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Finance & Investment Market view The future of energy utilities Electricity companies need to re-examine their business models and evolve into organisations able to compete in the modern world, say Kirsty Ingham and Nick White. M arket conditions in the energy utility sector in Europe are the most challenging in living memory. The centralised, integrated giants, which emerged from waves of central planning and international consolidation, see their historical business model challenged by competition, political initiatives, regulation and structural changes. Technological change has created additional challenges in areas such as smart meters, micro-generation and distributed generation. However, challenges can stimulate innovation. Utilities have the opportunity to use the current crisis to reinvent themselves, innovating in technologies, products, services and business models to fundamentally change the value proposition they offer. The attraction of the traditional verticallyintegrated electricity utility, for example, based on large centralised power plants (coal, lignite, nuclear, gas) seems low today. Eurelectric reports that the profit pool in conventional generation fell by 10 per cent between 2011 and 2012, while decentralised generation capacity grew significantly in the past decade. The combined market value of Eon and RWE, two of the largest conventional generators in Europe, has fallen 76 per cent since 2008. A return to the market conditions of that high point seems unlikely. The Fukushima nuclear accident in Japan (and its attendant regulatory consequences), the economic crisis, the difficulties of new nuclear plants (in cost and schedule terms) have all taken their toll on industry participants' appetite to invest. In considering new business models, utilities need to review the appropriate blend of capital-intensive assets versus asset-light activities such as energy trading and retailing. It is quite possible that there will be a new round of "disintermediation" within the industry, with companies moving beyond the traditional vertically-integrated utility model to one of a number of more specialist niches, focusing on activities they can perform well, while partnering or making acquisitions to help reach their strategic goals. Decentralised Virtual customer Devices plus Centralised Traditional utility Asset Serviced home Price packaging Customer There are two key dimensions that will define the future strategic positioning of energy utilities. The first is "centralised versus decenralised generation". Will companies retain a focus on large, centralised generation assets or move to a mix of decentralised technologies? The second is "asset focus versus customer focus". Will energy utilities continue to focus on "upstream" generation and distribution of power using traditional assets, or move to a customer-focused business where energy supply is only one of a suite of services provided? Within this framework we see at least four potential approaches. Devices plus. Expand the current offering to include device manufacture supply, service and control – that is, take direct control of smart grid and home elements, giving greater control and allowing better value capture. Price packaging. Move from a commoditised charge per kilowatt-hour model to a telecoms-like fee-for-access model (monthly charge) based on tailored packages depending on the needs and demand profile of the customer (flexible user, high energy power user, weekend user and so on). Virtual generator. Mixed model "virtual power plant" generators, coupled into smart grid – embrace rather than fight de-centralisation and couple diversified generation assets with smart grid and home devices to create district level automated power communities. Serviced home. Customer-centric packaged home services provider. This is an ambitious sideways expansion into the provision of entertainment, security and monitoring services; moving into domains traditionally associated with telecoms and entertainment companies. Reacting to the changes in the market, energy utilities have already begun to evolve their business models and adapt to the new realities. Across Europe some companies such as Eon and Centrica are moving to a position themselves as "customer-centric" champions. They see their future as being trusted suppliers of a package of essential services for household customers. In addition to traditional service offerings, such as heat and power, they are offering home security, equipment maintenance contracts, plumbing services, etc. They are reducing the capital intensity of their business, preferring to invest in value-adding assets such as smart meters and other means of getting closer to their customers. The data from smart metering should, if managed and analysed well, allow utilities to understand their customers much better and target products and offers more successfully. On the generation side, change to the decentralised model involves a major shift in philosophy and technology deployment, since in the decentralised world a utility must act as a partner, co-ordinator and supporter of numerous localised networks of distributed generation, which may or may not be linked to the wider grid. Further, the relationship with the consumer also changes significantly, since the flow of energy becomes two-way with the utility no longer in sole control. As a priority, energy utilities need to think about how they will strategically position themselves in the new reality, and take the necessary actions to make that change a success. Kirsty Ingham is a principal and Nick White a managing partner at Arthur D Little UTILITY WEEK | 17th - 23rd January 2014 | 21