Energy #25 – “Innovation”

At the end of November the Ontario Energy Board released the report of the Advisory Committee on Innovation.  This committee has apparently been working feverishly (and in secret) to develop proposals to assist the OEB in making innovation by utilities a real “thing”.

Where should we begin?  Oh, my goodness, this is truly a bad one.

Let’s start with the composition of this committee.

As is so often the case, the OEB decided that the best way to get input on policy is to start with what the utilities want, so they set up a committee that is mainly utility executives and their consultants.  No customers at all.  The OEB doesn’t seem to get it that the customers – who pay for everything (including the OEB) – should always be at the table.

But that’s old news, and clearly not the worst problem here.  No, the worst problem is that the advisory committee on innovation is sorely lacking in people who know anything about…(wait for it)…innovation.  Two have some innovation experience – from MarS and from Spark Power – but in both cases their near term goals are presumably to build partnerships with utilities.  Neither could be expected to leap wholeheartedly into advising the utilities how to become more innovative themselves.  (No criticism of them.  They have jobs to do too.)

Of course, if you want to talk about utilities and innovation, you have to have some people in the room who know about utilities.  If you have too many, though, then the logical thing to do is get some experts on innovation and bring them into the room as well.  Have them engage the utility people, so that some interplay of ideas can arise.

I’ve written about innovation by utilities before.  It’s a difficult concept for them, because frankly it’s just not in their DNA.  Running a utility is about operational excellence and avoidance of risk.  Many in utility management are very good at that.  Taking chances is not a personality trait routinely sought in utility executives, and for good reason.

On the other hand, utilities – despite their monopoly status and therefore protection from most market forces – still face challenges.  Some of those are external, like continuing expansion of distributed energy resources (aka DER), and some are internal, like finding new ways to keep costs down.  Utility innovation to tackle those and other such issues could help them, and help their customers.

Happily, utilities aren’t the only “old economy” businesses that need to find ways to be innovative.  Many more traditional companies have been faced with pressures to adapt to changing competition, changing markets, and changing customer expectations.  Some have even been successful.

This is not a wheel that needs to be reinvented.

So, did the Advisory Committee on Innovation seek help from people who have been through that process?  There are experts in change management whose whole careers have been spent helping traditional companies adapt and become more innovative.  Many of those experts specialize in exactly the types of problems being faced by Ontario utilities: how to help a “stick to your knitting” company respond to change.

The meeting materials for the eight meetings of this committee are posted online.  They tell who was there, what was discussed, and similar things.  Unless there were other things discussed which have not been made public (perish the thought), they tell a pretty clear story.  There were no external experts in innovation brought in to assist.  Even the experts chosen to assist the committee are utility regulation experts, not innovation experts.  As if they needed more utility regulation knowledge in the room.

So, if you didn’t want to go to the international experts, how about tapping some of your own customers?  (Remember the customers?)  Do you think that between the members of the Association of Major Power Consumers of Ontario (AMPCO, the big electricity users), or the Industrial Gas Users Association (IGUA, the big gas users), or Canadian Manufacturers and Exporters (CME, the manufacturing companies), they couldn’t have offered some of their own senior executives who have led change management, new product development, and innovation strategies within traditional companies?  People with real experience?

Did anyone even ask?

The fact is that the committee selected by the OEB to advise on innovation was replete with risk-averse utility executives and consultants with no experience leading innovation initiatives in old economy companies.  None.  Zero.  (You can’t make this stuff up.)

Of course, NONE OF THAT REALLY MATTERS, because it turns out the committee didn’t talk about innovation anyway, and they certainly made no recommendations about how to actually make utilities more innovative.

What the committee talked about is updating the basic regulatory structure for Ontario utilities – called the Renewed Regulatory Framework – which has been in use now for about five years.

It is hard to know whether the focus on the RRF, rather than on innovation, was because the committee members hijacked the agenda, or because that was intended by the OEB all along.   If you look at the slides for the very first meeting, much of the focus is on the RRF, and on alternatives to the RRF (e.g. in California, Great Britain, New York).  The slides were prepared by the OEB for presentation to the committee, so there is at least some sense that the RRF emphasis was driven by the OEB.  On the other hand, the OEB might have intended those slides to be context only, not realizing that the committee members would talk about virtually nothing else.

The RRF discussion was in fact nominally couched in the innovation context.  The main question asked at the first meeting – and the motif throughout all of the rest of the meetings – was “Are we compensating the utilities the right way?”  That is, does the regulatory construct that forces utilities to spend on capital in order to get profits the right approach in today’s environment?  How can utilities be innovative if they can only make money by capital investments?  Many of the most innovative approaches to the future and to changing markets will not be capital intensive, and, if successful, will not even be high spending activities.

Thus, the committee engaged in lots of blather about alternative approaches to compensating utilities: i.e. alternative methods of generating utility profits.

Sadly, almost all of those compensation models were based exclusively on spending.  Whether the spending was capital costs, operating costs, or both (TOTEX – the UK model), the underlying assumption of most was that profits would be some percentage of spending.  “If you want to increase your profits, spend more money”.

Don’t utilities or the regulator realize that incenting companies to spend more money is contrary to the interests of the customers?  In the competitive markets, are profits primarily or exclusively based on spending more money?  No?  Then, why would that be the case for monopoly companies?  Duh.

That’s one of the reasons why it is useful to have customers in the room when you are having these discussions.

Quite predictably, given the constitution of the committee and the initial theme of revising the regulatory model (rather than enabling innovation), the committee came back to three themes that utilities have been harping on for years (in all contexts):

  • Less Regulation. Lighten up on the regulatory process.  Make more things prescriptive, without any public review of what we’re actually doing.  Reduce the time and effort spent proctoscoping our budgets, and forecasts, and profits.  Trust us more, and regulate us less.  
  • Expand the Scope of our Regulated Business. Let us participate in more competitive markets, using customer money, and trading on the utility brand.  Allow us to use our downside risk protection to gain an unfair advantage over truly innovative companies that are offering new solutions for our customers (and risking their own investors’ money to do it).  Further, give us powers to limit the freedom of those competitors, using the pretext of our “responsibility to manage our system”.  Make it easier for us to increase our profits and hobble our competitors, without increasing our risk.
  • Give Us More Customer Money to Spend. Set up an innovation pool of customer money that we can spend on projects that we think will improve our businesses.  Allow us to capitalize certain operating expenses (like conservation spending), so that the immediate impact to customers is lower, and we can leverage that reduction to get more customer money to spend now.  (The customers will simply pay it later.)  Further, allow us to earn profits on that spending today.

It’s funny.  None of that seems to involve benefiting the customers.  All of it seems to involve benefiting the utilities and their shareholders, or reducing their risks from distributed energy resources and other external threats.

So is less regulation good for the customers?  Well, the utilities would call it “more efficient” regulation, but that is really code for “if you tell us the rules, and then look the other way, we can game them”.

Do you really want to make regulation more efficient?  File rate applications that don’t seek rate increases two or three times the rate of inflation.  Stop paying external “hired gun” lawyers and consultants $800-$1500 an hour – out of customer dollars – to support your high rate increases.  Stop lobbying the government and the regulator for changes that benefit your business (also using customer money).

Expanding your regulated scope of business?  How does it benefit customers to allow you to compete against companies that are already subject to competitive pressures?  Do you, utility management, have experience in competitive markets?  No?  Well, then why are you going to be successful at it, using our money?  That can only be if you are allowed to trade on the lower risk, and on the utility brand, i.e. compete unfairly.

The effect on the market is to stifle innovation, not increase it.

You can compete in those markets right now.  You just have to do it through affiliates, using investor dollars rather than customer dollars.  The reason you don’t is because, on a level playing field, for the most part you can’t succeed in the competitive markets.  (Yes, yes, I know there are some exceptions.  Good for them.  Those exceptions are not Toronto Hydro, Alectra, Hydro One, or even Enbridge.  Sorry.)

And then you want the regulator to give you more of our money to spend?  Let’s just unpack that.  You want customers to invest in your adoption of innovation.  But, you don’t have that expertise, and you have taken no steps to develop it.  You don’t have any proposals, and you have done nothing to even generally sketch out where you’re going.

Like any investor funding innovation, the customers will say:  “Show us your business plan, and show us that you have the right people to execute it.”

What?  No plan?  No people?  No problem.  How much do you want?

What is this – the dot-com bubble?

There are legitimate challenges facing the traditional regulated energy companies.  For wires and pipes companies, there is a very real question whether they will still be needed in the future, or if so whether they will have the same role as today.  It is fair for them to ask whether, if they invest in assets now, that money will turn into stranded assets in the not-too-distant future.  For some regulated generators, it is at least doubtful if their generation will be needed for the full thirty or forty year amortization of their investment.

But that money the regulated companies are investing today is customer money, and you can be damned sure that, if assets are stranded, it will be the customers (or the taxpayers, much the same thing) that end up bearing those costs.  Remember Ontario Hydro?  Who’s paying for that mess?

So let’s take the discussion back to innovation.  Just a reminder:  the committee was the Advisory Committee on Innovation.

Here are some of the things we should have seen, and didn’t:

  • Narrower Monopoly Scope. What aspects of the utility business are no longer natural monopolies, or can be altered so that they become truly competitive?  Is customer care really a monopoly function?  Take that a step further.  Maybe the whole last mile can be competitive, with market-driven companies competing for the business of the customers (perhaps packaging connection, customer care, and metering with self-generation, efficiency, and storage), and utilities having a narrower role as common carriers only.  Maybe if we want innovation, we unleash the power of competition to drive it, as so many other sectors have in the past.
  • Learning from Telecom. This is not the first time a utility business has faced fundamental change, and had to adapt.  Telecom, and before that railroads, were regulated monopolies.  Why has the OEB not commissioned studies of how those changes happened, and what we can learn (good and bad) that could be applicable to regulated energy companies?  You know that there are people who have studied those historical evolutions ad nauseam, right?  It seems like energy regulation is starting from scratch.  Why is that even necessary?
  • Competition for Service Territories. Is there some reason that the LDC in, say, Burlington has the absolute right to serve new customers within its current geographic area?  Why can’t new entrants compete to provide service to those customers?  Indeed, why can’t existing LDCs bid to take over part of an existing service territory of another LDC if they can serve it at a lower cost?  Why do customers have to continue to suffer with Hydro One, when another LDC can do a better job, for less?  It is at least conceivable that allowing some healthy competition for service territories would encourage companies to be more innovative, whether by improving their service offerings, or reducing their costs, or responding in other ways more directly to customer preferences.
  • Utility Innovation Plan. Generally, in the business world, before you go asking for something, you have to have a plan.  It is shocking that not one of the Ontario utilities has, on their own dime, brought together external experts and their own resources to develop an innovation master plan for their company that can be considered by the regulator.  If they seriously want to become innovative (spoiler alert – they don’t), then shouldn’t they do their homework before asking for money?  Don’t say “change the rules so we can innovate”.  Say: “Here’s a plan that can benefit our customers.  We have recruited the people to deliver it, and we are willing to take some risks.  These are the regulatory actions needed to allow that plan to go ahead.”
  • Customer Consultation. More important than all of those things, though, the OEB should have started the process by convening a group of customers to advise it.  The OEB should have said to that committee:

“You are faced with changing offerings in the market.  You are at risk of being saddled with enormous stranded costs.  The utilities are not always responding in ways that protect you, and innovation is sorely lacking.  How should we change the regulatory system so that you are better protected, and the utilities are incented to act more in line with your interests?”     

This whole exercise is about the customers.  They are the ones really at risk, and the ones who will ultimately pay for any regulatory mistakes.  A regulator that is appropriately focused on the customers – whose interests it is there to protect – would start by looking at how the customers are at risk, and what options are available to protect them.  And, it would do that in partnership with those very same customers.

The Advisory Committee on Innovation appears to have been – at least so far – a failure.  The committee was made up of people with little knowledge of innovation, who didn’t in fact talk about innovation, and didn’t ever focus on the interests of the customers.  The OEB took the wrong approach, and it shows.

Perhaps the subsequent consultation planned by the OEB will rectify those shortcomings.  (We can only dream.)

Sadly, that is not the likely outcome.  The OEB appears to have already telegraphed its agenda:  Modify the regulatory structure to favour the utilities even more, and make the customers pay for it.

Oh, and by the way, that’s not going to involve any innovation, it seems.

   –   Jay Shepherd, December 24, 2018

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About Jay Shepherd

Jay Shepherd is a Toronto lawyer and writer. This site includes a series on energy issues, plus some random non-fiction on matters of interest. More important, it includes the Lives series, which bridge the gap between fiction and non-fiction, and now some short stories. Fiction is where I'm going, but not everything you want to say fits one form. I am not spending any time actively marketing what I write, but by all means feel free to share if you think others would enjoy reading this stuff.
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4 Responses to Energy #25 – “Innovation”

  1. Sharron Curley says:

    A good read. Strange actions and decisions by the OEB. Our utility PDI (Peterborough) MAAD application underway. Any hope for it to be denied I wonder. Keep up the good fight.

    Liked by 1 person

    • Jay Shepherd says:

      Thanks. I am engrossed in the H1/Peterborough application as we speak. We keep pushing back on the least cost-effective utility in the province buying others (like Peterborough). We had some success with Orillia, although Hydro One keeps coming back. I guess we’ll see.

      Like

  2. Steven Dyck says:

    Wow!

    Utilities have captured the regulator! Your analysis is compelling and it seems that there is no path to address the problem. We have seen Ontario’s grid become a political target – Green Energy programme now that RE provide low cost solutions OEB is not facilitating RE and now a Fair Hydro Rate funded by tax payers.

    It seems the OEB needs new leadership. While the OEB needs to be protected from political meddling it appears to have lost credibility.

    Liked by 1 person

  3. Jay, Nicely said. Reflects badly on the OEB’s planning process, if they actually have one.

    Liked by 1 person

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