Own-generation changes the business model for municipalities

July 14th, 2016, Published in Articles: Energize

 

In order to execute on their mandate of procuring and selling electricity in a cost effective and safe manner, municipalities need to remain viable by protecting their revenue income in the face of increasing own-generation schemes. To achieve this, municipalities may have to revise the business models they have used for many years and introduce some fundamental changes.

Vally Padayachee

Vally Padayachee

It is a well-known fact that one of the greatest challenges facing the South African economy includes an unstable electricity supply. The South African electricity supply curve has for many decades followed the GDP curve. Recently the GDP has reduced significantly with the unstable power supply being one of the main causes.

A poor power generation and delivery infrastructure has further exacerbated this challenge. The problem worsened to the extent that since 2008 South Africa has experienced the dreaded “load shedding crisis” – although Eskom recently stated that load shedding is now a thing of the past.

Hence it is widely accepted that the availability of reliable and “cheap” or cost-effective electricity plays a significant and critical role in economic development. It is therefore imperative that in order to maintain a reasonably “upbeat” economy and quality of life, we need access to affordable and safe power at all times. We must not forget that in many municipalities poor electricity service delivery has led to protests by affected communities which has, in some cases, led to violent clashes, serious injury, deaths, and damage to infrastructure.

It has been suggested that Stage 1 load shedding, which removes 1 GW of load from the grid, if imposed for 200 hours a month, would cost the economy
R20-billion. Stage 2, which removes 2 GW, would cost R40-billion if imposed for the same period of time; and Stage 3 (4 GW load removal) would cost R80-billion over the same period. These figures are based on an unserved energy cost of R100/kWh.

From a power delivery infrastructure design perspective, the power sector has remained fairly stable and unchanged for centuries – with generation, transmission and distribution remaining vertically integrated and customers having very little choice in the quality and choice of the electricity they received. Historically, energy management and energy efficiency was not a priority because electricity in South Africa was relatively inexpensive. It can no longer be considered to be so, given the recent tariff increases which are being granted to Eskom.

However, due to the installation of distributed generation and renewable energy technologies such as solar and wind, advances in technology, and more competition (which in turn has given customers more choices), the electricity industry is evolving in the delivery and retail of power.

Although there seems to be no clear-cut direction as to what shape or form this evolution will take, there is a realisation that we are on the edge of a massive change in respect to business models at the municipal power generation and distribution level.

In the recent past, there has been a significant penetration or proliferation of distributed generation renewable energies in the generation mix due mainly to:

  • Good pricing incentive schemes
  • Cost effective renewable technologies especially solar and wind that is now able to compete with so called “dirty power”.
  • Grid parity

Furthermore, in a number of areas in South Africas, there has been a significant increase in the installation of so-called small scale embedded generation (SSEG) technologies, especially solar photovoltaic (PV) rooftop installations for self-generation.

This increased proliferation of SSEG has become a significant cause for concern to municipalities because it eats into their revenues. This situation is not sustainable and cannot be allowed to continue because almost all municipalities rely on the revenue collected from the provision of electricity services to cross-subsidise other municipal services such as roads, parks and gardens, etc.

The way power companies respond to the aforementioned will, according to Deloitte, depend on where these power companies operate, their regulatory environment, the structure of their portfolio of assets, evolving customer demands, their economic maturity and the level of technology adoption they require.

To succeed, the utility of the future will transform into that of an energy-services company that enables effective energy solutions defined by high-quality service standards. This, however, will require a major transformation of municipal business and operating models.

In short, today’s utility model is outdated – struggling to meet customer needs while maintaining acceptable shareholder returns.

Various municipalities are also grappling with this challenge of revenue erosion due to the ingress of distributed generation sources by end users. The Association of Municipal Electricity Utilities of Southern African (AMEU) is working very closely with various municipalities and other stakeholders in trying to address these challenges.

Addressing these challenges is not an easy task given that the various municipalities that distribute power also operate in a highly regulated environment and have to adhere to a number of legislative requirements.

The fundamental question facing municipalities is how they can reliably and sustainably meet the energy needs of all their customers considering the changing landscape of energy resources, technology developments and price trends.

By definition disruptive forces create both risks and opportunities.  The key to a successful transition is to identify appropriate and suitable opportunities and implement proactively.

A major unintended consequence is that with more and more end users wanting to self-generate for their own use, the aspect of cross-subsidisation of poor customers is also being negatively affected. This could result in tariffs having to be increased to protect existing revenues. To reduce the impact of this situation, utilities are seriously looking at revising and/or realigning their respective operations and business models.

To date, the traditional model for municipalities which distribute electricity has been to operate as a wires-and-retail business with very little flexibility. Most of these distributors are forced to purchase “dirty power” from Eskom through a typical electricity energy purchase model.

Some municipalities, in an attempt to get around the energy mix constraint issue and to address the revenue erosion challenge, while encouraging the use of “green energy”, are considering the possible migration to an energy services utility business model.

As an energy services utility with a strong focus on distributed generation, it can offer its customers electricity generated from alternative energies such as gas and renewable sources.

Typically an energy services model would be based on the utilisation of the network (wires) as an asset; diversification of energy sources; use of the grid to trade electricity, and the provision of other services to customers to negate anticipated revenue losses.

In the furtherance of this model, a municipal power distribution utility can choose to own its renewable energy generation assets if it makes business sense without affecting its electricity service delivery mandate as a service authority. In so doing, the municipality would demonstrate its support of the use of green energy.

I believe municipal distribution utilities will need to seriously explore this route to protect their revenue while investors make plans to roll out SSEG on a massive scale. It may be prudent for municipalities to consider partnering with such investors which could result in the protection and/or increase of their income.

It is probably not going to be too long before net-metering is introduced, enabling SSEGs to sell excess power onto the grid.

I am convinced that municipalities will need to change their operating and business models to remain economically viable.

Send your comments to energize@ee.co.za

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