And so the Transformation of Electric Power Begins

Providence Metallizing Co. of Pawtucket, R.I., made industrial history last week when it bought electricity directly from New Energy Ventures, a power marketing company, instead of its local utility.

The transaction, for several million kilowatts of electricity, is no pilot project but the beginning of deregulated, competitive electricity sales in America.

New Energy Ventures, a Los Angeles-based 50-employee firm, didn’t send the electricity all the way from California. It bought it from Hydro-Quebec, the giant Canadian utility, and from Green Mountain Power, a Vermont electric company.

Providence Metallizing, a company that electroplates surgical instruments, bought from New Energy Ventures because it got a 20% discount, worth $10,000 a month on its heavy electric bill.

New Energy, in turn, could give that discount because it bought surplus power from Quebec and Vermont, which had no customers for it and which were happy to sell on the cheap. Thus New Energy could resell it at a profit--which gives you some idea of the price spreads that soon will be possible in electricity.

The Providence deal is a sign of big things to come. California will officially deregulate electricity on Jan. 1, and most other states are in various stages of preparing for a competitive environment in the electric power industry--a colossus whose $300 billion in annual revenue makes it bigger than telecommunications and airlines combined.

Even the little guy will get a break. Residential and small commercial customers, such as coin laundries and stationers shops, will get a 10% reduction in their electric bills come Jan. 1. But large users of electricity--big companies, universities, national chains of restaurants and stores--will probably enjoy much greater savings on their electric bills.

Already, major institutions are receiving bids. A Los Angeles company last week heard proposals from six potential suppliers, including Enron Corp., from Texas. Bidders also include the city’s Department of Water & Power, its current supplier. All bidders are suggesting cuts of more than 10%.

Why the discrepancy? Why, if a Rhode Island electroplater can get a 20% discount, can’t residential buyers in California get more than 10%?

Because we must pay off old problems. As do many utilities across the country, California utilities have nuclear power plants that will be decommissioned over time. And California companies have contracts for alternative energy dating to the 1970s that also must be retired. But the remaining debt on such plants and contracts is a problem nationwide, and arguments are rising over whether utility customers or shareholders should be the ones to pay.

In California, the legislature decided that customers will pay. So it set up a complex arrangement of competitive transition charges, or CTCs, through which residential customers will pay electric bills 10% lower than they are today--but nonetheless higher than they otherwise could be.

Is that fair? Put it this way: It’s not unfair. The $5 billion-plus that Edison International must recover on nuclear power plants and the $7 billion-plus it must pay on old mandated contracts to buy alternative energy could be paid by shareholders and bondholders, true. But doing so would cause turmoil in financial markets, capsize company finances and not necessarily lead to lower-priced electricity for residential buyers.

Under the legislature’s solution, residents won’t pay more than they do now. They will simply not get as large a discount--as soon--as the market gives to volume buyers.

However, residential customers may yet get larger discounts if sellers of electricity aggregate them into groups. Such questions will be worked out in the wild and woolly marketplace to come.

To understand the many changes coming to the electric power business, it is useful to examine Edison International, the Rosemead-based supplier of electricity to large areas of Southern California.

Edison today has $8.5 billion in annual revenue and almost $12 billion in assets, but it will shrink, explains Chairman John Bryson. The only regulated part of its business come next year will be its transmission and distribution lines. It is selling billions of dollars worth of natural-gas-fired power generation plants because almost all electricity from now on for Edison and other companies will come from a central power exchange, through which prices will be set at rates fluctuating minute by minute throughout the day.

There will be cash consequences. The selling and retiring of power plants will give Edison accelerated depreciation, meaning a buildup of cash on its balance sheet to use for buying back its own shares, as it is doing this year to the tune of $1.5 billion. It can also use the cash to improve non-regulated divisions such as Edison Mission Energy, which develops and operates power plants around the world, and for its new marketing division, Edison Source.

In trying to reach out for new customers while holding on to its own, Edison will face tremendous competition. San Francisco-based Pacific Gas & Electric is already making bids to Edison customers in Orange County. Enron, Ore.-based Pacificorp and North Carolina-based Duke Power are barreling into the rich California market, offering new kinds of services.

Enron’s president, Jeffrey Skilling, says his company will offer complete “outsourcing” of electric services . “We’ll provide electricity for all Pizza Hut restaurants, but do so in a way that’s best for each particular store--install a fuel cell at one store, serve a community of other stores by different means,” Skilling says.

New Energy Ventures, founded two years ago by Michael Peevey, a retired president of Southern California Edison, has already stolen such former Edison customers as the Robinsons-May store chain. “We’ll supply Robinsons-May stores in Orange and San Diego counties [not yet in Los Angeles because of DWP’s monopoly] over Edison’s and Enova’s [San Diego utility Enova Corp.] transmission lines,” says Peevey.

Indeed, one can argue bleak times ahead for Edison. Analysts expect that major utilities will lose 20% of their customers in the initial competitive battles, because that’s what happened to AT&T; when long-distance telephone service went competitive.

But such predictions overlook the fact that companies like Edison know a thing or two about their business. “Companies from outside the electric industry, such as Enron, have to learn billing and metering,” points out analyst Edward Tirello of NatWest Securities.

And Edison has strengths that could gain it customers. Edison Mission Energy is the most successful U.S. firm--”a great company,” adds Tirello--at developing and operating power facilities for communities in the Philippines, Indonesia and elsewhere.

The lessons of Indonesia can be applied in the new U.S. environment, in which communities such as Pasadena may decide to outsource their municipal electricity needs. “Edison can design and build facilities, operate their transmission and distribution and handle billing, accounts receivable and telephone service,” says Bryson.

The true picture is on a large canvas: With California in the lead, the entire country is embarking on a restructuring of an enormous basic industry. Edison will be part of that, and so will a lot of other companies.

“The next 10 years in electricity will see more new products and services than we can possibly envision today,” says Peevey, who had a hand in getting it all started last week.