Wednesday, March 13, 2013

The business case for renewable distribution generation

Guest post: Caroline Mason, Commercial Key Accounts Manager

Nearly two months ago, Georgia Power announced plans to triple its solar power purchases, emphasizing the chance to stimulate innovation and research in an area that is promising for the sunny state of Georgia. When I saw their announcement, I was halfway through the first classes of my MBA program, and was developing an understanding of what it means to be a corporation; how each of your decisions must in some way create value for your shareholders.  I wondered how an investor owned utility could sell the economics of distributed energy resource (DER) investments, which include small scale distributed energy storage (DES) and distributed generation (DG), to its shareholders.  A utility’s interest in energy storage seemed fairly logical, but DG resources, often in the form of small scale renewables, would have a tough battle to fight.  Significant advancement in DES is required before renewable DG can be reliably counted on to reduce a utility’s peak generation requirements. Until better DES is available, renewable DG installations will yield lower profits from sales of kilowatt-hours without reducing CAPEX for generation assets. Business cases for DG investment will vary based on a utility’s rate structure and regulatory status, but without the capability to offset generation requirements, utility DER investment will be driven by government activity, often in the form of a monetized penalty.

To get a better view of the potential business case for renewable DG, it is helpful to segment utilities based on the rate structure and regulatory status under which they operate as shown in the chart below.

Regulatory Status

Rate Structure
Goal: Please regulators
Constraints: No penalty for reduced kWH sales
Goal: Compete with other providers
Constraints: No penalty for reduced kWH sales
Goal: Please regulators
Constraints: Reduced kWH delivered yields reduced profits
Goal: Compete with other providers
Constraints: Reduced kWH delivered yields reduced profits

Effect of regulatory status and rate structure on utility investment decisions
*Blue shading reflects a positive or neutral business case for DG; red text reflects a negative business case

Most readers will be familiar with deregulation, but may not be as comfortable with decoupling, which allows a utility to maintain profitability even with decreased sales of electricity.  Decoupling is generally tied to energy efficiency investments, but it does have significant implications for our discussion. In a market where utility profits have not been decoupled from electricity usage rates (reflected in the two lower quadrants), a reduction in power purchased cannot be recouped through rate adjustments.  Even in markets where decoupling has been implemented, if the state’s utilities are deregulated (reflected in the upper right quadrant), the utility’s generation arm will see no profit adjustment as a result of the state’s decoupled rate structure.  It is only in regulated markets where decoupling is allowed that a utility might be capable of constructing a positive or neutral business case for investing in DG.  In those markets, a utility’s balance sheet could be properly adjusted for any sales lost to renewable DG because its generation, transmission, and distribution assets are included in the same financial statement.
Why is it, then, that we have become fairly accustomed to utility announcements of renewable power purchase initiatives? Having eliminated the ‘carrot’ of increased profitability, we have to look at the ‘stick’ of financial penalties that might sway our utility’s business case.  The most common penalty comes in the form of a renewable portfolio standard (RPS), which regulates the percentage of a utility’s generation capacity that must come from renewable energy.

Returning to our earlier discussion, Georgia is not one of the few regulated, decoupled markets, and they have no RPS penalties in place.  What, then, would cause their investors to accept their announced investment? As it turns out, Georgia Power is attempting to avoid the legalization of power purchase agreements (PPAs), which would allow independent companies to build DG resources on a customer’s site and sell the customer power generated by those resources, effectively bypassing the utility’s relationship with the customer.   While Georgia Power’s business case might not be as straight forward as its RPS influenced counterparts, its investment is still balanced by a monetized penalty, in this case, avoided PPAs. 


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