For some companies, energy can be the second or third most expensive line item in their overall budget, but too often, executives don’t view energy as a strategic asset that impacts their performance. The result is that risk associated with energy costs and usage can remain hidden and often difficult to comprehend.
The rapid proliferation of distributed energy resources; the rise of energy storage options; and the pursuit of sustainability goals all complicate the energy procurement picture for both large and small companies, which makes identifying and quantifying energy risk more challenging and all the more necessary. One key to mitigating this hidden risk is viewing an organization’s energy profile holistically to minimize potentially negative financial impacts through smarter investments.
Here is how one large technology firm explains some of its energy-related risk to investors in its most recent annual filing with the U.S. Securities and Exchange Commission:
“Environmental regulations or changes in the supply, demand or available sources of energy or other natural resources may affect the availability or cost of goods and services, including natural resources, necessary to run our business. Changes in weather where we operate may increase the costs of powering and cooling computer hardware we use to develop software and provide cloud-based services.”
These are common challenges for companies in the tech industry and beyond that consume large quantities of natural gas and electricity. Exposure to the risk of energy price fluctuations can amount to hundreds of millions of dollars. That should get the attention of any c-suite executive.
Is the left hand talking to the right hand?
Firms have traditionally managed their energy risk by locking in stable commodity prices via short-term contracts through some sort of energy risk management program. Additionally, companies now often hedge some of their energy price risk through long-term renewable energy power purchase agreements (PPAs). However, employing both strategies may be problematic.
For example, some short-term (less than three years) power procurement contracts prohibit the installation of new onsite generation such as rooftop solar. So, under those circumstances, how is the company’s energy risk profile impacted by adding renewables? If a facilities manager handles one contract, the electric supply contract for example, while the energy manager handles another, the rooftop solar project, are energy purchases aligned with renewables strategy? If the answer is no, then these simultaneous risk mitigation efforts might not be achieving maximum results.
Commodity purchases and long-term PPAs should be handled under the same roof or you could be introducing risk without realizing it.
Not all markets are created equally
The old approach to managing a company’s use of energy was to simply pay a monthly utility bill and chalk it up to the cost of doing business. That is no longer sufficient, however, because power markets are structured differently in regulated and deregulated markets. Companies that have operations spanning several regional power grids are often exposed to these variable market conditions. As such, taking a decentralized approach to energy procurement and management can introduce more risk today than it may have five or ten years ago.
Regulated markets feature utilities that control the entire value chain from power generation to transmission to local distribution. Customers cannot choose the entity that generates their electricity. Regulated markets are primarily located in the Southeast and much of the Western U.S., except California, which is a hybrid with both regulated and deregulated markets. In deregulated markets, generation and transmission are open to participants other than utilities. Power generators sell into a wholesale electricity market where retail energy suppliers purchase the power and sell it to customers. Twenty-four states have deregulated markets and 18 of those feature “retail choice,” which allows commercial and industrial customers to choose their power producer, including renewable energy providers.
With electricity procurement options and systems rapidly and consistently changing across the country, it’s important to have both a holistic view of an enterprise’s energy profile, along with a deep understanding of how each regional market is structured. The most cost-effective energy strategy in the regulated Florida market will probably not directly translate to deregulated Massachusetts.
This increasingly complicated energy supply picture calls for some degree of centralized executive-level oversight. But while energy risk is quickly bubbling up to the c-suite level, many firms still don’t view it this way, and are unwittingly exposing themselves to additional risk. It’s time to rethink how companies approach risk in their energy portfolios and how they understand inherent risk. Employing a holistic strategy that treats energy as a strategic asset is an effective way to address that challenge.
It’s time to rethink how companies approach risk in their energy portfolios and how they understand inherent risk. Employing a holistic strategy that treats energy as a strategic asset is an effective way to address that challenge. As the role of energy in business expands beyond being just an operational cost and bleeds into corporate social responsibility and sustainability goals, it needs to be handled differently. If it isn’t, associated risks will not only remain hidden, but leave a company exposed to unforeseen changes in regulatory policy and energy price fluctuations.
Brad Birchfield is energy and sustainability manager at Edison Energy. Brad provides leadership for sustainable, renewable and regulatory energy services. As an energy manager, Brad oversees all aspects of procurement for clients from strategic initiatives to tariff and rate analysis. In his sustainability role, Brad tracks regulatory events at the state and federal level and prepares monthly client- specific reports that breakdown these pending events based on each of the client’s locations.