Quantifying regulatory disincentives to utility DSM programs

In principle, current regulation of investor-owned electric utilities is simple: the more electricity a utility sells, the more money it makes for its stockholders. This link between sales and earnings encourages utilities to sell more electricity, whether or not such increased sales benefit customers. For the same reason, utilities often find it difficult to conduct even the most cost-effective energy-efficiency programs: these programs reduce sales, and reduced sales cut earnings. Although the theoretical underpinnings of this problem have been carefully explained, little quantitative analysis exists to identify the magnitude of the problem. This paper provides that quantitative analysis for a Rocky Mountain utility. It shows that a utility that runs modest energy-efficiency programs will find its return on equity cut by almost 100 basis points. Sensitivity analyses confirm that this earnings loss will occur under a wide range of sizes and load factors of energy-efficiency programs, retail price levels and structures, and short-run marginal costs. Shareholder losses are greatest for utilities that run ambitious programs and for which the difference between retail electricity price and average fuel cost is high. This erosion of earnings occurs even though utility customers may receive substantial benefits from these energy-efficiency programs because rapid load growth accelerates the need to build new and often expensive generating capacity.