Navigant Research Blog

To Win, Utilities Must Play Offense as well as Defense

— July 10, 2014

Since I’m originally from the Netherlands and spent several years living in Brazil, the semifinal results of this week’s World Cup soccer (or football, as we Europeans call it) matches have been disappointing, to say the least.  One thing that’s clear from the tournament ‑ one of the most exciting World Cups in my memory, by the way ‑ is that to succeed at this level, teams must play well on both ends of the field: offense and defense.  The Netherlands squad, the Orange, played superb defense on Argentinean superstar Lionel Messi, but failed to muster a goal in 120 minutes of regular and extra time and lost on penalty kicks.  As for Brazil, it played neither offense nor defense.

The same is true for utilities in today’s rapidly transforming power sector.  Playing defense – by sticking with established ways of operating and traditional forms of customer service – is no longer enough to succeed.  Utilities must also play offense; they must proactively develop new capabilities and innovative business models to thrive in a world of proliferating distributed energy resources (DER), greater customer choice, and rising competition from new players.

A Shifting Landscape

Widespread coal plant retirements, stiff renewable portfolio standards in many U.S. states, and the spread of renewable generation are all irrevocably changing the mix of generation assets while increasing the need for load balancing and frequency regulation on the grid.  Navigant forecasts that cumulative solar capacity in the United States will reach nearly 70,000 MW – 60% of it distributed – by the end of 2020.

At the same time, the U.S. Environmental Protection Agency’s (EPA’s) proposed limits on CO2 emissions from existing power plants will drive further changes in the generation landscape.  These limits will bring new natural gas capacity online, put upward pressure on wholesale electricity prices, and make demand response and energy efficiency programs key parts of the answer.

(Source: Navigant Consulting)

Today’s centralized, one-way power system is quickly evolving into an energy cloud in which DER support multiple inputs and users, energy and information flows two ways across the system, and market structures and transactions grow more complex.  The energy cloud is more flexible, dynamic, and resilient than the traditional power grid, but it also brings new challenges to a power sector that until recently has changed little in its fundamental structure for almost a century.

Lead or Lose

Facing declining revenue as customers consume less and produce more of their own power, utilities are faced with large investments to build new transmission capacity, upgrade distribution systems, and invest in new DER businesses.  Given these challenges, utilities must be adept at playing offense and defense.  An updated defensive strategy will entail:

  • Engaging with customers and regulators to understand customer choices vis-à-vis price and reliability
  • Improving customer service and grid reliability at the lowest prices possible
  • Finding equitable ways to charge net metering customers for transmission and distribution services
  • Developing utility-owned renewable assets to appeal to environmentally conscious customers

Playing offense is even more important.  Utilities must:

  • Create new revenue streams through the development of new business models, products, and services
  • Transform their organizations and culture in order to fully integrate sales, customer service, and operations
  • Upgrade the grid and operations to facilitate the integration of DER

These objectives can only be accomplished by implementing new business models that include developing, owning, and operating DER such as rooftop solar, customer-sited storage, and home energy management systems; providing third-party financing for DER; and offering new products and services focused on energy efficiency and demand response.

There is no going back to the old ways of doing business.  Utilities must lead – by playing both offense and defense – or they run the risk of being out of the competition.

 

Facing Power Shortage, United Kingdom Looks to Demand Response

— July 10, 2014

Outside the United States, the United Kingdom represents the largest (and arguably most dynamic) market for demand response, as described in Navigant Research’s Demand Response report.  In some ways, though, the United Kingdom has surpassed the United States on the demand response front.  One of these is a proposed mechanism known as the Electricity Demand Reduction (EDR) program that would create financial incentives for customers to pledge permanent electricity reductions.

In contrast with traditional demand response programs, which pay customers to reduce power demand during peak periods and shift it to other times, EDR creates incentives for customers to invest in energy efficiency measures that result in lower overall peak demand.  The U.K. government launched a 2-year pilot in June and will continue to examine the viability and impact such a program would have on the country’s electricity system.

Crisis Ahead

Much of the impetus for demand response programs in the United Kingdom is due to the rise of intermittent renewable energy sources such as offshore wind energy.  However, with the country aiming for broader decarbonization of its energy system, demand response is being considered alternatively as a platform for deeper investment in energy efficiency measures that reduce energy consumption in terms of not only kilowatt-hours, but also kilowatts of power demand.

The United Kingdom is headed toward a potential crisis in its energy supply, with a severe shortage of new plants slated for construction to replace those being decommissioned.  The country is expecting to shut down more than a dozen baseload power plants by 2025 with a combined capacity of over 20 GW.  To put that into perspective, the United Kingdom’s peak demand usually hits 55 GW to 60 GW in the winter, so more than one-third of the country’s current baseload power generation is going offline in the next 11 years.  As a result, the government is looking into a wide range of options such as EDR that would make permanent reductions in peak demand to help close the gap with the decline in supply.

In its 2012 Energy Efficiency Strategy, the U.K. government concluded that, “through socially cost-effective investment in energy efficiency we could be saving 196 terawatt-hours in 2020, equivalent to 22 power stations.”  The EDR pilot will address the lingering questions about the program’s practicality and cost effectiveness.  If it succeeds, it will represent an attractive approach for meeting the country’s long-term decarbonization targets.

 

German Utilities Struggle in Renewables World

— June 24, 2014

Germany’s energy policies have promoted strong growth for the country’s renewables industry and have served as guidelines for countries like the United States, Australia, and Canada in adopting similar laws.  They have not, however, benefited German utilities.

Power generators in Germany are struggling as the combination of renewables and other Energiewende policies continue to shift the economics of the country’s power market.  The result has been frightening drops in per-unit wholesale electricity prices, the proliferation of low-cost/high CO2-emitting generation resources, and desperate calls from utilities for policy reform to preserve capacity markets that will provide revenue stability.

Germany allows renewables to take priority on the grid.  Because its energy market is deregulated, compensation for energy resources is set by supply and demand dynamics and marginal costs per unit.   As a result, renewables flood the grid when they are available, which is mostly during daytime peak periods (when prices used to be the highest).  But because the marginal cost per unit of renewable electricity is essentially zero, even when fossil fuel-powered resources are utilized, they are compensated at a much lower price than they have been in the past.  That’s bad news for German utilities (which are surprisingly underinvested in renewables), as they have traditionally made most of their income by generating electricity.  E.ON reported revenue losses of 14% compared to 2012, while RWE reported a loss for the first time in 50 years.

The Brown Stuff

One of the most noticeable consequences of this is the growth in coal consumption.  Due to the intermittency of renewables, utilities are required to ensure sufficient backup power at all times.  Since they are not guaranteed the ability to actually sell these reserves – and face low marginal profits when they do – they choose the most inexpensive generating option – usually coal.  Currently, lignite (brown coal) provides about 25% of Germany’s energy supply, a figure that, according to the U.S. Energy Information Administration, is growing steadily year-over-year.  This is unfortunate because it is the dirtiest fuel source in terms of CO2 emissions.  Furthermore, plants take upwards of 6 to 8 hours to ramp up, which means that it is more cost-effective to keep them running at all times.  But utilities claim that they must increase their use of lignite in order to maintain financial stability.

So what’s the answer? After so much push for renewables and dedication to reforming the energy industry in Germany, it doesn’t make sense for Chancellor Angela Merkel and German regulators to return to the status quo ante.  Grasping the futility of seeking to reverse the Energiewende, utilities have proposed a number of market reforms.  In particular, following France, there has been an increase in lobbying for the establishment of capacity markets that would guarantee utilities a source of income regardless of whether they actually sold their resources.

High Anxiety

Proponents argue that capacity markets would enable utilities to not only use cleaner fossil fuel sources, but also increase their investments in efficiency-related grid projects.  And this makes sense; the Energiewende has proposed grid investments to decrease overall transmission and distribution losses and extend the reach of renewable resources (also promoting energy efficiency).  In addition, the extension of demand response technologies (something that could also proliferate if curtailment is allowed to be sold as capacity) could ease some of the problems surrounding intermittency and high CO2 emissions from spinning reserves.

With anxiety rising among both utilities and regulators as the energy business in Germany becomes more and more disparate, it seems important to take a close look at establishing market mechanisms that simultaneously promote renewables and allow utilities and grid operators to maintain financial and operating stability while developing new revenue streams based on energy efficiency.

 

Q&A: Doug Houseman of EnerNex on the Future of Utilities and Power Generation

— June 17, 2014

The release of the U.S. Environmental Protection Agency’s (EPA’s) long-awaited new rule on carbon emissions from U.S. power plants has heightened the debate over the future of power generation in this country.  Environmental organizations and renewable energy industry figures have suggested that wholesale replacement of fossil fuel-based generation with renewables is both achievable and desirable within the next few decades.

I spoke with Doug Houseman, vice president of Innovation and Technology at EnerNex, to get his take on the future of power generation and on utility industry challenges in general.  Houseman has 30 years’ experience in the global power industry and is widely recognized as an energy sector thought leader.  EnerNex specializes in engineering services and consulting to utilities, government, and private institutions.

Navigant Research: In a new report on power generation from renewable sources, Greenpeace suggests that smart grid investments will facilitate integration of extensive distributed generation, but later in the report it shows a “power plant value chain” where generation utilities disappear after 2020 and grid operators become state- or community-controlled.  What’s the logic there?

Doug Houseman: The implication is that the grid can mostly just disappear and that renewable energy will have the same ability to be scheduled as conventional power plants.  A peer-reviewed IEEE [Institute of Electrical and Electronics Engineers] paper I coauthored estimated that, if the U.S. were to use only wind energy, in order to deal with the annual cycle of wind and demand, the U.S. would need large amounts of storage – for example, pumped hydro, which is the most cost-effective storage available today for long-term storage.  We would need to take Lake Michigan twice and put it behind a 200-foot-high dam.  Solar and mixed renewable scenarios all require significant annual storage cycles.  If we move all transportation to electricity, those numbers would grow significantly – say, three to four Lake Michigan equivalents of pumped storage.

NR:  Plans like this rely not only on green generation sources but also reduced electricity and heating demand, thanks to more efficient electronic devices and energy-related renovation of the residential building stock.  Who pays for these innovations?

DH: The consumers will, which means that the people who have money will end up even better off than the people who don’t.  These devices will have a much higher initial cost than less efficient devices – unless the government intervenes in the market in a significant fashion, by either taxing the low efficiency devices heavily or subsidizing the high efficiency devices.  Since many energy-consuming devices have a 20- to 30-year life, even if the manufacture of low efficiency devices are banned, the resale of them through Goodwill and other resale shops will happen, extending use of these devices to the end of their useful life.

Also, to rehab the U.S. housing stock is not a simple process, but probably a 30- to 40-year process – 100 million dwellings will take time to completely rehab to the kinds of standards necessary.  Some of those rehabs will take tens of thousands of dollars to do, and in many cases the buildings will have to be vacant to do the rehab because of remediation issues (like mold) that will be found in the buildings.

NR:  Policy changes are also needed to dramatically change the industry.  Many observers suggest abolishing subsidies for fossil fuels and nuclear energy and transferring the socialized cost of pollution back to the energy sector via carbon fees.  Do you see any of these policy changes happening in the near term?

DH: Honestly, no.  The House of Representatives has proposed a major overhaul of the tax code, which removes many of the subsidies, but the Senate has indicated it is dead on arrival because of the depth of the change.  I doubt that a comprehensive plan can get through and that is the only way to actually act on all the possible subsidies.  Some say that any investment or R&D credits are subsidies, so the depth of the overhaul on the tax code would have to be extensive.

NR:  In the wake of Fukushima, environmental activists and national governments – including Germany and Japan – are working to eliminate nuclear generation.  Natural gas is often considered a “transitional” or “bridge” fuel source.  Your thoughts?

DH: The Sierra Club, the NRDC [Natural Resources Defense Council], and others have indicated that nuclear has a place.  The administration has indicated that natural gas will either need carbon capture or have to be transitioned out.  So electricity use will rise further (as will storage) as heating and cooling move to electricity, along with transportation.

 

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