Balancing Essential Utility Infrastructure Investment with Customer Affordability

Electric utilities are entering an era of growing investment opportunities following a decade of low load growth. However, there is increasing evidence that regulators are growing more concerned about the impact on customer rates and looking for opportunities to moderate the growth in utility investment and associated rate increases. As a result, it is increasingly critical for utilities to demonstrate both the necessity for near-term investment needed to meet anticipated load growth and clean energy requirements, and voluntary targets. It is equally critical to clearly demonstrate the benefits of utility ownership of generation versus third-party ownership.

Outages associated with severe weather patterns are also creating pressure to prioritize grid resiliency relative to enhancements to support the clean energy transition. Resiliency has a direct, positive impact on grid performance and customer satisfaction but typically requires a large capital expenditure (CapEx) investment to provide an immediate benefit. Utilities need to be more detailed in quantifying the benefits of the proposed CapEx and justifying both the necessity and that the utility is putting forth the least-costly solution. Given capital constraints it is also critical to have a clearly articulated approach and transparent process to prioritizing needs and identifying which investments have critical timing drivers. Finally, an additional element of addressing customer affordability is ensuring that the utility is maximizing the benefits available from federal programs.

Recent industry increases in CapEx spending have significantly exceeded load growth creating upward rate pressure, which is anticipated to continue, creating record rate increase requests. PA Consulting’s forecasts indicate that on average across the U.S. there will be 11.5% load growth over the next decade, with some utilities experiencing much more load growth than the average. However, investor-owned utility CapEx increased on the order of 19% between 2023 and 2022, and CapEx is expected to keep increasing with CapEx exceeding depreciation by more than 160% based upon a recent analysis by Regulatory Research Associates.

A challenge for utilities is that load growth will accelerate over the coming decade, but infrastructure investment is needed soon to meet the anticipated load growth. In our modeling of load growth within utility strategic planning, and merger and acquisition (M&A) work, we have found that load growth can offset a significant portion of the rate impact in the long run. However, in the near-term, impacts can be significant and the risk that the load growth will occur depends on the type of load growth, for example, large block loads such as data centers and hydrogen production versus electrification of transportation, buildings, and industrial processes. While rate base growth is usually preferable, exploring third-party ownership of generation may offer increased flexibility to structure cost recovery to mitigate near-term rate impacts, even if it limits long-term benefits for customers. Third-party ownership also transfers construction and operational risk to a third party versus utility customers.

Electric utilities should not have a singular response to addressing CapEx needs driven by load growth, but instead should consider:

Transportation Electrification. It is essential to fully evaluate the potential benefits of load management to mitigate investment in new generation and delivery infrastructure.

Residential Building Electrification. While heat pumps will add load, the benefits of replacing electric resistance space and water heating with heat pumps needs to be incorporated into the analysis.

Data Centers. In some cases, and some projects, it may make sense to transfer the demand risk to third parties.

Industrial Decarbonization. Developing specific rates with risk mitigation measures to address new loads from electrification or replacing customer-owned fossil generation with dedicated utility renewable generation.

For utility-owned resources, it is critical that the utility demonstrate to regulators the economic benefits of long-term site and operational control, as well as maximizing the benefits of existing assets. Long-term site control value should include the optionality to repower and reuse assets and transmission interconnections as technology and policy evolve. Incorporating the value of operational flexibility should capture the savings from avoiding the cost of minimum off-take requirements in periods of low demand and wholesale prices. As renewable generation increases, the risk of excess generation and the associated need for curtailment also increases, which can often result in customers paying for power that is not needed. Finally, exploiting brownfield opportunities to lower costs is critical to compete against large third-party bidders.

Other challenges to utility ownership can include third-party developers having an advantage on financing leverage, and potentially less friction in monetizing tax credits associated with investments in renewable generation and storage. To successfully compete on capital cost, utilities need to take advantage of all sources of federal support in order to be competitive with third-party investment including funding available under the Department of Energy (DOE) Loan Programs Office (LPO), incentives under the Inflation Reduction Act (IRA), and the Infrastructure Investment and Jobs Act (IIJA). These funding sources are not limitless and may be in question following the 2024 election cycle.

The DOE LPO already has 205 active applications and requests for almost $263 billion of loan support. The total funding authorized for the LPO is more than $400 billion with specific program targets contained within the total authority including up to $250 billion for the Energy Infrastructure Reinvestment program, which is targeted toward utilities seeking to retool, repower, and replace energy infrastructure that has ceased to operate or avoids/reduces greenhouse gas emissions. While we remain in an inflationary environment, the availability of this low-cost debt creates a vehicle for utilities to plan for and execute capital-intensive projects on an accelerated timeline, all while keeping an eye toward customer affordability.

Jim Heidell is an energy and utilities expert at PA Consulting.

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