The traditional utility model is under threat. Industry leaders like Jim Rogers and David Crane are talking about this publicly. It's becoming harder and harder to make profits managing wires that distribute centrally sourced kilowatt-hours to end customers on demand. The aging T&D workforce, new potential significant loads like PHEVs, intermittent and distributed generation sources, an increasingly complex array of technologies on the demand side and on the grid for utilities to be on top of -- it's not surprising that utilities are finding it a daunting challenge to profitably manage their businesses with their existing wires-based revenue models.
But what I'm surprised about is that utility managers and their boards aren't taking advantage of the unique positioning and branding they have with customers, and their big balance sheets, to tackle other emerging profit pools. In fact, they're letting other players come in and chip away at them, even though they are in a strong position to capture a lot of shareholder value here.
Ultimately, I believe that the wires-management portion of the electric utility business will be used by investor-owned utilities (IOUs) to enable other, unregulated profit centers.
There's already a strong history of IOUs running unregulated subsidiaries. This practice has waxed and waned over the past couple of decades, but I've seen IOUs that have run outsourced billing services divisions, energy trading shops, and even fuel cell businesses. In many cases, those unregulated subs weren't designed to take advantage of the market position of the regulated T&D business unit actually managing wires, etc., but there's no reason they couldn't be if structured appropriately.
Let's look at the business opportunities on the demand side right now. Utility customers are looking to take on energy-efficiency projects, distributed generation installations, inclusion in demand response and ancillary services and other load control programs, backup power and combined heat and power systems, etc. But what holds back these activities from scaling up even faster than they are today? Lack of capex, and lack of buyer information (which vendors to work with, which systems actually work, what other options are there, etc.).
What are utilities uniquely well suited to provide to the customers they literally touch, via managing the wires? Financing of capex, and access to buyer information. How?
Utilities have big balance sheets, thanks to all of their T&D assets. They can tap into that to get very low-cost capital, which they could then offer as financing to interested customers. If done through an unregulated sub, they couldn't maintain an exclusive financing opportunity to customers -- naturally, other third-party financiers would also be hitting up these same customers. But utilities have a primary advantage of likely lower-cost capital because of the balance sheet, and also more accessibility to customers. On-bill financing has demonstrated that it can be dramatically more effective at unlocking customer purchases than third-party leases and other third-party financing -- customers just find it much easier to pay their financing fees on their existing utility bill. It's not another vendor or a new relationship, it's a bill they're already used to paying each month. IOUs could conceivably make significant high-margin, very stable income by becoming a financier to customers for demand-side projects, or, in a lighter form, by charging a fee to third-party financiers who want to offer customers "on-bill repayment" via the utility billing system. Even in a competitive financing market (so as to not take unfair advantage of the natural monopoly of managing T&D wires), utilities could have enough competitive advantages to grow big businesses here.
Utilities, thanks to their brand and existing connections with customers, are well positioned to be a more effective channel for solutions providers. They have the data to be able to show customers how a specific project would affect their energy spend. Plus, utility-approved vendors and systems (akin to Rockwell Automation's Encompass program) would be given more credence by end-users who don't have time to do an exhaustive investigation of all of the proliferating options available to them (which would make it easier for the utility T&D department to better manage all the more variable inside-the-meter load and generation effects). Utilities could even leverage new or existing unregulated service/channel subsidiaries to compete for this work themselves.
What's necessary? IOUs would need to have a major strategic shift, away from treating the distribution of kilowatt-hours through managed wires as being their primary profit center. They would need to embrace that the grid will be the source of kilowatt-hours of last resort in many cases, and stop trying to make their margin off of the kilowatt-hours thus sold. They would need to embrace that the ability to have that T&D role with end-consumers is worth much more than that, because of the above-named businesses, and bring in strong managers to launch/expand such unregulated subs -- and let them take senior leadership positions within the utility, which as yet never seems to happen. And they would need to educate PUCs as to how this ends up lowering costs for ratepayers, without endangering reliability.
So clearly, it won't happen soon.
But it's going to happen to them if they don't get out in front of it. They need to eat their own lunch before someone else does. And it wouldn't require any major regulatory shifts. So I'm surprised I haven't seen more IOUs starting to talk about a future business model that looks more like the above, rather than just lamenting that the existing business model is in trouble. This could actually be a big win for the shareholders of IOUs, but for now, such shareholders must instead just sit back and watch as other financiers and startups (and increasingly, bigger companies like NRG) take advantage of IOU inaction.