Sustainability in the Electric Utility Industry; How Electric Companies Can Become Sustainable
November 21, 2018
November 21, 2018
Electric utility companies have generally been slow to adopt sustainable practices. In part, this is because their traditional business models have been firmly cemented in producing electricity, and completing capital projects to expand infrastructure. However, these models are now proving to be outdated and unsustainable, threatening to pull them into a downward spiral.
What has led this to be the case, what are the disruptions in the marketplace that the utilities are slowly waking up to, and what can they do to put the brakes on this decline and start competing in this new market?
An Evolving Marketplace
After the financial crisis of 2007-2008, the relationship between the United States’ economic output and electricity consumption decoupled for the first time in history. As the US economy started to generate GDP growth again, there was almost no net growth in electricity demand and it has remained on a flatline ever since.
This decoupling has been attributed to a number of factors, including greater energy efficiency of industrial processes and domestic appliances, and reduced losses in the transportation of electricity through better grid infrastructure.
At the industrial-scale, US manufacturing businesses have been outsourcing more of their energy-intensive operations to other countries where energy and labor costs are cheaper.
Investor-owned utilities (IOUs), which supply electricity to over half of the US, are feeling the effects of this downturn in demand particularly hard. Under the traditional business model, IOUs earn a Return on Equity (ROE) on the investments they make in new grid infrastructure, including power plants, substations, and power lines, making money for their investors in the process. With falling electricity demand, capital-intensive projects such as new power plants and transmission lines are seen as increasingly risky investments, resulting in falling revenues and profits.
In recent years, the utility marketplace has evolved rapidly and customers are increasingly demanding more from their suppliers. Many of the utilities’ largest customers now have regimented corporate social responsibility (CSR) frameworks through which they self-regulate their business to make them more sustainable and socially accountable.
One of the outputs of these frameworks is to pressure their supply chain to pursue sustainable practices, in order to reduce the environmental impact of their products’ lifecycles. For electricity suppliers, this means that these businesses will exert pressure on them to provide electricity in a less environmentally impactful manner.
To compound problems, the relationship that utilities have with their customers is often too distant. In the commercial sector, this means that utilities are out of touch with the sustainability goals that their customers are working towards. In the domestic sector, most customers don’t think of their energy provider until something goes wrong with their supply.
The Influence of Disruptive Technologies
The future contains further challenges for utility companies, particularly in the form of disruptive technologies. As these technologies are accepted into the mainstream, they threaten to significantly reduce customers’ dependence the electric utilities.
Super high-efficiency appliances such as LED light bulbs, which use only a fifth of the energy of a comparable incandescent bulb, have been embraced in the commercial market and are making inroads into the domestic market. It is estimated that LED penetration of the global lighting market will reach over 60 percent by 2020, up from 44 percent in 2018.
Distributed Energy Resources (DERs), where smaller energy generation units are geographically widespread, put further pressure on the utilities’ electricity distribution model of large, centrally located power stations supported by an extensive network of power lines.
Sustainable energy solutions such as photovoltaic (PV) solar panels are one such form of DER. PV panels are generally located much closer to where the energy is required, with many homes and businesses installing them directly on their premises.
DERs like solar require much less distribution infrastructure than centrally located power stations. Since the standard business model for IOUs revolves in part around building new distribution facilities, this means lower revenues and less profit for investors.
On the whole, utilities haven’t been attentive to the movement that their customers have been making towards sustainability. Many have been caught off-guard when their large-scale customers have set up renewable energy projects with solar or wind developers. These projects have the potential to move a great deal of money away from the historic electricity supplier, with immediate effect.
For example, to make the BMW i3 the BMW Group uses carbon fiber that has been produced in factories that are powered entirely by hydroelectric and self-generated wind power. The Group states that “even for the manufacture and processing […], BMW attaches importance to the conservation of the environment and resources, and the use of a renewably generated power supply…”
In another example, MGM Resorts International ended its relationship with Nevada Power in 2016, and is now partnered with an independent energy company. This instantly took almost 5 percent off Nevada Power’s annual energy sales, driven by MGM Resort’s strategy to achieve energy independence and increase the use of renewable energy.
When sustainable energy sources are linked to batteries and microgrids of the likes of the Tesla Powerwall or sonnenCommunity, then users are enabled to further reduce their dependency on the grid as their source of electricity. These technologies allow users to store their energy and to sell it between other members of the microgrid for a better rate than they’d get from the utility to buy back the excess power.
Many utilities feel that their only available response is to increase their rates to cover the shortfall. However, this has the counter effect of pushing consumers towards alternative energy sources to prevent soaring energy bills. This effect will be amplified further as the increasing maturity of DERs offers consumers even more options to reduce their grid dependency.
Sustainable Practices Present an Opportunity for Utilities
Conditions are changing profoundly, and rapidly. Utilities must change in response; faster and more adeptly than many have so far proved capable of.
Utilities should be looking to how they can get into the sustainability space, and build their own competitive renewable networks. They should also be reconnecting with their largest customers to understand their approach to sustainability and to learn what they want, so that they can start to respond to those demands. This will, in turn, help them to change their business model and drive future profits.
Electric Vehicle (EV) charging represents the one remaining area where utilities can benefit from increased electricity demand. In European studies, households with an electric car have doubled their total household energy use, showing the possibilities for the market.
The long-term potential is huge; Bloomberg New Energy Finance has estimated that electrifying the US light-duty fleet would add 774 terawatt hours of demand to the grid, which is almost that of the entire US industrial sector.
Along with increased energy sales, utilities will also find opportunities to sell charging as a service, whether through owning the EV charging infrastructure, buying and selling the energy that powers the vehicles, or as a platform for optimizing EV charging.
Utilities must work to increase the value of the service that they provide to their customers. This can be achieved through effective grid modernization that will increase the perceived value of the electricity service for customers, reducing the likelihood they want to take their demand elsewhere. This value comes from enabling the platform functionalities that increase efficiency, allow storage and renewables to enter the market, and facilitate customer bill control.
Embracing renewable technologies, grid modernization and new business models that generate returns by maximizing customer value can pay back greatly. The Electric Power Research Institute found that the benefits of investing in smart grid technologies could outweigh costs by as much as 5:1.
Wright-Hennepin rural electric co-op in Minnesota is a positive example of how utilities can align themselves with the sustainability values of their customers. By as early as 2016, the utility was offering community solar, remote control of appliances, and home security systems. They even provided electric water heaters free of charge that can only operate during off-peak hours, to encourage peak reduction and fill in during low-usage periods.
Finally, utilities must seek opportunities to integrate with technology vendors to enhance the service that they offer to their end users. These technologies can offer both the utility and their customer insights into specific devices such as smart thermostats, electric vehicles or localized battery storage, enabling them to make smarter decisions.
Technology vendors will enable the utility to provide access to real-time data, flexibility and control, which empowers them to supply critical energy resources to local customers. Rather than building out these solutions themselves, integrating with established vendors enables the utility to benefit from the ability to deploy immediately, scale to their market and customize to their specific needs.
The integration of sustainable business practices will greatly enhance the value of electric utilities for their customers. Incorporating renewable energy and adopting sustainable practices lets utilities better serve their customers, prevent revenue erosion, and improve their financial outcomes.
For investors considering where to put their cash, utilities that demonstrate sustainable performance tend to outperform those with lower sustainability performance scores, as well as the broader utility indexes, making them highly attractive investments in a challenging climate.