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All three of the investor-owned utilities in California are facing wildfire liability issues. S&P Global Ratings' decision to downgrade Southern California Edison and San Diego Gas & Electric along with Pacific Gas and Electric in January 2018 noted this common issue. Also adding to the risk the utilities are facing, and those companies that have power purchase agreements (PPAs) with the California utilities, is the specter of the departure of massive amounts of retail customers, leaving the utilities holding significant amount of above market contracts for renewable power.
There have been a plethora of articles (over 80 since the beginning of the year) posted on this forum regarding the PG&E (PCG) bankruptcy providing news and opining on various aspects. One of the topics has been the use of the bankruptcy to renegotiate existing power purchase agreements (for examples, see recent SA articles "PG&E Will Not Be Able To Renegotiate PPAs" and "PG&E Unable To Reach Deals Over Power Contracts Worth Billions Of Dollars"). While the precipitating event for the PG&E bankruptcy filing was the tens of billions of dollars in wildfire damage liability there is another issue which is providing a different reason than wildfire liability for bankruptcy and renegotiation of renewable contracts - the impact of departing PG&E retail customers - that has not been discussed. This departing retail load issue also impacts the other Investor Owned Utilities (IOUs) in the state - Southern California Edison (an Edison International (EIX) utility) and San Diego Gas and Electric (a Sempra Energy (SRE) utility).
The California Public Utilities Commission (CPUC) and California Energy Commission (CEC) estimate that as much as 85% of retail load from the investor owned utilities in California will become unbundled, with generation provided by community choice aggregators (CCAs), Electric Supply Providers (Direct Access), or distributed generation, rather than provided by the incumbent utility by the mid-2020s. The predominant providers will be CCAs.
What are CCAs and How Do They Work?
CCAs are nonprofit public entities operating in Investor Owned Utility territory and formed by local governments to purchase the electricity needs of their residents. AB 117 (2002) is the enabling legislation. The incumbent IOU still owns the transmission and distribution grid infrastructure (i.e., the poles and wires) and delivers the electricity procured by the CCA to the CCAs' customers. CCAs are governed by locally elected public officials.
Once a CCA is established, it is by law the default provider. Customers have to "opt out" of the CCA to remain with the incumbent utility (to date, few customers have chosen to opt out of CCA service). The CCA purchases the electricity and the incumbent utility delivers it and bills the customers.
Impact of CCAs
The following figure provides a summary of the existing and planned CCAs in California. There are currently 19 CCA programs serving over 10 million people in California as the following table shows.
The majority of the operating CCAs are in PG&E territory (see following map). PG&E directly attributes 42% of bundled load loss to the growth of the dozen CCAs in its territory, and there are eight additional CCAs in the implementation stage in PG&E territory.
Current Renewable Prices Considerably Lower Than Existing Contracts
Since 2003, the three large IOUs have contracted for 15,739 MW of renewable capacity.
Cost of electricity from renewable energy has dropped since 2010 by 49% from wind and 84% from solar. California investor-owned utility contracted prices for renewable power followed this trend, with the cost of renewable contracts dropping from about $160/MWh in 2007 to $50/MWh in 2017. Current renewable contracts are less than one-third the cost of contracts entered into last decade.
If PG&E loses the majority of its retail electricity customers in the next few years, where is all that expensive renewable power they have contracted for going to go? (Physically, the electricity produced will delivered to customers, the issue becomes an accounting for all the costs.)
Regulatory Mechanisms to Address Departing Load
The CPUC has established mechanisms to charge departing customers their "fair share" of the incumbent utility cost (aka exit fees). Customers no longer buying electricity from the utility in California are required to pay non-bypassable charges. Most notably, CCA customers pay a Power Charge Indifference Adjustment (PCIA), an exit fee designed to make the utility - and its remaining customers - "indifferent" to the loss of load when a new CCA is established. For example, in 2018, the PCIA was about 3.3 cents per kWh for most vintages for residential CCA customers in PG&E's service territory. Another non-bypassable charge incurred by CCA customers is the Cost Allocation Mechanism, which allocates costs of utility procurement across all customers. This cost is supposed to cover over-market PPA costs. There has been considerable resistance over the determination and imposition of these costs, particularly by the CCA community.
As always, reality has a tendency to impinge upon the theoretical. California electricity rates rank among the highest in the continental United States (following figure). Average California residential electricity costs 19.82 cents/kWh, commercial 15.19 cents/kWh, and industrial 11.73 cents/kWh.
Source: Global Energy Institute
Even though the average California bill is lower than the national average, due to a mild climate and mandated energy conservation programs, there are limits on what additional charges can be added and how high California electricity prices can rise, both politically and practically. What those limits are remains to be determined.
How Will This All End Up?
Multiple scenarios have been hypothesized about the eventual outcome of the PG&E bankruptcy proceeding, ranging from establishing bonds to address wildfire liability to a breakup into separate service utilities to municipalization or take over by the state.
Other utilities in the state have an idea of where they want to go. San Diego Gas and Electric (SDG&E), a Sempra Energy utility, in an article in the San Diego Tribune titled "Why SDG&E Wants To Get Out Of the Business Of Buying Electricity" stated it wants to get out of the business of buying and selling electricity and become a "wires and poles" company. It is asking the California legislature to create a separate entity that would handle all those transactions. As stated in the SD Tribune article: "Choice is happening and we need to evolve with it," said Kendall Helm, SDGE's vice president of energy supply said. "And this old model … doesn't make sense." SDG&E estimates that 85% of its retail electricity load will be supplied by someone else by the mid-2020s.
SDG&E has asked the California legislature to create an "Energy Procurement Task Force" with the goal of the development of a "state-level electricity procurement entity" by Jan. 1, 2023, and get it up and running no later than July 1, 2025 (and take over their existing PPAs). SDG&E wants to be a "wires and poles" utility, with no responsibility for procuring electricity supplies.
The electricity market in California is in a state of transition. The issue of the incumbent utilities being left with a large concentration of over-market PPAs when their retail customers depart will have to be resolved. California's last foray into changing the electricity market (2000-01) ended up disastrous for all involved. Investors in PCG, EIX, and SRE, and those companies with significant PPAs with these companies, would be prudent to keep a close watch on the market transition in California.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.