Preventing A Utility Death Spiral

The phrase “disruptive forces” is not commonly heard (or desired) in conversations about electric utilities, outside of Weather Channel storm-coverage hyperbole or an alien-invasion blockbuster movie. However, the recent rapid increase in photovoltaic (PV) and other distributed resource (DR) installations, along with an equally big push in demand-side management programs, is raising eyebrows (and ominous phrases) among savvy utility observers. Some are even beginning to wonder if the electric-utility business model we have known for more than a century will remain viable once the distribution grid becomes a true two-way street.

Almost since its inception, our transmission and distribution system has operated solely in one direction: from power plant to transmission lines to local distribution and, finally, the customer’s meter. To ensure the reliability and affordability of electricity for all, local investor-owned utilities became legal monopolies. So, today, in return for the exclusive right to sell electricity to customers in their service territories, utilities receive a regulated return on equity—the amount they have invested in the wires, substations and other assets needed to deliver electricity affordably and reliably—with every kilowatt-hour (kWh) they sell. 

But now, more customers are starting to generate their own electricity and selling the excess back to utilities at favorable net-metered rates; in some cases, utilities end up paying more for customer-generated electrons than for energy produced by a power plant. The danger some see in this two-way transaction is that fewer customers will be left footing the bill for utility assets (and for all those renewable-energy incentive programs). The higher rates that could result might only encourage more customers to install their own PV or wind equipment, exacerbating the problem and setting off what some have described as a “death spiral.”

In some ways, this cycle would be less of a problem if all those PV-installing customers were taking themselves off the grid, entirely—over time, perhaps, we would cease needing the grid at all. Instead, though, those homeowners and businesses want the advantage of tax breaks and net-metered electricity rates, while maintaining their grid connections for use when the sun isn’t shining. Having it both ways is great for customers but could prove financially untenable for utilities.

“We’re asking a lot of the utilities, but we’re not aligning their incentives correctly,” said Virginia Lacy, a senior consultant with Rocky Mountain Institute, an independent think tank based in Boulder, Colo., focused on energy and building-design issues “We need to start readdressing [rates] so that utilities are actually acting in their best interests, as they should be.”

A January 2013 report makes it very clear that electric utilities are beginning to see a need for change, as well. “Disruptive Challenges: Financial Implications and Strategic Responses to a Changing Retail Electric Business” was written for the Edison Electric Institute, the association promoting the interests of investor-owned utilities, and its author, Peter Kind, is hardly a rabble-rousing alarmist. He is a senior adviser with the U.S. branch of Australian investment bank Macquarie Capital and a former Bank of America and Citigroup executive. But Kind’s analysis describes a possible death-spiral-style regulatory and financial scenario, and industry observers are taking notice. 

“As DER [distributed energy resources] penetration increases, this is a cost-recovery structure that will lead to political pressure to undo these cross subsidies and may result in utility stranded cost exposure,” Kind writes. In other words, as more homeowners and businesses add rooftop PV panels, fewer customers will be left paying the per-
kilowatt-hour charges that support both those clean-energy installations (called “cross subsidies”) and the overall distribution system. Resulting rate hikes could become politically unsupportable and leave the utilities footing the bill for assets installed years earlier.

Kind suggested that, in the short term, utilities work with public utility commissions to develop rates that reflect the value of the grid to customers who have installed DER equipment. In addition, he would revise net-metering programs so that equipment owners selling electricity back to the grid would be reimbursed at a market-derived price, rather than on a set per-kilowatt-hour basis. 

Lacy co-authored a Rocky Mountain Institute report, “New Business Models for the Distribution Edge,” in June, which identifies these and other options as long-term opportunities to better align utility profit incentives with societal priorities, such as reducing carbon emissions and fossil-fuel use. At the heart of these solutions, Lacy said, is recognition that our continued view of the grid as a one-way street may need changing.

“That becomes problematic when you’re starting to have customers that are [both] exporting power and importing power—that is not actually providing clear signals as to the value the customer is providing and the value the grid is providing,” Lacy said, adding that the old method of simply winding back a PV panel owner’s meter simply won’t work in our increasingly two-way electricity market. “This must change when customers are becoming participants.”

About the Author

Chuck Ross

Freelance Writer
Chuck Ross is a freelance writer and editor who has covered building and energy technologies for a range of industry publications and websites for more than 25 years. He specializes in building and energy technologies, along with electric-utility bus...

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