By Kathleen Davis, Associate Editor
By no means is the U.S. electric utility industry poised at the starting gate of equal opportunity retail competition. In fact, America hasn’t even approached that gate; as a jury-rigged circuit of differing legislation-both pending and lacking-and problematic distribution networks, the utility industry is still training for that market race, awaiting the moment when it rounds the corner and finds that starting gate in full view.
According to Taff Tschamler, senior manager of market and regulatory strategy for energy consultants XENERGY, a mere handful of states seem to be working efficiently toward making their markets attractive-attractive enough to line up lean and hungry competitors. In an interview with EL&P, he cited Pennsylvania, New York, New Jersey, Illinois and Maine as showing the most activity in the retail arena.
“The markets there are designed to allow the suppliers to make money and customers to save money. That’s the bottom line,” Tschamler said.
But, compared to the overall 51 states of this democracy, with more than 20 embroiled in or considering deregulation, five standouts seems like a very low return. Of course, very few of those still enmeshed in the process of deregulation have thrown open the doors to competition. So far, activity in that area has been restricted to California, Connecticut, Illinois, Massachusetts, Maryland, Maine, New Jersey, New York, Ohio, Pennsylvania and Rhode Island. (See Table 1.) New Hampshire, Virginia, Delaware, Montana and Arizona have opened partially, but no switching statistics were available. So, what lessons can the remaining seven states learn from these five shining stars? Lesson one: It’s all about the money.
Tschamler pointed to one underlying structural foundation as the major factor contributing to those five markets leading the pack: Those customers who stay behind-who simply choose not to choose a supplier-do not get an automatically low rate. Period.
“The fundamental reason why suppliers in some of these states have been able to make money-although no one is making a lot of money-is default service pricing; it’s a fundamental market design issue for retail markets in the U.S.,” Tschamler stated.
“It explains what’s happening in California; it explains why Pennsylvania has seen the most switching and significant benefits for its population,” he added.
The problematic states like California, Massachusetts and Rhode Island continue to have default pricing that does not allow retailers to come in and offer savings. This, in turn, stirs neither residential nor business customers into action, according to Tschamler. And if there is no incentive to invest time and effort to research options for that switch to a new energy retailer, there will be no switch. Default service pricing then becomes an obstacle to retailers rather than a safety net.
“If customers are allowed to stay with the utility at a good price, there’s no market because customers don’t want to switch,” he stated. “They need to be enticed with a significantly better offer.”
Still edging toward the black
But don’t let the positive qualities of those five state standouts muddy the waters. The smell of profit is yet to waft through the industry-even in those more appeal-ing markets.
“For the most part, suppliers have been losing lots of money,” Tschamler admitted. “We’re not aware of any retail company that’s reported sustained profits in the business.”
“Not a single one in the commodity business,” he added with emphasis. “Gross margins for some are positive, but there’s not a single company that we’ve seen-and we haven’t seen information on all of them because some are privately held-but, of the ones who have reported publicly, they have reported losses on their retail commodities business.”
Tschamler breaks this trend down into two problems: First, there’s the nasty hurdle of start-up costs, and, second, there’s the all too cumbersome fact that this utility market is a difficult one in which to operate. PG&E Energy Services poured over $100 million into getting its electric retail arm off the ground only to pull out before the dawn of the new millenium, and even current high profile companies like Green Mountain Energy have invested close to $100 million to break into a retail market that seems to be barely limping along. PSEG Energy Technologies, AllEnergy, Select Energy, SCANA Energy, Columbia Energy Services and NewEnergy alike have all invested between $20 and $100 million in their dreams of a retail market. (See Table 2.) Enron, a major energy player, spent nearly $300 million in start up costs and has since pulled out of the residential market-although the company remains a major player on the commercial side.
And the gap between commercial and residential retailers is ever widening. It’s simply more profitable, on average, to serve industrial customers. According to XENERGY, most open states have seen a migration between 10 and 45 percent, on average, for industrial customers. (Table 1 shows Maine with a much higher number.) Residential customers, however, hover at or below five percent, with occasional exceptions like Pennsylvania. In that state, PECO and Duquesne seem to be making large headway.
“The Duquesne Light market is by far the leading market in terms of residential customers participationing in customer choice,” Tschamler stated.
But Duquesne is an anomaly. For the most part, residential falls by the wayside when confronted with the money-saving path of retailing geared toward commercial customers. From a profit-based perspective, those residential customers simply cannot stack up to the temptation of a steady industrial one; they cost too much. Tschamler estimates that each residential customer costs the supplier between $50 and $400 to simply acquire. Now, the revenue from that customer may be $500 to $1,000 annually, inching the return along at a snail’s pace.
“The economics are very difficult for the mass market business,” he said, estimating an annual profit from a single residential customer to be between $5 and $25. “And that’s why we’ve seen so many residential suppliers jump into the market and either pull back or drop out completely.” (See Table 3.) Even XENERGY themselves, Tschamler’s own company, has pulled out of the retail market.
The industrial markets-although not an especially high percentage either-have seen more activity than residential, with the exception of Maine. Commercial customers are inching toward nearly a third of the industrial load.
“In general what we’ve seen is a fairly significant chunk of load which switches, although it often doesn’t translate to many customers,” Tschamler concluded. “The biggest accounts usually go first.” (See Table 4.)
Examining the offers
This small opening of electricity arenas in a few states has seen a wealth of different types of retailers attempting to jostle for market position, even though customer apathy seems rampant on the residential side. Those retailers range from ones branding themselves as renewable and environmentally friendly like Green Mountain to those touting ease and Internet transactions like Utility.com and SmartEnergy.com. But, no matter what type of retailer the company is, they still have to play by the game master’s rules. And the game master in this case is the state.
“The one constant in all of this is that there is tremendous variation in how markets are designed,” Tschamler said. “The result is this very fragmented market.”
Such fragmentation has certainly slowed down the process of inter-market retailing, but it hasn’t stopped both suppliers and states from attempting to wade forward.
Of Tschamler’s five initial leaders (Pennsylvania, New York, Illinois, New Jersey and Maine), two are snuggled into the heart of the Pennsylvania-New Jersey-Maryland (PJM) power market, which has been getting more and more press as the shiny flipside to the California distribution network. Tschamler sees PJM’s higher default prices (determined state by state) and tighter more evolved power pool and Independent System Operator (ISO) as its top two attributes, contributing to Pennsylvania and New Jersey being included in the states showing the most retail activity.
“They have a system that allows more liquidity, more visibility for suppliers to procure power,” Tschamler stated. “That’s a big advantage for retailers.”
Comparing it to the East Central Area Reliability Coordination Agreement (ECAR) in the Midwest, Tschamler points out that PJM is simply more evolved than most; it requires less red tape.
“What they’ve been able to do with PJM is facilitate transactions better than most areas of the country,” he said, adding that PJM has also been more open to adjusting to the needs of their customers.
Tschamler sees PJM’s lessons as ones problematic markets like California should take to heart. Participants in PJM, however, are not the only states on the positive horizon for retail competition. Tschamler has named Texas retail’s new rising star. With 15,000 MW in construction and approximately 15,000 more planned, Texas is poised to open its doors to some of the leaders in the retail energy industry.
“I think the one market that really looks favorable, that in our estimation will rapidly evolve into a competitive market, is Texas,” he stated. “With the Texas market opening this summer in the form of a pilot, and then opening fully in 2002, I think that the California problems will no longer be in the spotlight, and market activity that everyone has been looking for will finally happen-in Texas.”
Texas has plans to make an affiliate of the utility responsible for default service, and customers with demand of more than one MW will not be guaranteed a fixed rate over the transition period. They will be required to make a choice. These are just a few of the positive changes consultants like XENERGY see in Texas.
Ohio, whose artificial requirements are attractive for retail to a certain extent according to Tschamler, claims second place underneath Texas in the list of states that retailers should keep a close watch on. While Virginia has a small pilot program now and will open in the 2002 to 2004 timeline, and New Hampshire is beginning to shake off the shackles of legal difficulties, Texas and Ohio still far outpace the pack.
Ranking the competitors
And, even though the profit margins have not soared quite yet, there are still leaders in this market. Specifically, Tschamler points to Green Mountain, New Power and up and coming Centrica as those to watch on the mass market side. NewEnergy leads the industrial arena, along with Enron, who chose to keep their commercial retail side after letting go of its attempts to break into the residential market.
“It’s still early in the game. So it may be a matter of who’s left standing,” Tschamler admitted when listing those at the forefront of the retail arena. He labeled Green Mountain as an innovator in branding themselves, while seeing New Power as having the capital and support to plow into the newly opened market. With Enron, AOL and IBM poised to help, New Power has the power, in a word.
“New Power is going to change quite a few of the markets out there for the better,” he said.
UK-based Centrica is the dark horse in this race, Tschamler pointed out. However, with their track record at home, Tschamler sees them as “poised to become a big time player.”
On the industrial side, Tschamler labeled New Energy a “pioneer,” laying out how effective the company has been in acquiring customers. XENERGY sees AES bringing a lot of financial discipline to New Energy following the acquisition. As far as Enron is concerned, Tschamler calls them a major force on the service side of the industry.
“Other players [who are leaders in the retail marketplace] are oftentimes regional affiliates of utilities-companies like Exelon and Allegheny Energy and Select Energy. They have led the pack in terms of customers acquisitions, these regional companies,” he stated.
But, these leaders may have to hang back and cool their heels a bit until the race is really ready for them.
“The markets are evolving slowly,” Tschamler lamented.
Taff Tschamler, senior manager of market and regulatory strategy for XENERGY, can be reached via phone (781-273-5700) or e-mail (firstname.lastname@example.org).