B&M - accelerating towards electrification
TripSaver II - Cutout-Mounted Recloser by S&C

Strategy & Planning

A Virtuous Cycle

Data and experience show that serving customers well translates into better rate case outcomes. Conversely, poor performance starts a downward slide. J.D. Power and Associates research shows the correlation between customer service and financial returns.

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Figure 1 - Approved ROE And Customer Satisfaction
Figure 2 - Customer Expenses And Satisfaction
Figure 3 - Profitability and Customer Satisfaction
Figure 4 - Virtuous Cycle of Customer Satisfaction
Figure 5 - Rate Case Gap And Customer Satisfaction
Author Bio: 

Andrew Heath, Senior Director, Energy Practice, J.D. Power and Associates

How customer satisfaction drives returns on equity for regulated electric utilities.

Views from the Bond Side

Bond investors are keen for signs of a legitimate recovery, and will be looking to move into holdco bonds.

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Op Ed
Author Bio: 

Josh Olazabal is a vice president in the credit research group at PIMCO’s Newport Beach office. Previously he was a consultant with McKinsey & Co., and worked in corporate development at Duke Energy before that.

How fixed income investors view the utility sector.

Dividend Double-Take

Congress again is embroiled in another hyper-partisan food fight that threatens to blow up into a fiscal crisis. And once again dividend-paying companies like utilities are caught in the crossfire.

Author Bio: 

Michael T. Burr is Fortnightly’s editor-in-chief. Email him at burr@pur.com

What happens when the Bush tax cuts expire?

The Race to Consolidate

The industry’s slow-and-steady pace of mergers seems to be picking up speed, as larger and well-positioned players overtake smaller and weaker targets. Realizing the greatest value from consolidation requires companies to assess their strengths and weaknesses and focus on performance improvement—both before and after a deal gets done.

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Performance Improvement through M&A
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Although analysis is subject to the imprecise nature of publicly available information, it does offer relative insight into how utilities benchmark against each other. In particular, it highlights the potential for untapped value in the utilities industry, specifically with respect to improvements in operational performance. Accenture defines untapped value as increasing the performance of all bottom-half performers to the bottom of the next performance quartile—that is, all fourth quartile performers decrease spending to the top of fourth quartile, and all third-quartile performers decrease spending to the top of the third quartile.

As seen in Figure 4, there’s significant variance of performance across the three major operations and maintenance (O&M) categories, transmission and distribution O&M per customer, customer care O&M per customer, and administration and general O&M per customer. In all cases, there’s a long tail of performance in the fourth quartile.

Taking the viewpoint that overall company performance should be improved, at least to some extent, by M&A, we find that there’s significant untapped value in the industry. Industry-wide, there’s approximately $3 billion in annual O&M untapped value, which is roughly 10 percent of the annual O&M spending for the industry. Delivering on this untapped value will be a prerequisite to driving significant shareholder value through future M&A deals.

By definition, green flag companies have a lower untapped value per customer than either yellow flag or red flag companies. This is due to the fact that operational performance—which drives untapped value—is part of the M&A strength criteria. Interestingly enough, untapped value is equally spread across industry players from size (revenue), customer count, and region perspectives. In other words, no single factor explains why some companies have higher untapped value than others. As such, the field is wide open for performance improvement.–JA, WS, and TW

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M&A Drivers
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Looking ahead at future whole-company transactions, several factors likely will drive the fit between future M&A partners.

• Executive Ambition: The number-one driver of M&A activity remains the C-suite’s ambition and compatibility—including factors such as personal focus, interest in M&A, and willingness to partner.

• Access to Capital: Increased ability to access more and cheaper capital is necessary to support capital project programs, which frequently are very ambitious.

• Integration Value Potential: Going beyond the more obvious rewards helps drive toward a consolidated operating model and processes.

• Pure P/E Plays: Companies with higher multiples buying companies with lower multiples can get an immediate value bump from P/E alone. This likely will happen both across categories—for example, a green flag company buying a yellow or red flag company with a lower P/E—as well as within each category.

• Regional and Portfolio Plays: Mergers can increase value by enabling access to renewables, diversifying the generation portfolio (for example, balancing environmental risk), balancing wholesale positions (long vs. short), and hedging retail and wholesale positions.

• Suitability and Strength of the Acquirer: Clarity on which company is the acquirer consistently produces greater integration benefits and returns.

• Physical Proximity: Two neighboring utilities offer greater synergies than those located many miles apart, since they can derive economies of scale by sharing local crews and other distributed functions.–JA, WS, and TW

 

 

Sidebar Title: 
Performance Improvement through M&A
Sidebar Body: 

Although analysis is subject to the imprecise nature of publicly available information, it does offer relative insight into how utilities benchmark against each other. In particular, it highlights the potential for untapped value in the utilities industry, specifically with respect to improvements in operational performance. Accenture defines untapped value as increasing the performance of all bottom-half performers to the bottom of the next performance quartile—that is, all fourth quartile performers decrease spending to the top of fourth quartile, and all third-quartile performers decrease spending to the top of the third quartile.

As seen in Figure 4, there’s significant variance of performance across the three major operations and maintenance (O&M) categories, transmission and distribution O&M per customer, customer care O&M per customer, and administration and general O&M per customer. In all cases, there’s a long tail of performance in the fourth quartile.

Taking the viewpoint that overall company performance should be improved, at least to some extent, by M&A, we find that there’s significant untapped value in the industry. Industry-wide, there’s approximately $3 billion in annual O&M untapped value, which is roughly 10 percent of the annual O&M spending for the industry. Delivering on this untapped value will be a prerequisite to driving significant shareholder value through future M&A deals.

By definition, green flag companies have a lower untapped value per customer than either yellow flag or red flag companies. This is due to the fact that operational performance—which drives untapped value—is part of the M&A strength criteria. Interestingly enough, untapped value is equally spread across industry players from size (revenue), customer count, and region perspectives. In other words, no single factor explains why some companies have higher untapped value than others. As such, the field is wide open for performance improvement.–JA, WS, and TW

Author Bio: 

Jack Azagury (jack.azagury@accenture.com) is Accenture’s North American Management Consulting lead for the resources industries, and Walt Shill (walt.shill@accenture.com) is global senior director at the company. Ted Walker (ted.h.walker@accenture.com) is a senior manager in the Accenture Utilities Strategy group. The authors acknowledge contributions from Jan Vrins, Accenture Utilities Management Consulting group, and Jason Allen, Accenture Research.

Positioning to win in the contest for scale.

The Fortnightly 40 Best Energy Companies

(September 2012) Our annual financial ranking shows some remarkable shifts among the industry’s shareholder value leaders. Despite flat demand and low commodity prices, investor-owned utilities are investing heavily in capital assets. Investment discipline and operational excellence distinguish leaders on the path to financial performance.
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The <i>Fortnightly 40</i> Best Energy Companies
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Behind the Rankings
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Our annual survey of power and gas company performance relies on a modified DuPont model, based on its 89 year-old namesake approach for calculating shareholder value in asset-intensive industries. In 2008 we tweaked the model—which originally was developed in 1919 by a finance executive at E.I. du Pont de Nemours & Co.—to measure growth on a long-term, sustainable basis (See sidebar “F40 Model Characteristics”).

The Fortnightly 40 model combines several common measures of financial performance—profitability, dividend yield, cash flow, return on equity (ROE) and return on assets (ROA)—together with a sustainable growth-rate calculation, to produce an overall picture of a company’s value and long-term prospects. To avoid the pitfalls of short-term fluctuations, the model evaluates four years of results for each company. (This represents a change from 2008 and previous F40 rankings, which considered three years of financial results.)

The universe for the ranking—which this year numbers 82 companies—includes publicly traded, U.S.-based companies with major assets in energy production, transportation and retail delivery, and positive shareholder equity value for the past four years. Pure-play mining and exploration & production companies are excluded, but a few pure-play merchant power generation companies are included in the sample.–MTB

Credits: The Fortnightly 40 model was developed in 2006 by former Fortnightly Executive Editor Richard Stavros and Jean Reaves Rollins, managing partner of the C Three Group in Atlanta.

F40 Model Characteristics

Time Frame: 4-year average

 

Sample: 80 largest U.S.-based investor-owned power and gas companies, with assets in power generation or electricity and gas transmission and distribution.

Components:

1. Profitability= Margin = Income from Continuing Operations/Total Revenues.

2. Dividend Yield= Annual Declared Dividends/Year-End Stock Price.

3. Free Cash Flow= Operating Cash Flow from Continuing Operations – Capital Expenditures.

4. DuPont ROE Five-Ratio Model:

a. Earnings after taxes (EAT) = Income from Continuing Operations after Taxes;

b. Earnings before taxes (EBT) = Income from Continuing Operations + Income Taxes;

c. Earnings before interest and taxes = Income from Continuing Operations before Income Taxes and Interest;

d. Revenues = Total Revenues;

e. Assets = Total Assets; and

f. Equity = Total Common Shareholders Equity.

5. DuPont ROE= (EAT/EBT)×(EBT/EBIT)×(EBIT/Revenues)×(Revenues/Assets)×(Assets/Equity).

6. DuPont ROA= (EAT/Revenue)×(Revenue/Assets)

7. Sustainable Growth= DuPont ROE×(1–Dividend Payout Ratio).

8. Fortnightly Index9. Companies excluded from the FY2011 survey due to M&A activity: Allegheny Energy, DPL, and Nicor.

Author Bio: 

Michael T. Burr is Fortnightly’s editor-in-chief. He acknowledges the editorial contributions of the C Three Group and Accenture.

A challenging year brings a change in the rankings.

Pre-Funding to Mitigate Rate Shock

As the industry resumes major capital-spending programs, utilities and their stakeholders are rightly concerned about the effects on prices. Traditional regulatory approaches expose utilities to risks and costs, and can bring rate shock when capital spending finally makes its way into customers’ bills. Pre-funding investments can provide a smoother on-ramp to bearing the costs of a 21st-Century utility system — but it also raises questions for utilities to address.

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Author Bio: 

Sherman Elliott is an independent consultant and formerly was a commissioner on the Illinois Commerce Commission. Ralph Zarumba is a director in Navigant’s energy practice.

Re-starting the Big Build calls for revisiting cost-recovery mechanisms.

Load as a Resource

Historically, grid operators tapped into voluntary load reduction as a last resort for keeping the lights on. But now, smart grid technologies and dynamic pricing mechanisms bring vastly greater potential for using load as a dispatchable resource. Effective implementation requires advanced technologies—and also foresight in creating programs, policies, and market mechanisms.

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Author Bio: 

Audrey Zibelman is co-founder and CEO of Viridity Energy, and formerly was chief operating officer at PJM. Chika Nwankpa is a professor and Director of the Center for Electric Power Engineering (CEPE) at Drexel University. Alain Steven is co-founder and executive vice president of strategy at Viridity Energy, and formerly was chief technology officer at PJM. Allen Freifeld is senior vice president of law and public policy at Viridity Energy, and formerly was a commissioner on the Maryland Public Service Commission. 

Integrating controllable demand into real-time, security constrained economic dispatch.

Capturing Distributed Benefits

The long-predicted future of distributed generation is now becoming a reality. Customers increasingly are installing and operating behind-the-meter generation systems, creating challenges and opportunities for utilities. ConEdison’s experience demonstrates the dangers and challenges, as well as the opportunities for becoming partners with utility customers.

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How Con Edison Includes DG in the Forecast
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When considering alternatives to costly infrastructure investments, the solutions are compared to the marginal cost of utility projects avoided. Traditional utility infrastructure investments to increase the marginal capacity of a distribution network can cost as little as $100/kW for substation cooling and as much as $2,000/kW for a new station build. The typical cost for DSM measures is approximately $1,000/kW.

Factors evaluated to determine use of existing DG as a reliable load reduction are:

• Area substation contingency design criteria;

• Information from specific DG units;

• Baseloaded output (kW) of each DG unit;

• Historical weekday outage rate and daily 24-hour output of each DG unit during the summer period—June, July and August; and

• Telemetry such as DG breaker status, kW and kVAR, to monitor DG performance including time of peak output coincident with the substation peak loads.

For customers with more than one generator, electrical one-line diagrams are examined to consider common-mode failures.–MJ, DL, and CR

 

Author Bio: 

Margarett Jolly (jollym@coned.com) is Con Edison’s distributed generation ombudsperson. David Logsdon (logsdond@coned.com) is a distributed generation specialist and Christopher Raup (raupc@coned.com) is manager of state regulatory affairs at Con Edison. The authors acknowledge the contributions of their colleagues Frank Cuomo, Jairo Gomez, Michael Harrington, Martin Heslin, Ahmed Mousa, and Robert Schimmenti.

Factoring customer-owned generation into forecasting, planning, and operations.

Double Trouble in PJM's Capacity Market

New Jersey’s bid to force prices downward in PJM’s capacity market not only raises the alarm about market manipulation. It also reveals a dilemma that’s preventing new generation from being built. Incumbent interests and political motivations make PJM less attractive to investment than it should be.

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Energy Risk & Markets
Author Bio: 

Ade Dosunmu is managing director at Capacity Markets Partners. Previously he held senior management positions at Utility Risk Management Corp., Comverge, and Booz & Co., and he co-founded energy efficiency service company GreenPrimate Inc. Email him at adosunmu@capacitymarkets.com

Policymakers and industry seek a formula to assure competitiveness and resource adequacy.

Letters to the Editor (July 2012)

(July 2012) Thanks for your enlightening editorial about the problems of feed-in tariffs for photovoltaic installations and the distortions they are causing in cost responsibilities among electric utility customers. While these issues are an immediate and growing concern, an entirely different set of problems will emerge over the next decade as the share of renewables in total generation approaches the high levels being dictated by most regulatory authorities.

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Letters to the Editor

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