Designing a new utility business model? Better understand the traditional one first

Published: 2014

By Steve Kihm, Energy Center of Wisconsin; Jim Barrett and Casey J. Bell, American Council for an Energy-Efficient Economy (from ACEEE Summer Study proceedings, 2014)

ABSTRACT

There appears to be a consensus among energy efficiency advocates that traditional utility regulation rewards sales growth and penalizes efficiency. Economic history, however, appears to tell a more-nuanced story. While we cannot isolate the impacts of energy efficiency per se, we can see that gas utilities stocks have outperformed their electric utility counterparts over the long haul, despite selling less product today than they did forty years ago. (Moody’s, 2000)

Stock prices are influenced in part by changing expectations about the economic value-added created (or destroyed) when utilities build assets. This metric is influenced not only by internal factors, but also by macroeconomic cycles. Historically, periods in which utility asset expansion adds value precede periods in which it diminishes value. The ratemaking model stays the same but the inputs to it change, and as a result the incentives that model creates for utilities change substantially. Focusing on the incentives that the traditional ratemaking model provided in the recent past tells us little about the incentives those same mechanics will likely provide over the next several decades.

The purposes of this paper are: (1) to describe the existing utility business model at its most fundamental level; (2) to show that this simplified expression can successfully explain past utility financial performance and behavior; and (3) to draw inferences from the model about how current and potential future market conditions are likely to impact utilities’ performance and behavior going forward.

Report number: 
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