Why U.S. utilities will always be rinky-dink (and why that’s bad for the smart grid market)

There have been five major utility transactions this year:

·         Allegheny Energy merging with First Energy

·         PP&L purchasing E.ON's Kentucky utilities

·         RRI Energy merging with Mirant

·         Blackstone's purchase of Dynegy

·         (most recently) Northeast Utilities merging with NSTAR

Are we moving into an era of rapid-fire utility mergers and acquisitions? Will the utility sector finally consolidate? Will we finally see the economies of scale that have benefited so many other industries?

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No. And that is unfortunate for the smart grid market. To get all the hoped-for innovation, we need big utilities that can provide access to big markets.

Some pundits have been predicting more mergers ever since the 2005-2006 repeal of the Public Utility Holding Companies Act (PUHCA). But talk to the experts and you discover they don't expect major consolidation. Even though the restrictions have been eased, they say, a major impediment remains: State regulators.

For instance, Oppenheimer analyst Shelby Tucker warns clients that regulators typically:

·         Disallow recovery of any share price premiums paid to acquire a company

·         Extract concessions for ratepayers in return for approval

·         Distrust out-of-state buyers

·         Block many potential synergies and business efficiencies in the name of protecting their constituents

Even when mergers make it past the regulators, the combined organization is stuck with the nightmare of managing multiple rate cases and multiple regulations across multiple jurisdictions.

In theory, consolidation would be a good thing for the smart grid market. It would bring more economies of scale, more standardization, more interoperability, and bigger markets.

It is the market size issue that many smart grid observers ignore. (I have been guilty myself.) For instance, some analysts predict an "apps store" for energy, filled with thousands of Internet style applications.

.

Too many utilities, too few customers  

But to get thousands of apps you need thousands of developers. And developers don't put effort into a market unless they can reach millions and millions of potential buyers. But here's the rub – America’s 310 million citizens are served by more than 3,000 different utilities. Even the largest of those utilities has only a few million users. By contrast, companies such as Verizon, Google, and Walmart have tens or even hundreds of millions of customers.

If you look at other large industries you see the problem. The U.S. cellular market has fewer than 10 major carriers. The U.S. automobile industry has… I don’t know… let’s say 30 major players. The U.S. electric power industry has 3,000+ different utilities. If you assume that all three industries serve the same 310 million Americans, then the “average” market size is 31 million for cellular, 10 million for automobile, and a puny 103,000 plus change for electric power.

Developers won’t migrate to the smart grid until they can get to big markets. But users won’t migrate to the smart grid until it has more applications. But developers won’t build more apps until they can get to big markets… and around and around we go.

One way around this conundrum is for utilities to adopt a common technology platform, the way PC manufacturers once adopted DOS and later Windows. Or the way the Android platform lets developers target people using any of the major carriers. The platform concept is finally a topic of discussion in our industry, but progress is slow and piecemeal.

I am seeing more and more discussion about major changes to the regulatory compact, from thought leaders such as Ralph Cavanaugh and Kurt Yeager, to federal agencies, to utility commissioners themselves. As policymakers think through the options, I hope they will realize that one of the best things they could do is free up utilities to get bigger. Creating a bigger smart grid market will be a magnet that attracts the innovation and entrepreneurial effort our sector badly needs.

You may also want to read …

Reinventing competitive procurement of electricity resources

Smart power business models for a smarter grid

Why today's utilities may soon be obsolete (what what may replace them)

Smart grid futures: Why failing to create a shared long-term vision is already costing us

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