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Leonard Hyman & William Tilles

Leonard Hyman & William Tilles

Leonard S. Hyman is an economist and financial analyst specializing in the energy sector. He headed utility equity research at a major brokerage house and…

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Did The Supreme Court Just Put The Nail In The Coffin For Utilities?

Did The Supreme Court Just Put The Nail In The Coffin For Utilities?

The U.S. Supreme Court Upholds FERC Order 745: Bad News for Electric Generators and Good News for Consumers

On Monday (January 25) the U.S. Supreme Court, by a 6 to 2 decision, issued a ruling supporting the U.S. Federal Energy Regulatory Commission Order 745 in a case titled Federal Energy Regulatory Commission vs Electric Power Supply Association (FERC vs EPSA). The issue before the court was whether FERC could compel regional power markets in the U.S. to pay consumers who reduce their electricity usage at critical periods. And if so, at what price? Consumers have adopted a panoply of energy saving technologies collectively known as Demand Response (DR) in part due to the economic inducements offered by FERC supported tariffs.

Demand Responders argued that a megawatt saved is the financial equivalent of a megawatt produced by a power generator (with all of the environmental externalities figured in it might be worth even more). The power generators who comprise EPSA have recognized that DR would hurt them financially by reducing electricity prices and margins to the direct benefit of consumers. Related: U.S. Land Rig Count 22 Jan 2016

Adding DR to a power market is the competitive equivalent of adding more generators. Either way added competition in this case equates to lower prices for consumers and reduced profits for power generators. Given the already tough prospects for the industry, especially given where fuel prices are now, you might say that this was the last thing they needed.

The truly good news for consumers is that had the Supreme Court ruled in EPSA's favor, electricity prices could have risen by tens of billions of dollars. Also those higher prices might have provided the economic inducement to build more fossil fueled power stations at considerable cost. It was our belief that these plants, had they been built, might soon have been rendered economically irrelevant by a combination of ongoing weak demand for power coupled with an unrelenting loss of market share to renewable energy competitors.

Taking DR out of our power markets in a meaningful way might also have increased the fragility of our electrical network. One beneficial characteristic of DR is that it reduces power demand on the grid precisely at those moments when system resources are most stretched.

Weakening demand is already a major problem for U.S. power generation companies. The only hope for these entities, barring a resurgence in demand, is to raise prices ever higher to cover their considerable fixed costs. This self-annihilating business model, continued price increases for a shrinking customer base, is what's referred to as the "death spiral" in the electricity business. Related: Moody’s Ponders Credit Downgrades for 120 Energy Companies

EPSA's case at the Supreme Court came as no surprise. Other businesses, facing a steep decline in customers and product usage, have attempted to squeeze some residual value from an aging product line and its captive customers. But for large wholesale power users like steel mills and supermarket chains DR now offers the prospect of a continued, dramatic decline in power prices.

Unfortunately for power generators the opposite is true. As DR continues to be adopted throughout their systems, revenues and profits will inevitably nosedive. We believe EPSA and the power generators brought this case because they saw it as a way to prevent the proverbial "camel" of competition from pushing it nose too far under the tent. Unfortunately for the power generators, this "camel" may prove to have a pretty big "nose".

At present, DR is a passive collective response to high-power prices. Appliances across the grid, Internet linked, can be programmed to "Just say no" to inordinately high power prices albeit typically for brief periods. But if we see widespread adoption of battery storage devices like Tesla's Powerwall then the electricity "game" suddenly gets new rules.

Battery storage devices, typically lithium-ion based at present, have the potential to permit heretofore passive electricity customers to become active sellers when the price is right. Hundreds of these devices, linked by software, are the equivalent of an electric power generating station but with a zero emissions environmental footprint. For the storage owning customer, instead of paying high power prices, they are now in a position to receive them instead. Longer-term this feat of technological jujitsu could wield a crushing blow to the U.S. power industry. This isn't the "death spiral". It's the Death Star. Related: Saudi Aramco Chairman Talks Oil Down

This U.S. Supreme Court decision represents yet another disappointment in an industry suffering from a seeming confluence of unfortunate circumstances. Very few people anticipated that growth in demand for electricity would approach zero. That natural gas prices would continue to decline in winter was another negative surprise.

Unfortunately natural gas sets the price for electricity in many U.S. power markets. But the biggest surprise has been the possibility that thousands of smart, internet-connected devices now have the ability to act in concert in real time. Electricity consumers are likely soon to respond to daily power price fluctuations the way they do in all other price sensitive situations: buy low and sell high.

The long-term trend in stock prices for U.S. power companies has been relentlessly negative. It's hard to see this U.S. Supreme Court decision doing much to change that bleak outlook. We eagerly await the verdict of the markets both stocks and bonds as well as the rating agencies.

By William Tilles and Leonard Hyman for Oilprice.com

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  • Dan on January 28 2016 said:
    The Warren Buffet owned Nevada utility monopoly NV Energy made a huge mistake by deciding to side against solar using blatantly unjustified fees which caused installers to leave the state. This article points out the direction of the industry. Renewables are here to stay and NV Energy has made everyone who is aware angry. They have an opportunity to build an advanced grid which the US and world could use as an example to follow but instead they have resorted to desperate underhanded methods, effectively extortion. The gigafactory is right in their backyard and they still haven't grasped that their business model needs to evole. Without some serious changes, individuals and microgrids will put them out of business... Someone needs to teach NV Energy how to do their jobs bc all they seem to know how to do is pay for politicians to sell out jobs in their state.

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