Utility Death Spiral and the Parallels Between Solar and Energy Efficiency

There has been a lot of buzz in the electric utility industry over the last several years about an impending death spiral related to the rapid rise of distributed solar. And, to be sure, there is anxiety in the industry about what it all could mean. That said, opportunities exist for utilities to more actively engage with solar in a way similar to how utilities made peace with energy efficiency (“EE”).

The so-called death spiral would result from utilities losing revenue due to the solar owner’s ability to replace utility-provided electricity with self-generated electricity. As regulated monopolies, utilities are allowed to seek cost recovery from ratepayers.  If customers are using less electricity (quantified in kilowatt-hours [kWh’s]), then the utility has to recover its fixed costs from a shrinking number of kilowatt-hours, causing rates to increase.  As rates increase, the solar investment because even more attractive, thus further reducing the available number of kilowatt-hours from which to recover costs, and so on. The outcome – utility death (i.e. bankruptcy).

As such, utilities have taken different positions with regard to solar. Some utilities, for example in Nevada and Arizona, have openly opposed solar installations, at least as long as the compensation solar owners receive for the excess kilowatt-hours their solar produces is the utility’s retail electricity rate (known as “net metering”). This compensation is particularly evident (and troublesome) when a solar owner (homeowner, business owner) produces more electricity with their solar than they are using and receive compensation from their utility at the retail rate they are paying for electricity.

For example, if as a homeowner my rate is $.15/kWh, and in a given month I produce more electricity with my solar than I consume (say it’s 500 kWh), then my utility bill for the month would show a credit of $75 ($0.15 * 500).  This is problematic for the utility because, if given the choice, the utility would not procure for its customers electricity at a cost of its retail rate ($0.15). Instead, it would prefer (and so, generally, would all its customers since the utility will seek to recover these higher costs from all ratepayers) to procure electricity at market rates, which are likely less than $.15/kWh.  Even the cost of so-called “utility-scale solar” (think, big arrays of solar fields on open land) can be considerably less than $.10/kWh (and frequently less than $.05/kWh) and, therefore, preferred by the utility to purchasing rooftop solar for $0.15/kWh.

Now, the utility is hard-pressed to oppose customers who want to install solar for the primary objectives of reducing their bill and being green. After all, utilities encourage these same customers to install energy efficient equipment (think rebates for LED bulbs), which basically has the same effect on the utility’s revenues (reduces them relative to electricity used by less efficient equipment). Energy efficiency programs at this point are fairly standard among utilities and are generally encouraged by utility regulators.

Not so many years ago, utilities were concerned about energy efficiency programs, seeing them as a drain on revenues.  The regulatory “best practice” summarized by ACEEE authors York and Kushler in their 2011 publication included facilitating program cost recovery and offering ‘throughput incentives’ (e.g. blunting effects from lost revenues) and actual earnings opportunities for investments in EE.  Some regulators approved these throughput incentives, but more were amenable to performance-based earnings opportunities (see article and map). These performance-based incentives were viewed as more palatable and had the double-benefit of aligning the utility’s financial self-interests with pursuit of energy efficiency. After all, why would a utility (without financial incentives) choose on its own to invest in energy efficiency if this meant reducing revenues on the primary product they sell? Of course, regulators might opt to order the utility to make the investments, whether the utility liked it or not.

The differences between energy efficiency and solar that underscore why solar is more of a threat include: 1) no such earnings mechanisms yet exist for solar, 2) it is impossible for customers to save so much electricity from energy efficiency that they will be net electricity producers [and, therefore, ‘net metering’ is not an issue], and 3) utilities in their heart of hearts do not truly believe that impacts from energy efficiency will be so great such that their revenues will take a dramatic hit [despite the hue and cry over lost revenues mentioned above]. Lately, though, flattening electricity use (prior to the rise of solar) is posing challenges to the third observation. Of course, if the observation is true, then this only increases utility anxiety about solar (double whammy).

But, is there a way that utilities can make peace with solar similar to how they made peace with EE? The strategies utilities can take fall into a few categories: regulatory fixes, opportunistic out-of-territory investments, and opportunistic in-territory investments. Which approach a utility pursues depends on a variety of factors, but the overall point is that distributed solar need not bring the utility to its knees.  For now (before a future blog entry details the possible approaches), here are a few articles with proposed solutions.