian Abbanat,
Electric Power Division Director,
of Public Utilities
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