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PÖYRY POINT OF VIEW BLOG / 23 Apr 2015

Utility no more - how must energy companies adapt to survive?

Under the impulse of change in renewable generation, European utilities are searching for new business models, explains Pöyry's Stephen Woodhouse. Article originally published by The Economist Insights at http://www.economistinsights.com/

The European electricity business is under the threat of revolution. The rapid growth of renewable generation across the continent has disrupted the conventional lines of command, control and cash flow that provided the sector with stability.

The certainty of the past, whereby a utility generated electricity at a coal, gas or nuclear plant that was then distributed to consumers, is declining each year. Competition from renewables with low marginal costs takes up market share from conventional generation plants, using natural gas for example, while grid operators across Europe are prioritising renewable generation over conventional generation.

Switching off conventional generation plants (i.e. coal, gas and nuclear plants), however, will affect maintenance costs and reliability. In countries like Germany, which is at the forefront of renewable generation, utilities formerly considered to be recession-proof have suffered significant declines in share prices and cash generation. Utilities have accepted impairments to asset values and are undertaking drastic cost-cutting measures: RWE, a German utility company, plans to make 6,750 employees redundant by 2016, representing 10% of its workforce. 

In response to this threat, utilities are seeking to build a 'customer-centric' business model that places the needs of consumers at its core. Traditionally, customers remained largely ignored by utilities, who instead preferred to focus on generation assets. As the profitability of the conventional generation assets decline (as a result of renewable competition) however, the utility model is looking for a new success story.

Building smarter grids will transform our electricity system and allow consumers to become balancers of the grid as their heating and appliances have the potential to be switched on and off depending on the cost of electricity. Smart grids allow customers to heat their home or water at night to benefit from lower costs, with that decision automatically based on preferences set by the customer.

This balancing makes the transition to a renewable system more stable and cost-effective since the weaknesses of renewable generation, namely intermittency, are mitigated. It does however require utilities to improve their tarnished reputation with consumers.

'Smart' start-ups and aggregators are widely encouraged by IT service providers, policymakers and venture capital funds, but market penetration in Europe is low. Moves towards ‘smart energy’ would also diminish the utilities’ peak demand cash cow as valuable peak consumption is reduced. There have been few signs that the mainstream power companies are taking these new business models seriously – until now.  

In December last year, E.ON, one of the world’s largest electricity and gas companies, announced plans to separate its business into two parts. The breakaway company will encompass the thermal generation, trading and oil and gas exploration and production businesses, while the new E.ON will focus on customers, distribution networks and renewable assets. The latter could develop into a ‘customer-centric’ business model.

But are customers prepared to engage in new ‘smart’ electricity markets, and will they trust their energy company? It’s with this question in mind that E.ON’s competitors will keep a close eye on the great utility that broke rank first. 

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Stephen Woodhouse
Chief Digital Officer