The electric utility industry is in the midst of unprecedented change. Despite these changes, most utility rate designs remain largely based on formulas devised more than a century ago. The fallacy of applying 19th century rate structures to 21st century electric utility services is made clear by the economic effects of demand-side management programs and the growing adoption of distributed generation assets such as rooftop solar.
While customers who have installed distributed generation assets use less energy, and some may even be net producers of energy, they still require essential utility services. The current rate structure that dates to the 19th century assumes that the quantity of energy consumed by the customer is the root cause of the utility’s costs, but this results in a mismatch in bills and the actual cost to serve.
This article summarizes potential solutions to this issue through the development of unbundled “smart rates.” A full white paper has been developed that delves much deeper into the topic, and is available through the link Smart Rates for Smart Utilities.
The Answer Lies in Unbundling
The electric industry operates in a mixed monopoly/competitive market with subsidies built into the price per kilowatt-hour that pays for fixed costs. Smart rates recognize that utilities provide a variety of services to customers and fully unbundles each cost component of these services and appropriately bills for each.
With unbundling the customer pays only for the service the customer chooses to take from the utility. Unbundled rates recover all of the costs of serving each customer based on the service used and regardless of the amount of energy used by the customer or when the energy was used. Such a pricing structure creates rates that fairly portray the value and cost of the service.
The subsidies that are in today’s simple rates go away with unbundling, representing a tremendous adjustment for utilities and consumers. For this reason, we do not recommend that the rate structure be unraveled all at once. The subsidies have been built into pricing for so long customers will have to be weaned gradually over a transition period.
Breaking Down the Bill
The typical customer sees a reliable flow of power as the extent of the utility’s service. In reality, that steady flow of electricity is the end product of services for generation, transmission and distribution, as well as metering and ultimate delivery to the house.
Unbundled rates consist of the basic customer, demand and energy charges. These rate components can be broken down further, for example, into a customer charge, production demand charge, transmission demand charge, and a distribution demand charge, which could include substation service, primary service, and secondary distribution demand. The energy charge could include service at transmission voltage, primary service at substation delivery, and service at secondary voltage as examples. Rates can be further unbundled as needed to recognize other services.
The use of these components have a long history in rates for commercial and industrial users, but smart meters make unbundling practical for residential customers, too. Every customer would get an itemized bill for each service used with the customer charge, the energy charge, the distribution demand charge and so forth.
Understanding Subsidies
There are all kinds of subsidies built into existing rates that the public never sees. For example, electric heat customers provide huge subsidies for other residential customers. Electric heating customers use more electricity off-peak than regular customers because they have higher night and weekend consumption. They also consume power in the lower-cost winter than in the higher-cost summer. The huge economies of scale in distribution service allow the utility to serve these high-volume customers at lower unit cost.
Or, what about users of distributed generation and co-generation? Consider that there are many utilities whose peak load occurs in hours when rooftop solar produces little energy. In that case, while solar backs out fossil fuels and lowers the fuel cost, it makes zero contribution to reducing the fixed costs for that utility.
Let’s say it’s a cloudy day, but it is also hot and humid, so residential air conditioning systems are running. Since the rooftop solar panels are not producing, each solar-equipped house draws its full demand from the grid, which means the utility has to have in place the proper-sized transformers, wires and other equipment all the way back to the substation to meet the load on that cloudy day. Or, suppose an industrial customer’s co-generation plant goes down, the utility needs to be able to step in and meet the demand for power. In either case, the utility delivery system must be able to meet the maximum demand of the customer whenever it occurs.
The end result of unbundled rates will be a more cost effective and better integrated utility system that will benefit economic growth and new investments. This emerging customer paradigm is a prerequisite for improving the safety and reliability of the utility system, and for creating a sustainable rate system that will help keep utilities financially sound.
Published originally on Black & Veatch Solutions
