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IOUs Under Pressure

Policy and technology changes are re-shaping the utility business model.

Fortnightly Magazine - June 2009

Electric utilities are at the confluence of once-in-a-lifetime economic, technology and regulatory forces that will, over time, re-shape the utility business model.

The demonstrable need for massive investment in electricity delivery infrastructure, along with the construction of new, clean production technologies, presages enormous cost pressures on ratepayers—and the utilities that serve them. These pressures, if acknowledged at all, are given short shrift in current discussions, largely because the full ramifications of added delivery investment and production cost increases will not be apparent for a number of years. Other factors conspiring to hinder discussion include the political clamor for immediate job creation (or at least retention), continued uncertainty around major elements of energy and regulatory policy ( e.g., climate-change legislation, carbon pricing, renewable energy standards), extremely tight credit and capital markets, and the anticipated, but always difficult to predict, impact of technology development.

An assumption of stasis, though, is difficult to reconcile with the pronouncements of many knowledgeable observers who believe the industry is, and will continue to undergo, change on an unprecedented scale. If so, why would the current utility model be immune from such changes? The new shape of utilities remains unknown, but change on a significant scale seems inevitable—and that change will present as many challenges as opportunities.

Rising Costs

The historic—and to date largely successful—investor-owned utility business model reimburses utilities’ operating costs and virtually guarantees returns on capital investments, in exchange for providing reliable and economic service to customers at regulated rates. But this model will be subject to increasing and continuous stress as operating costs rise and the magnitude of capital investments increases.

The need for increased investment in grid infrastructure, smart-grid technology, and a more diversified and renewable supply portfolio is taken as a given. To the extent there’s any debate, it’s associated with such issues as the magnitude of capital required, cost allocation, and timing ( i.e., which projects, and which type of projects, come first).

Significantly less attention is paid to the associated long-term cost impacts to ratepayers (and taxpayers). Or, if attention is directed at costs, the discussion typically becomes so muddled with conflicting or inconsistent estimates, trends and impact assessments that definitive answers seem unobtainable. And that’s not surprising, for a number of reasons.

First, numbers bandied about as to needed investment in the industry over the next two decades are so large—some estimates run into the trillions of dollars—that a reasonable frame of reference is difficult to construct. What does it mean to ratepayers or taxpayers to spend that much money? How much is being spent now? Second, while much needs to be done, funds being requested now won’t