Electric Re-Regulation and Effects on Industrial Customers

Robert A. Durham Central & Southwest Services Robert A. Durham Central & Southwest Services

Marcus O. Durham THEWAY Corp / U of TulsaMarcus O. Durham THEWAY Corp / U of Tulsa

Introduction

Regulation began in 1935

Consumers see utilities as last monopoly

States are making rapid changes

Yipee!

Introduction

Process ties closely to dereg of oil

Many models, all have effects on consumers

Needs of small consumers must balance w/ industrials ?

History Utility Life Cycle

First “power system” @ World’s Fair of 1893

First “utilities” were large consumers

Consumers diversified to provide power to others

Some were created by cities

HistoryUtility Life Cycle

Companies started by technologists

Large conglomerates formed by Industrialists

Federal government created authority to regulate

Consumers see limited risk and demand change

Those that adapt do well, those that don’t fail

$

TimeConcept

Development

Growth

Regulation

DeregulationTechnologicalGrowth

Figure 1 - Regulated Industry Life Cycle

HistoryFederal Regulation

Federal Power Act 1935– To restrict “undue discrimination”– “Natural Monopolies” due to geography

Public Utility Holding Company Act 1935– To regulate holding companies of local utilities– Unprecedented control & restrictions

History Federal Regulation

SEC: “purpose of PUHCA achieved. “ 1955

Public Utilities Regulatory Policy Act 1978– Promote domestic energy, particularly renewables– Utilities forced to buy “excess” power from cogen, etc.– Created Independent Power Producer (IPP)

History IPP

Generation to supply industrial heat & energy

Auxiliary power sold to utility at “avoided cost”– Utility: Price of fuel– IPP: Cost of new plant

Different interpretations = different rules in each case

HistoryAncillary Organization

State Commissions– Oversee utilities & approve expenditures

Quasi-government organizations– Provided service in underdeveloped areas– Some by mandate - TVA, SPA– Some by federal loans - Co-ops

Role will change under different set of regulations

Parallels to OilCorrelations

Both industries had large, vertical integrated companiesGeneration ProductionTransmission PipelineDistribution Refining & Marketing

Many Independent Producers, few distributors

Parallels to OilHow Oil looks today

Fewer producers Price dramatically reduced Separate “common carrier” pipelines purchase & resell Standards set by voluntary ad-hoc organizations

Parallels to OilDifferences

OIL ELECTRICITY

Multiple Outlets Direct to CustomersDistributed Investment Centralized Plants

Generally, electricity market will stabilizeonce restrictions are released - just like oil.

Industry Reorganization

Utilities will organize themselves along three linesGeneration - Transmission - Distribution

Individual risks are limited

Each entity can draw support from othersG

T D

MARKETER

GENERATION

TRANSMISSION DISTRIBUTION

PRODUCT - MARKETER - CLIENT

Darkness and Light

Historically, one entity responsible for all of system Now, each entity has its own competing concerns As system is pushed, reliability will suffer

Observations from Western Outages

Transmission being stressed more than ever Not enough dynamic reactive support Events not been studied No one had “big picture”

What We Can Expect from Future Operations

More stress on transmission as system is pushed Less “spinning reserve” for volt / freq support More conditions to study => more holes Entities focus on own business, no one w/big picture

?

Energy Policy Act of 1992

Free Access to transmission

Wholesale generation allowed

Ownership of foreign utilities

Wheeling

Electricity from one system to another through third Nebraska sells to Oklahoma through Kansas Open Access

“nondiscriminatory access to transmission systems” Has opened market to freer competition in transmission Already seeing some effects

Exempt Wholesale Generators (EWG)

“Engaged exclusively in making & selling at wholesale” Potentially more impact than wheeling Exempt from oversight: NEC, FERC & state Cannot sell to sister company w/o state approval

Ownership of Foreign Utilities

Now own or invest in foreign utilities Major departure from vertically integrated history Activities w/o SEC approval Cannot “pledge or encumber” domestic assets Affects profitability & financial stability

SEC Proposals

Limited Repeal of PUHCA - proper state oversight Unconditional repeal of PUHCA More authority to exempt companies Maybe in 1998?

State Changes

More appropriate than Federales Each area has different needs Can respond quicker Interest in local economy, not national consensus

State Changes

At least 45 states have begun Two trends

Maintain regulator control of distributionRelease generation to market

Each has different time tables, Jan 1998 - ??? Areas w/ highest cost will move first

Independent System Operator

California & New England have implemented Many other states following Charged w/

“ensuring efficient use & reliable operation of xmission”

ISO Gains operational control of transmission network

Open Access Distribution of tariffs Resolution of congestion Continued reliability

PROBLEM: No financial motivation to improve control & ops

Power Exchange

Necessary for efficient trading of power No need for government charter or run NYSE, AMEX, Chicago Mercantile do this kind Competitive markets form own arenas of exchange

Generation Models

Generators must be allowed free access to markets Several approaches have been proposed

Direct AccessPoolHybrid

Figure 3 - Direct Access Model

GenerationCompany

Customer

GenerationCompany

GenerationCompany

GenerationCompany

Customer

Customer

Customer

Customer

Customer

Customer

Figure 4 - Pool Model

GenerationCompany

GenerationCompany

GenerationCompany

GenerationCompany

ISOControlledPower Pool

Customer

Customer

Customer

Customer

Customer

Customer

Customer

System Load

Price PerKWh

Marginal Payoutto Utilized Units

Figure 5 - Pool Model Pricing

Figure 6 - Hybrid Model

GenerationCompany

GenerationCompany

GenerationCompany

GenerationCompany

ISOControlledPower Pool

Customer

Customer

Customer

Customer

Customer

Customer

Customer

Models Comparison

Direct access does not allow for daily swings

Pool cumbersome, no stability of prices

Hybrid most impetus for responsive, viable

Hybrid what will exist if market is left alone

Oil for ElectricityRoyalty Comes to Utility

Landowner gets royalty from production Producer gets profit from remainder after expense Key clause: producer uses oil / gas w/o pay royalty Producer has “free fuel” even to make electricity

Oil for ElectricityCreative Idea

Proposal to OCC: direct exchange of oil for use By-pass on-site investment, operating cost, taxes Permit oil & utility to agree on “barter” rate w/o regs Oil foothold into utility before others get access

Oil for ElectricityAn Interesting Twist in Last Year

Large gas pipelines Formerly owned by holding co. & sole supply Fell under OCC & PUHCA - no creative for sisters New players: utility & pipeline can trade w/ anyone OCC regulates oil & utility - approve in principle

Industry Models

Industry consortia of professionals develop standards Multiple producers sell to transporters Multiple transporters purchase from producers Few marketers distribute directly to customers Government regulation minimized to taxation

Industry Models Segment companies

Suppliers, Transporters, Marketers Regulate during transition

Market will dictate long termValue of investment reduced after 3-5 years

Encourage free market agreementsAny transporter, any supplier, any marketer

Distribution by only a fewMost efficient because of geography

What About The Existing System?

Distribution: system will remain in place

Generation & Transmission: competition will balance out advantages

Aggressive companies:will enter overpriced market

What About The Existing System?

In the past, investments forced on utilities Some recovery must be allowed Must change accounting

from single-year to long-term

How Will This Affect Me (Us) ?

Much of push to deregulation comes from industrials No company can stay in business w/o profit If revenues reduced to one sector,

they must be raised in another As competition takes over,

production costs are reduced

What Happens To Costs?

Initially, upward movement More entities in supply chain,

each will have a margin Greater risk demands greater returns Trade-off:

more efficiency by reducing size of entities

What Happens To Costs?

More options Long term - more competitive market drive price down New technologies from striving for competitive edge

ConclusionsRe-regulation is here

Regulation stymiescreativity, technology & economics

Competitive utilitieseventually lower costs

Must compensate old system decisions Benefit utilities & customers

ConclusionsEntities

Supply: Generation Transportation: Transmission Marketing: Distribution Manage:

– ISO– Transporter

w/ industry standards & contracts

ConclusionsStandards

Technological & economic Industry professionals - vs - govt Regulation: state - vs - Federales

ConclusionsCost-based Pricing

Encourage efficiency Reduce cost Maintain economic viability Keeps large customers in all segments

Key

Competitive utility benefits all parties

Be careful, ill-crafted legislation is a burden