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Consumers are increasingly exploring ways to supply their own energy - e.g., distributed generation and microgrids - and many observers have claimed that these alternatives may begin a death spiral for traditional utility business models. Is this true? What should utilities do now?

Although utilities are faced with more distributed resources on the grid, the death of the electric utility has been greatly exaggerated. The industry may be facing profound changes to the manner in which electricity is produced and delivered, but there is an opportunity for utilities to begin to integrate new resources in a way that leverages existing infrastructure and ensures (and even improves) reliability.

The resources that have the potential to shift the utility business model are generally appearing on the customer side of the meter and providing utility customers with alternatives to supply their electricity needs that did not exist before. The principal self-supply energy resources include distributed generation, such as solar photovoltaic (PV) and combined heat and power (CHP), demand response, and microgrids.

Self-supply resources, when coupled with enabling technological innovation on the distribution grid, create the potential for disruptive change.

The fact that these changes to the manner in which electricity is generated and delivered are happening against the backdrop of declining demand growth across the U.S. exacerbates the issues and increases the urgency with which the industry needs to consider these challenges.

Interestingly, there is one category of electricity sales end use that has increased steadily since 2009, according to the Energy Information Agency (EIA). That category is “direct use” - it includes the self-supply of generation by commercial and industrial customers.


There are several drivers of this movement toward self-supply, including technology and distributed generation advances, policy support, and customer preferences.

Technology advancements
The smart grid, distributed generation and microgrids continue to advance, providing both enhancements and alternatives to the traditional central station generation/long-haul transmission model. Technology advances play an important role in the shifting utility business model because they are potentially disruptive in two ways.

First, through distribution automation, advanced and aggregated demand response, energy efficiency and automated metering infrastructure, utilities are improving the reliability and efficiency of the grid. These technologies also have the potential to reduce utility loads, worsening the impacts of declining demand growth.

Second, the advent of self-supply technologies gives customers new alternatives. CHP has been available to industrial customers for a long time; according to the EIA, there are currently more than 70 GW of capacity on the U.S. system, and this will likely continue to grow, particularly given low gas prices. PV is growing exponentially and will continue to proliferate thanks to supportive policy and declining costs. Microgrids are also garnering significant attention in the U.S. The U.S. military, university campuses, hospitals and commercial customers have been the primary early adopters, and microgrids have been touted as a potential solution to enhance the reliability of the grid in the wake of Superstorm Sandy.

Distributed generation advancements
Solar PV has grown significantly in recent years, and this trajectory is expected to continue. According to the Solar Electric Power Association (SEPA), solar PV projects, effectively the customer-facing part of the market, accounted for 99% of the number of installed systems in 2012, and 80% of these are concentrated in five states (California, New Jersey, Arizona, Hawaii and Massachusetts). U.S. utilities reported more than 90,000 PV systems installed in 2012, accounting for nearly one-third of all distributed solar PV at the end of the year. An additional 59,000 distributed systems were installed in the first half of 2013, and solar capacity is expected to double every two years in the near term.

While experts disagree about the costs and benefits of solar PV, it is generally agreed that the direct cost is approaching or has reached grid parity in some areas of the country. Prices may continue to decline, making the economics more attractive over time. In addition, subsidies for solar installations have made them relatively cost-attractive, even in regions where the technology has not yet reached grid parity.

Advances in PV are introducing unprecedented levels of non-traditional generation to the grid. While the cumulative megawatts are not yet large, the number of installations is growing.

Policy Support

Public policy support has been a key driver in the growth of distributed generation. Policies driving adoption include net metering, renewable portfolio standards (RPS) with distributed generation requirements, authorization to allow third-party ownership models and incentives. Policymakers often support these and other clean energy policies in an effort to promote local economic development and job creation; diversify generation resources to ensure reliability and stability; encourage private investment and customer-sited generation; reduce pollution and improve public health; and increase energy independence.

The policy to allow net metering has provided significant support for distributed generation. This affords a billing arrangement by which customers receive credit for excess generation supplied to the electric grid, usually at retail rates.

In conjunction with net metering policies, several states have enacted specific distributed generation and/or solar PV requirements within their broader RPS. These requirements support the deployment and adoption of solar PV. In turn, this is supporting the growth of new business models in a variety of markets across the U.S.

For example, there has been rapid growth of third-party ownership of solar PV. Third-party ownership models consist of solar power purchase agreements and/or solar leases. Under this kind of model, a customer signs a long-term contract for the installation and maintenance of a solar system.

More than 20 states authorize or allow third-party ownership of renewable generation. Most of these markets are located in the Southwest and Northeast. Third-party ownership has been a significant driver in the advancement of distributed generation among residential customers in these states. In other states, regulators have decided that third-party ownership violates the regulatory compact provided to electric utilities.

Customer Preferences
Electric customers are increasingly looking for “green” or sustainable choices in electricity supply. Customer preferences may be the wild card in the proliferation of distributed generation and microgrid alternatives.

Because of increased pressure on and interest by businesses to present the public with green solutions, many are taking steps to incorporate or use renewables in their energy supply. It is driving some businesses to seek more sustainable energy solutions or grid independence. The past year has seen announcements by Apple and others about the development of completely self-sufficient data centers using microgrid solutions.

The preference for green alternatives is also driving individual customers to consider distributed generation, particularly as costs continue to decline and incentives remain available.


Distributed resources introduce complexity to the traditional central station generation/long-haul transmission model. This complexity touches everything from the utility’s fundamental role as an electric service provider to the manner in which the resources should be integrated into the grid. The issues range from strategic to highly tactical and include the following:

- Third-party sales of electricity may displace the utility’s role with the retail customer.

- Microgrids introduce the question of franchise rights and the definition of a utility.

- Utilities may need to upgrade distribution infrastructure (relaying, reclosers, conductors and transformers) to accommodate two-way power flows that come from these installations.

- Utilities need to be able to “see” where resources are located on the grid and manage intermittency at the distribution level.

- Distributed resources and demand response (and its aggregation) have the potential to change the load curve of utilities in specific networks in the distribution system.

- Due to net metering provisions, distributed generation customers may not participate fully in paying for the distribution upgrades required to interconnect their rooftop solar installation.

- Cross-subsidization of rate classes is taking place.

- Large corporations (which are utilities’ largest customers) are facing pressure from their customers to create sustainably produced products and services.


Increased penetration of distributed resources will force changes in the planning, design and operation of electricity systems. The electrical grid was designed and is operated under a model in which power flows one way from large, dispatchable central-generating stations through the transmission and distribution (T&D) system to the customer. The vertically integrated utility typically controls most, if not all, of this infrastructure, particularly T&D.

With higher penetrations of distributed resources, this model will change. Integrating distributed resources into the grid will require a more sophisticated understanding of their effects in order to optimize the system - not just overall impact on load, but the more refined locational and temporal behavior. This will require a shift from the current deterministic approach to a more predictive approach to planning and managing this new network of resources.

Protocols that dictate distributed resources availability and “callability” will be required. For example, there is currently a standard in place that limits the ability of utilities to control inverters (which serve as the interface for distributed solar panels); this prevents utilities from managing that resource. While there are different sides to this argument, the degree to which utilities are able to effectively leverage distributed resources may improve their ability to manage the grid in critical areas.

Once these protocols are defined, utilities will have the opportunity to either manage or integrate with a growing base of diverse resources. These resources may be managed centrally (by utilities or third parties) or locally by a distributed network of providers. These distributed resources can then be used to help reduce overloads on specific feeders, provide VAR support or address local reliability.

Load forecasting and system planning
Distributed generation and demand response are changing traditional utility load forecasting and system planning.

Utilities typically predict future load (in aggregate and in sub-regions) and then plan the infrastructure to meet peak demand. Incorporating demand response, energy efficiency and distributed generation into load forecasts reduces the peak loads to which assets must be planned and, as these are localized resources, may shift the geographical areas of the grid requiring expansion, reinforcement or upgrades.

Distributed resources will affect planning for system peak and, more importantly, for peak at specific locations in time, as these resources will reshape the demand curve. The promotion of distributed resources in constrained areas may be used as a strategy to delay capital investment and improve reliability; however, this requires a move away from traditional T&D planning. Proactive consideration of the changes to the planning process will be important.

Regulations, public policy and customers
In these arenas, utilities should consider the implications on their ability to earn their allowed rate of return and on their rate structure. Even in states that are revenue decoupled, the combined loss of load and customers will likely put increased pressure on rates. Many have highlighted the issue of net metering and the potential cross-subsidization of customers. Utilities need to make their positions clear about the consequences of net metering across all customer classes. It is increasingly important to identify the value provided by the grid itself and devise rate structures that compensate for that value whether customers self-supply or not.

Utilities may also want to consider further segmentation of customer rate classes and associated tariffs. They may need to consider a new regulatory paradigm with different rate structures, perhaps charging separately and using different pricing mechanisms for different business components (e.g., supply, wires, reliability, standby and back office).

As customers become more differentiated in their needs, utilities may be able to provide greater flexibility and potentially have the opportunity to earn a premium on “specialized” services where customers require them. This approach should consider fairness questions and appropriate treatment of various customer classes.

There are myriad policies driving the proliferation of self-supply options. Utilities need to think carefully about the advocacy positions they take to ensure they are consistent with the obligation to serve and provide reliable service, as well as enable customers to access the alternatives they are seeking. Through consideration of operational and system planning needs, utilities should advocate for policies and rate-making constructs that support the reliable, cost-effective integration of these resources.

There are new segments of customers emerging with different needs than the traditional residential, commercial and industrial customer classes. By taking a proactive stance with these customers, utilities have the opportunity to effectively and reliably manage the integration of these non-traditional resources into the grid.

Some utilities have publicly talked about the need to remain the single point of contact for their customers, regardless of the technologies being implemented on the grid. If utilities can find a way to do this, in light of changing regulation and customer needs and alternatives, they will have a better chance of weathering the storm in the coming years.


Utilities are facing an unprecedented set of challenges due to the combined impacts of declining demand growth and customer alternatives for self-supply on offer. While these challenges are real, they need not be the death knell for the industry. Yes, there will be significant changes in the years to come (this has started in California and New York), but the entire country will not shift at the same pace.

This is the time to think strategically and tactically about what the introduction of these resources means and ensure that responses are aligned in a cohesive course of action. The companies that get this right will be here to talk about the experience.

Cristin Lyons is partner and transmission, distribution, and smart grid practice area leader at management consulting firm ScottMadden. This article was adapted from ScottMadden’s report, titled “Distributed Resources and Utility Business Models - The Chronicle of a Death Foretold?” It is available here.

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