If you haven’t seen Michaels’ recent self-indulgent video, you might want to do that now. It is many hours of video shooting reduced to a fine sauce, just under four minutes. My interview, for example, lasted maybe 45 minutes and maybe 30 seconds of it are included in the video. One line I’m pleased to have been captured and included was the statement that there is a limitless supply (and immense variety) of learning available in our industry. One thing I know little about is the guts of the utility business and cost recovery for energy efficiency programs. So why not write about that and see if I can avoid being a fool.
This post is brought to you by the report The Old Model Isn’t Working: Creating the Energy Utility for the 21st Century, by the American Council for an Energy Efficient Economy (ACEEE).
Since there are always new readers, I’ll say it for the 300th time, investor owned utilities are regulated monopolies. As ACEEE points out, just imagine how ridiculous it would be to have duplicative competitive delivery of power to your house. It wouldn’t work for a bunch of reasons but space is limited so I’m not going to explain any of that.
Rates are comprised of investor return on the rate base plus operating expenses. Consider the rate base to be long-term hard assets – power plants, transmission and distribution (T&D), and the opulent headquarters buildings downtown, complete with restaurants, Starbucks, and spas. The cost of owning this stuff is stock dividends, bond dividends/yields, and bank interest. Operating costs obviously include fuel, and I would guess trucks. And despite what they say, employees are an expense and not an asset [1], [2].
Take the cost of all that stuff, including profit for investor/banker, and divide by energy sales to arrive at the allowed cost of energy. Here I go out on a limb. Profits are very sensitive to economic activity. Since utilities are monopolies with not-quite-guaranteed profit, their profit margins are low. Sales growth is tiny, if anything. Return on investment for investors is primarily the dividend yield, which is protected like Fort Knox. The first thing I’m thinking is yields are 3-4% for major utilities in the US. It would seem[3] very foolish to buy US bonds at a yield of 1.5% against this kind of return.
Energy efficiency programs are obviously at odds with the utility business model. It would be like Carl’s Jr. running ads: “Feeling a little chubby today? Get a clue: 67,000 calories in one of these babies.” I’m not sure why they erode the appeal with that slice of tomato.
The programs cost the utility money to run (reduced earnings), erode sales (reduced earnings), and provide no ROI on the dollars spent (no earnings). Cost recovery for energy efficiency programs gets all the hype. I’m going to run out on a limb again at the risk of revealing my ignorance of this subject.
What does DSM stand for? Demand side management. (I’m firmly on the ground hugging the tree trunk still; not out on a limb yet) By what measure are goals set for energy efficiency programs? Energy, NOT demand. Now I’m on the branch ready to go out on a limb.
What if we incentivized utilities for energy savings by allowing them to hike demand charges while decreasing energy prices somewhat?
To get higher return on assets for investors, one way to do it is use the stuff more. It’s obvious. There are lots of megawatts of generating capacity that get used a couple hours, a day, or few days a year. Charging more for demand will increase investor ROI and incentivize customers to squish their annual peak demand lower, but get more full load hours from the rate base.
Unfair for large power users? Not really. It is like lowering and flattening tax rates while removing deductions. Taxpayers would squeal that their health insurance, mortgage, property tax, kid, this that and the other expenses will no longer be written off, and they will pay more taxes. NO! Cut the rates so by the end of the year, the same dollars are paid. Ditto for tariffs. Increase demand charges, cut energy charges, and pay the same by the end of the year.
Let’s see. Return comes from the assets. The operating costs are a pass through. Well, let’s heap some of the pass through cost onto return on assets for investors. But this will not make utilities whole for their operating expenses. Good! Therefore, they will have an incentive to reduce their operating expenses/losses – a huge one of which is fuel, coal, natural gas, all producing CO2. This would reward energy efficiency, pressure end users to reduce peak and run flatter, and get more operating hours and revenue from utility assets.
What is the problem here? I don’t get it.
[1] It all boils down to this – you always need to be a step smarter than the software developer who is continuously developing software to replace you with a server in a data center in Singapore. Never forget.
[2] If this offends you, take it up with the regulators.
[3] Just pointing out, not advising.
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