The capable utility company: Redefining performance for the new business environment
Energy utility companies must adapt to a new environment — with more distributed supply technologies, broad-based digitization of the delivery infrastructure, and an increasingly sophisticated customer base — all under increasing price, regulatory, and shareholder pressure. Success requires becoming more coherent by focusing on the few capabilities that meet a unique combination of market, regulatory, and shareholder requirements. This strategy goes beyond continuous improvement and cost cutting; the first step is to create a blueprint for attaining a successful position five to 10 years out while making the most of the capabilities your company has today.
The capable utility company Redefining performance for the new business environment
Dallas Thomas Flaherty Senior Partner +1-214-746-6553 tom.flaherty @strategyand.pwc.com John Corrigan Partner +1-214-746-6558 john.corrigan @strategyand.pwc.com Donald Dawson Partner +1-214-746-6503 donald.dawson @strategyand.pwc.com Todd Jirovec Partner +1-214-746-6525 todd.jirovec @strategyand.pwc.com Earl Simpkins Jr. Partner +1-214-746-6571 earl.simpkins @strategyand.pwc.com
DC Joseph Vandenberg Partner +1-703-682-5710 joseph.vandenberg @strategyand.pwc.com
Houston Juan Trebino Partner +1-713-650-4151 juan.trebino @strategyand.pwc.com
San Francisco Christopher Dann Partner +1-415-653-3491 chris.dann @strategyand.pwc.com
This report was originally published by Booz & Company in 2012.
Facing next-generation change across a number of fronts, utility executives know they will need to operate very differently in the future. They already recognize the challenge of becoming more efficient and effective. They will also have to adapt to a new environment — one characterized by more distributed supply technologies, broad-based digitization of the delivery infrastructure, and an increasingly sophisticated customer base (with people who expect higher levels of ubiquitous, free, or value-added service) — all under increasing price, regulatory, and shareholder pressure. The most appropriate business models, and the paths to get there, will vary from one company to another. In all cases, however, success requires strengthening your company’s coherence. Coherence is the holistic alignment of your strategic priorities and most distinctive capabilities. In every industry sector, leading companies exhibit higher levels of coherence than their competitors. Coherence has not always been a hallmark of industries such as utilities, in which companies have been driven by more tactical imperatives or dabbled in businesses that distract from their core strategy. Incoherence has contributed to erratic performance with few sustained leaders emerging across market cycles. This white paper describes how energy utility companies can become more coherent and capable by focusing on the few capabilities that meet their unique combination of market, regulatory, and shareholder requirements. This strategy goes beyond continuous improvement and cost cutting; it involves consciously balancing service levels and costs, adapting a large workforce to new skills and operating models, adopting cross-industry best practices, and becoming more performance oriented and strategically managed. This type of change requires an enterprise-wide, long-term architectural view of what a company can and should be. The first step is to create a blueprint and road map for attaining a successful position five to 10 years out while making the most of the capabilities your company has today.
The performance leadership challenge
It seems that every facet of the utility business model is under stress today. A series of potentially disruptive changes — driven both by the market and by shifts in technology — is challenging the way that utilities operate (see Exhibit 1, page 6). Within the next 10 to 20 years (in other words, during the careers of most utility executives), energy utilities will become fundamentally different companies. The infrastructure and generation mix will be more digital and distributed. End-use applications will be more widespread. Price, and hence cost pressure, will be more acute. To adapt, companies will need to become more performance-oriented, more technically diverse, larger in scale, leaner, open to alternative (more variable) service delivery models, and more driven by analytics. The capabilities needed to be successful in this market (sometimes called the “table stakes” or “price to play”) will rise materially. Those companies that move rapidly and intelligently along the track to this future will have a performance edge. Many others will be left on the side of the road. Utility company leaders understand the forces driving these changes, but few companies are truly positioned to navigate the transition. The operating complexities are extensive and nontraditional. And these complexities must be addressed in a constrained regulatory and financial environment that, as often as not, distorts decision making and provides incentives that lead to poor economic results. For example, it is widely recognized that data, and its application to increasingly intelligent decision making and network control, will enable new levels of performance in the utility industry. There is an evolution underway from “dumb” assets toward intelligent automation and control. Predictive and foresight-driven analytics will allow greater efficiency of long-term capital and assets, improved workforce productivity, and increased reliability and responsiveness to service events. However, achieving this vision is proving difficult. Companies don’t have all the capabilities they need to manage and exploit this explosion in information. A focus on infrastructure deployment in the expectation of future capital return has outpaced the development of
“softer” capabilities such as data management, analytic tools, training and skill building, and the development of new regulatory frameworks. The net result has been the inefficient deployment of capital and the prospect of premature asset obsolescence. Significant choices will need to be made. Indeed, they are already being made, but not always in a way that will ultimately create shareholder value. That is why coherence is important. In the utility industry, sustained value leadership is indicated by a few core value drivers (see Exhibit 2, page 8). Leaders in the industry consistently achieve higher returns on invested capital (ROIC) and outperform on earnings (EBIT). Conversely, they do not achieve leadership on the basis of growth or simple management of costs. Their commercial and regulatory models explicitly reflect what they understand to be affordable, and they explicitly balance capital, costs, and capabilities. Industry leaders do not subscribe to the conventional paradigms that “costs don’t matter” and “capital is not constrained.” They do not follow a one-size-fits-all business model or subscribe to cost nostrums. Rather, they focus on capital and resource allocation with a clear understanding of investment floors and ceilings. They are efficient but not necessarily drawn to the lowest-cost options; they balance costs and service levels with keen attention to investing in high-impact areas that justify incrementally higher prices or rates through, for example, superior customer — and regulatory — satisfaction. Although breaking the traditional business model paradigm is hard, leading utilities have little choice but to continue to shift their traditional business and performance models to organizations that are better tailored to their unique business and regulatory strategies and priorities. Examples of new business models include low-cost core utility leadership models and customer-centric energy “retail” models. Whichever model a particular company may choose, each segment of the business is being challenged to change in multiple dimensions: • The corporate center and corporate services: Corporate functions will evolve from a simple fulfillment role to the role of strategic business partner. Strategic and analytic capabilities, which are characteristic of other sectors (such as oil), will become more important for utilities. At the corporate level, the center will shift from a largely operating-oriented model to a strategic management model. Concurrently, the strategic and fulfillment sides of corporate services will continue to separate, as the fulfillment side adopts lower-cost, more variable, lean alternative delivery models similar to those pioneered in other industries.
Exhibit 1 Pressures for change on utility companies
Shareholder expectations Stress Stress Earnings and performance results Stress
Production and supply
Customer & retail
Disruption in commodity markets
Disruptive technologies Next-generation infrastructure Growing customer sophistication New market emergence Distortions Regulations
• Generation and supply: Owing to ever-narrower margins as peak/ non-peak spreads shrink and gas-on-gas heat rate competition increases, the importance of having an integrated portfolio management model on the supply side will increase. Companies with the assets and capabilities to flexibly capture incremental margins along the value chain will prove more resilient. Those who combine this capability with project development and operating excellence will emerge as creators of sustainable value. • Network delivery: Digitization, in areas ranging from infrastructure monitoring and control to end-use management, will present opportunities to dramatically improve productivity and the way in which utilities relate to customers in real time. This will dramatically change the delivery model, yielding leaner, higher-skilled, and more variable field organizations that can move easily between ongoing operations and rapid emergency response. • Customer and retail: The customer organization will grow as a source of strategic leverage — but one that is challenging to monetize. Ultimately, as customers become more sophisticated and as more advanced end-use technology penetrates more homes and businesses, utilities will need a base level of consumer and industrial marketing capabilities that include greater expertise in customer intelligence, product and service marketing, channel management, and core customer service delivery models. In many cases, utilities will choose whether or not to participate, being very judicious about which bets they place. Together, these changes add up to a redefined business model for utilities (see Exhibit 3, page 10). This new utility has the following characteristics: It is more performance oriented and technically driven, using new technology more effectively. It is also more analytically driven; it can manage and process larger volumes of data. It has leaner, more efficient operations, and a new external vendor ecosystem. It may also be larger in scale and size.
Exhibit 2 Value drivers: What distinguishes a leader
Portfolio balance Regulated Unregulated
Outcomes exhibited by companies
- EBIT margin - Customer satisfaction - ROIC spread
- ROIC spread - EBIT margin
- CFO growth - Operating costs
- Operating costs - CFO growth
Key: Primary outcomes Secondary outcomes
Source: Strategy& analysis of strategic value drivers and industry performance over a ten-year period
Drivers of market change
Disruption in commodity markets • Rapid growth of unconventional natural gas • Generation oversupply • Increasing globalization of gas and coal markets • Environmental uncertainty • Demand response • Regulatory distortions Disruptive technologies • Alternative generation and RPS standards • Digital convergence and interoperability • End-use automation and control • Transportation fuels • Carbon capture and sequestration • Energy efficiency Next-generation infrastructure • Aging infrastructure and digital transition • Reliability standards • Mandated supply asset demands • Cyber security Growing customer sophistication • New preferences in delivery channels • New communication interfaces, including social media • Growing engagement in demandside management • Diverse markets and competitors New market emergence • Alternative delivery models • Ecosystem of third-party providers • In-sourcing and outsourcing
Exhibit 3 Business model priorities for utilities
Corporate planning Governance model Capital allocation & asset management Performance management Deep strategic management
Business support services
Facilities & admin.
Regulatory & legal
Evolution to strategic partner
Energy production and delivery services
Production and supply
Operational excellence and integrated portfolio optimization
Customer as a strategic lever
Intelligent control and ﬂexibility
Designing a capabilitiesdriven strategy
A new breed of “architect CEOs” are coming on board in many utilities, and they know that they can’t be all things to all people. Choices have to be made. They understand that price increases cannot cover all sins and poorly spent capital may well not earn a return. They are aware that to reduce, or even temper, prices in real terms, they face an unavoidable set of trade-offs; they must invest in new capabilities while simultaneously reducing nonessential costs. These new CEOs (and their boards) recognize that utility companies can and should become both more productive and more capable by rebuilding their operating models. Chief executives of utility companies are increasingly focusing on these elements of success. Business, in general, is in the era of the executive as the architect. It is a role that requires focus and discipline. For this reason, it is critical to get the strategy right. Of course, it is equally important to execute effectively. Most effective leaders recognize the importance of execution, but they do not always realize that strategic coherence makes execution much easier and less costly. Those who set their operating and capabilities-oriented priorities effectively through their strategy, and who master execution, will have established a strong foundation for success. These goals cannot be accomplished through conventional responses, which have focused on benchmarking, across-the-board cost cutting, and incremental operational improvement. Nor does any single organizational model exist that will give utility companies differentiated performance. A more holistic, and capabilities-oriented, view of performance is required. The capabilities approach has proven its value across industries. It can help your company become leaner, more performance oriented, more technically diverse, and better able to drive changes in the market rather than merely react to them.
Most effective leaders recognize the importance of execution, but they do not always realize that strategic coherence makes execution easier and less costly.
The core of the capabilities-driven approach involves four elements: • Strategic clarity and flexibility: Leading companies have clear, concise strategies that are seamlessly translated into action throughout the organization. They possess superior market insight, financial management, and integrated planning competencies that allow them to respond to market change before their peers do. • Targeted investment in the business: Leaders have strong resource allocation and management processes. They are selective — channeling investments first toward core safety and integrity, before growth. • Distinctive capabilities: The leading companies focus on a small number of key capabilities that directly support their strategies and differentiate them. They do not make commitments to non-core or low-value activities. • Strong organizational structures, tailored to sustainability and resilience: These companies possess responsive governance structures, effective decision-making processes, and cultures that reward performance. They enable success with strong talent, accountability, and incentive processes. When all of these characteristics are present, the groundwork is in place for sustainable performance leadership (see Exhibit 4, next page). Having these characteristics also changes the way company leaders make choices. The center of the approach is the alignment between strategy and capabilities. A capability, in this context, is the ability to reliably and consistently deliver a specified outcome through the right combination of processes, tools, knowledge, skills, and organization. There are many organizational capabilities, but the ones that matter most are a company’s core strengths, those that set it apart from others. These should fit together into a coherent, mutually reinforcing capabilities system — a collection of processes and practices, talent and technology, that becomes part of the company’s identity. To make this type of strategy work, leaders need to differentiate, investing heavily in the few capabilities that matter. For example, a utility focused on a low-cost “back to basics” strategy might define its critical capabilities system as involving asset and work management and core customer operations. A different utility, focusing on customer end-use, might emphasize leading-edge technology for demand management; its critical capabilities system might include smartgrid application development and other forms of marketing, related
directly to new product and service innovation. The critical decisions involve not only selecting the capabilities to focus on, but, just as important, the capabilities to de-emphasize. A well-designed capabilities system, when put into practice, can set a company apart from its peers in shareholder value performance. Successfully navigating this transformation begins by understanding your future strategy and what it will take to attain your strategic value proposition — how will you create value and balance it among diverse stakeholders? — and an aligned capabilities system that can deliver against this strategy. Your capabilities focus should be close to your current strengths — or you should be able to articulate how you will fill in the gaps.
Exhibit 4 The capabilities approach for a utility company
The starting point
• Articulate how business creates differentiated value for all stakeholders • Bring mission and purpose to life
Invest in the business Invest in higher• Core safety and integrity – value-added system refresh and "hardening" priorities of assets and infrastructure • Organizational strength – building new capabilities: technology, data, analytic tools, etc. • Growth – invest in new business extensions, etc. Transform the operating structure • A strategically aligned capabilities model • Build strategic capabilities • De-emphasize low-value capabilities, freeing cash for more attractive investments
Enable & sustain
Enable & sustain
Organize for sustainability and resilience • Performance model – establish long-term performance management model, culture, and processes
Your primary goal is coherence. As noted earlier, coherence is a close fit between strategy and capabilities, with a clear understanding of the future so they may evolve together. Incoherence has been consistently linked to poor performance, but coherence has been demonstrated across industries to give you a premium: Your investments go further, your people understand where they are going, and you are less distracted by waste. How can you tell if your company is incoherent? One common indicator is the all-too-common “firefighting approach” to performance or cost issues, in which special committees or trouble teams must be set up to address the “problem du jour,” with little linkage to strategic priorities. Other signs of incoherence include “one-size-fits-all” approaches, an inability to frame and force tough choices, and succumbing to internal push-back. Having articulated a strategy and capabilities system, a blueprint must be created of the kind of business model that can help you manage them and set priorities accordingly (see Exhibit 5, next page). The blueprint should clearly articulate the capabilities required, the investment that is needed to develop them, and the ways in which they will align with other aspects of the enterprise: the business model structure, integrated process and technology architectures, operating practices, and people and culture. The blueprint should balance long-term growth against short-term operational requirements. As with a building’s architectural blueprint, this blueprint should establish the requirements for ultimate execution, including a plan for integrating all the different parts of the organization and an explicit consideration of constraints and trade-offs. The process of creating the blueprint must be enterprise-wide and continuous. The blueprint is not a static document, however: It should be flexible (“written in pencil”), so it can be updated and realigned as the market changes. Finally, there should be a road map outlining the process of transformation: how the business will realize the aspirations of the blueprint and get from here to there. A capabilities-driven transformation is more than a traditional or process-oriented change program. In typical change programs, the gains are incremental, performance aspirations are modest, and the elements that enable performance improvement are often missing. By contrast, this program is aggressive, setting performance aspirations that essentially redefine the performance frontier (see Exhibit 6, page 16). Embedding these performance characteristics in your company requires the involvement of senior management, who must practice rigorous
Coherence has been demonstrated across industries to give you a premium: Your investments go further, your people understand where they are going, and you are less distracted by waste.
discipline in the transformation’s design and execution. It is not easy, and few achieve it. But the rewards are substantial. It is a natural instinct to manage conservatively during a downturn; however, today’s unique combination of low natural gas prices, new technologies, uncertain environmental regulations, and economic constraints calls for decisiveness. The utilities that get it right will create lasting platforms for change — a basis for improved financial health and growth. Those that get it wrong will make empty investments and face declining operating margins. The focus on strategy and capabilities makes a difference because it provides a clear rationale for making the most of your investments.
Exhibit 5 Elements of an effective blueprint
Strategic choice model
Strategic management capabilities Industry-wide core capabilities Differentiating companyspeciﬁc capabilities
Strategic choice model
Strategic clarity Deﬁne what you want to be and your value/ affordability model
Strategic management capabilities Capabilities model Differentiating capabilities (for your market) Industry-wide core capabilities (“price to play”)
Organizational DNA Capabilities system
Capabilities system Focus on a strategically aligned performance/cost model and your differentiating capabilities
Organizational DNA The glue – the motivators and structures that enable the strategy and operating model
Exhibit 6 Future evolution of industries and companies
Outcome leadership . . .
. . . Is driven by capability redeﬁnition
Novice Evolving Best practice Best in class Groundbreaking
Future performance frontier
Cross-industry Current utility leader today industry median Laggards
Generation development Asset management Network operations Customer interface
Performance management Higher Efﬁciency Lower
Note: Dots represent individual companies (at left) and attributes (at right); placement is illustrative, not based on case studies. Source: Strategy&
Where do you stand?
Utilities executives must ask themselves a few key questions as they look to the future: sustainable, long-term leadership? Is our strategy clear, and is my team committed to its realization? Are we emphasizing capabilities that directly support our strategy? Are we overemphasizing capabilities that do not support our strategic value proposition?
General strategy Is my company positioned for
Generation and supply Have we formulated long-term, scenario-based wholesale market forecasts that accurately reflect integrated market dynamics? Can we dynamically capture the uncertainties and assess the interaction of such elements as emissions mandates and market instruments such as capacity pricing? Are we proactively emulating top commodity players by adding assets at the “bottom”? Do we have a portfoliobased buy/sell strategy? Or are we reactive? Are we optimizing our assets into and out of the market as we should — both in the long and the short term — and operating them as efficiently as possible? Are we effectively redeploying O&M and capital spend to particular assets based on our long-term view of their value?
Customer and retail Do we have the resources needed to understand, develop, and market products and solutions to help meet new mandates for energy use? Can we be an active partner within the growing premise management market? Are we using technology wherever applicable to leverage predictive analytics to improve reliability and customer service? Do we have a clear view of the tradeoffs between near and behind-themeter smart grid functionality and net smart grid–dependent benefits? Do we have a view on how, or whether, to explore new customer interaction models, such as social media?
The corporate center and corporate services Do we have a tight governance regime with clear decision rights and a way to resolve contentious issues? Are we actively managing demand, in terms of both service levels and quality? Are our transactional functions exploiting scale and efficiency potential? Are we reexamining the swiftly evolving alternative delivery services markets? Do we have a performance-oriented culture that motivates and rewards the workforce?
Transmission and distribution Do we have the capabilities in-house to expand and maintain transmission at the levels required to relieve constraints, support renewables development, etc.? Are we leveraging our operating practices and technologies to realize the level of increased wrench time we expect? Do we have the long-term operating model and skills strategy to support the transition to an ever more digital grid — and manage on a true real-time basis?
Organizational structures that sustain performance
Enabling performance is the most difficult aspect of any transformation effort — and the easiest to neglect. Having a strategic value proposition and capabilities system is vital, but it is not enough. Market success and performance sustainability rely as much on underlying organizational enablers as they do on core capabilities. Our model of an effective organizational structure contains two basic types of performance enablers, formal enablers and informal enablers. Formal enablers are written down and can be executed at once throughout the enterprise. They include four elements: • Decision rights: Explicit guidelines that determine who is accountable for results and has the authority to act • Motivators: Incentives and rewards that are set up to reinforce the company’s overall strategy • Information flows: The practices and channels through which people exchange knowledge and ideas • Structure: The reporting lines of an organization chart, reflecting strategic priorities The path to organizational effectiveness involves improving these four formal enablers (see Exhibit 7, page 20). Organizations with strong formal enablers typically exhibit several key traits. Everyone has a good idea of the decisions and actions for which he or she is responsible. Important information about the competitive environment gets to corporate headquarters quickly. Once made, decisions are rarely secondguessed. Information travels freely across organizational boundaries. Field and line employees usually have the information they need to understand the bottom-line impact of day-to-day choices.
In redesigning the formal elements to foster this type of organization, start with decision rights and information flows. Once those are in line, the correct structure and motivators often become obvious. Conversely, unclear guidelines for accountability can paralyze decision making, divorce performance from rewards, and prompt work-arounds that subvert formal reporting lines. Blocking information results in poor decisions, limited career development, and a reinforcement of structural silos. Informal enablers include the company’s people and culture, and some aspects of its processes and technology. These are often familiar — even foundational in the sense of being embedded in the roots of the organization’s activity. But they are difficult to put in place, especially because many executives feel that their company’s culture is too entrenched to change. Because of long-established talent practices and the prevailing culture in parts of the industry, some utility companies face a steep challenge as they put informal enablers in place. Successfully addressing these informal enablers requires the transformation of the enterprise from an entitlement culture to a performance culture. The effective management of human capital is thus critical. Utilities have a growing demand for broader expertise and must address the generational change looming as the workforce ages. To this end, leading utility companies are adapting best practices related to culture and performance from other industries. These practices include proactive talent management, reinvigorated training programs, personalized performance measures and awards, nonmonetary rewards for exceptional performers, and the encouragement of lateral moves and rotations. Together, the formal and informal enablers make up what we refer to as a company’s organizational DNA: the glue that holds together and empowers the diverse capabilities of the enterprise. This organizational DNA can be designed to support the optimal functioning of a company and to create a high-performance enterprise. Specific measures to accomplish this include strengthening planning and resource allocation processes, clarifying decision rights, aligning talent measures to strategy, and designing motivators that include long-term — not short-term — incentives. Although no single performance model is right for every utility, no company can avoid redefinition. Every management team will be challenged to build new skills and organizational capabilities across the value chain to meet their company’s new market challenges — and to tie those skills and capabilities seamlessly into their new business model.
To address the generational change looming as the workforce ages, leading utility companies are adapting best practices related to culture and performance from other industries.
Exhibit 7 Methods for improving formal performance enablers
Decision rights Minimized checks and balances on decisions Clear conﬂictresolution mechanisms
Information ﬂows Effective use of metrics to measure performance
Clear decision-making authority Effective decision-making processes
Good vertical ﬂow of information Sufﬁcient information to support effective decision making
Good horizontal ﬂow of information
Workforce and succession planning Strong links between performance and rewards and consequences Performance differentiation Effective setting and cascading of objectives and goals Information sharing forums and mechanisms Few management layers • Quick, responsive decision making • Lower costs • Opportunities are harvested • Healthy culture
Narrow spans of control Effective use of structural integrating mechanisms
Sufﬁcient use of nonﬁnancial incentives Motivators
Generation: A new era of asset development and optimization
Regardless of the current soft power markets, aggressive supply buildout and broad commercial optimization will be bywords of the next decade. Fundamental market forecasting, regulatory-savvy portfolio strategy management, project development, and commercial and assetspecific operating optimization (see Exhibit 8, page 23) will become increasingly important as margins narrow. Current capabilities and tolerance for risk are largely inadequate. Much more sophisticated forecasting and decision-making capabilities will be needed to insightfully assess the interaction of the power, gas, coal, and emissions markets in an environment ever more distorted by regulation. Five capabilities themes are emerging: • Portfolio strategy: A formal, continuous rationalization of assets (upstream and downstream) and contracts, including M&A. • Market forecasting: An increasing emphasis on more sophisticated analysis of market fundamentals and more insightful analysis of interactions and trade-offs. • Project development and management: A decreased reliance on outsourcing of new generation capacity development and the improved management of contractual and execution risks. • Asset optimization: An expansion of capabilities to monetize positions and create appropriate supply and demand organization strategies. • Generation operating performance: An increasing focus on core performance to generate improved internal cash flows from both cost and marginal heat rate improvements.
Portfolio strategy decisions, in particular, will have large impacts on shareholder value and prove especially complex. Several factors — the uncertainty underlying environmental regulations, the commodity fuel market (with its long-term shift in gas and coal environs), and new generation and demand-management technologies — are placing an increasing premium on integrated decision making to achieve supply diversity and balance. Utilities will need to more insightfully assess which generation, transmission, and end-use assets to build, sell, and maintain. This process will have to advance beyond conventional physical integrated resource planning to more integrated, scenariobased portfolio planning based on total economic optimization. Crafting a winning strategy will require a more dynamic and fundamentals-driven approach to economic optimization than is typically available from the traditional deterministic, dispatch-oriented wholesale model. In addition, utilities will have to rebuild their ability to oversee large-scale capital projects to manage execution risk and make the best use of project financing. Perhaps somewhat controversially, we anticipate an increasing emphasis on commercially oriented asset optimization capabilities, such as limited proprietary trading, fuel hedging, and wholesale origination, to extract additional value from the supply portfolio. Notwithstanding the concerns of past years, most utilities require a base level of merchant commercial capabilities to eliminate the “leakage” of asset value into and out of the market and to utilize increasingly available derivatives that will be trading in the market. This will become more important as gas markets stabilize in the future in the US$6 to $8 per Mcf range. Because pressure on earnings is mounting, operating performance will also regain prominence. Generation is the single biggest expenditure for a typical utility, eating up more than half of all operation and maintenance and capital spending budgets. There is significant operational variability across and within fleets. The adoption of best practices in areas such as reliability analysis, outage planning, and heat rate optimization and the increased use of predictive maintenance can trim O&M and capital spending by 5 to 15 percent.
Exhibit 8 The pillars of wholesale value generation
Understanding the market Fundamental market perspective Optimize the Asset existing portfolio optimization Operating leadership Areas
• • • •
Making choices Restructure the portfolio Portfolio growth strategy Extend the portfolio Market leveraging
• Unregulated and
Managing risk Risk management
• • • • • • •
Commodities Customers Regulation Technology
• Generation optimization
VOM, availability • Commercial optimization and dispatch • Capital allocation and management • Fuel management • Outage management • Supply chain management
Acquisitions Divestitures Central generation Project management Emissions infrastructure DG deployment Transmission
• Capabilities—ﬁnancial • • • •
new market entry • Pricing strategies • Fuel integration • Demand data— aggregation and analysis • Energy efﬁciency and services • Proprietary trading
and operational Contract types Hedging Risk tolerance (VaR) Governance and measurement
Questions • Is your viewpoint of the market differentiated? • Is it forward-looking? • Do you have stretch scenarios?
• Are you operating your
• Is your asset portfolio
• Are your regulated
• Are your balance
assets efﬁciently? • Are your costs optimized? • Are you managing your assets dynamically in the market?
aligned with your market viewpoint? • Are there valuation gaps on the buy and sell sides? • Can assets be transacted within a reasonable time frame and cost?
and merchant portfolios balanced? • Is there value in your value chain plays? • Can you originate around positions and extend into services?
sheet and cash ﬂow sufﬁcient to support acquisitions, collateral, etc.? • What is your risk tolerance? • Are you analyzing opportunities in a risk vs. return framework?
Network delivery: The emergence of the intelligent digital network
Each year, utilities spend more than $35 billion and deploy more than 120,000 skilled employees and contractors to expand, replace, and maintain their delivery infrastructure. These numbers are expected to increase rapidly as smart grid functionality extends the capabilities of advanced metering infrastructure (AMI) and distribution automation (DA) backbones. Regardless of the actual pace of this deployment, the digitization of the grid will radically redefine how utilities operate and what capabilities they need to succeed. One of the most difficult management challenges will be determining where — and where not — to deploy this new infrastructure and technology. The temptation to overinvest in the smart grid is great. The duplication of benefits, and the cannibalization of existing business, can turn opportunity into diminished returns. Properly assessing the costs and benefits requires a comprehensive view of how you will operate the network, and how your customers will gain (see Exhibit 9, page 26). Leading companies will be stretched. To succeed, they will have to combine the basics of managerial prowess — operational excellence, cost optimization, and asset efficiency — with new capabilities in extended network optimization and regulatory alignment. They will have to develop new types of value streams, and invest more in technological deployment and in their own innovation and knowledge development. They may accomplish this on their own or through joint ventures and consortia. The redefined transmission and distribution business will be characterized by more predictive capabilities, as well as improved real-time information and decision tools. The opportunity is substantial and will demand the development or redefinition of proficiency in five key areas:
The digitization of the grid will radically redefine how utilities operate and what capabilities they need to succeed.
• Asset management: Asset management will become more differentiated from field operations; basic asset management proficiency will evolve to an operating leadership role. • Process ownership: Increasing end-to-end process ownership across geographic organizations will ensure standardization and best-practice consistency. • Predictive maintenance: Life-cycle asset management will drive improved resource targeting using predictive maintenance practices, rather than preventive practices. • The intelligent worker: Better real-time management of workflow will increase productive wrench time by as much as 20 percent. • Customer-aligned service levels: Field responsiveness will be more closely tailored to customer expectations as utilities make better use of customer insights and abandon one-size-fits-all service models.
Exhibit 9 The future market structure of the digitized grid
Legacy networks • Focus on physical assets • Specialized workforce • Focus on budgets • Asset management at business unit
Data networks • Use of digital assets • System integration • Technical workforce
Intelligent networks • Intelligent grid with real-time monitoring and control • End-to-end digital integration of conditionbased predictive asset management • Knowledge-based workforce
Phase 1 Reliability • Market management • Transmission renewal/upgrades • Distribution renewal/upgrades
Phase 2 Digitization • Distributed energy interconnection • Next-generation metering – AMI Intelligence • Sensing, control, and automation • Intelligent applications
Phase 3 Customer enablement • Load management/demand management • Behind-the-meter applications
• RTO / ISO enablement • Replacement of aging network • Reliability and capacity-driven expansion of constrained network • First-generation upgrades
• Integration of new distributed generation sources • Advanced metering communication and control backbone
• Evolution of the smart grid • Intelligent control penetration into low voltage
• Grid integral to supply management • Behind-the-meter penetration
Customer and retail: Customer insight and a marketing renaissance
Demand-side mandates, despite the less-than-compelling economics of many options, will accelerate the transformation of utilities’ traditional customer-service capabilities. These capabilities will become more like those of cross-industry consumer and industrial marketing organizations. Historically, utilities have treated all customers in a similar fashion. They have offered undifferentiated service, few channels, little customer-specific information, weak integration with field service fulfillment, and limited billing and collection options. Today, a new array of products and services is emerging: active energy management, energy consumption information, networked home and premise controls, real-time pricing, and the general incorporation of intelligence into the systems. To date, utilities’ forays into energy services have had mixed results. Fully realizing end-use potential will require the gradual development of a more sophisticated proficiency in data capabilities and customer marketing. Chief marketing officers will guide marketing and integrate customer service as a tool of the marketing mission. A number of activities will come to the forefront in new ways (see Exhibit 10, page 29): • Customer analytics and strategy: Utilities will place an increasing emphasis on customer knowledge and insight, beyond the demographic and “firmographic” data typically available today. They will focus on segmenting buyers by value-based segments to better understand behavioral motivation and customer preferences, and to customize offerings accordingly. • Product and service management: Utilities will develop the necessary organization and resources to create and manage their product offerings, as well as more effective pricing and sales strategies and tactics. Just as cable television and telephone companies have had to differentiate their products and services from those of other companies, launching innovative products and services of their own, so will energy utilities.
Just as cable television and telephone companies have had to differentiate their products and services, so will energy utilities.
• Sales channel and account management: Utilities will increase the diversity and sophistication of their channels, including greater use of low-cost channels, outbound marketing, and alliance networks. • Customer care and experience: Customer care will be improved through the use of digital, mobile, and social channels for meter reading, billing, payment, collections, technical support, monitoring of outages and problems, and all sorts of contact. Core customer service will be more extensively integrated with broader marketing strategies via cross-selling, real-time access to customer information, and integration with work scheduling. • Integration of marketing and resource planning: Demand management will be fully integrated into resource scenario planning as utilities abandon the siloed mentality in which each function “throws its work over the wall” to the next. Fulfillment, delivery, and marketing execution are core competitive necessities; any company needs them to succeed in this industry. • High levels of back-office and middle-office support: Better customer and retail-oriented capabilities require new types of collaboration with HR, IT, finance, and risk management functions. Utilities will learn to more effectively streamline back-office operations and make use of technology partnerships and alternative delivery models (such as call centers, transaction processing, and fulfillment). For years, leading utilities and energy retailers have been adapting cross-industry lessons to refine the customer experience and improve marketing effectiveness. That practice will expand. In the end, the customer organization will evolve into an integrated customer marketing organization, elevating its position within the utility as a distinct business segment alongside generation and network delivery (see Exhibit 11, page 30).
Exhibit 10 High-level retail operating model and key imperatives
Portfolio strategy (Optimize retail portfolio) Customer analytics and strategy Market intelligence, customer segmentation, customer strategy (Improve customer insights and segmentation to customize offerings) Marketing execution • Brand management • Marketing campaign management • Lead management
Product and service management • Product strategy • Product development • Product management • Pricing strategy • Product partner development (Differentiate product and service offerings and launch smart products and services) Supply demand management • Energy supply acquisition • Outage management
Sales channel and account management • Sales channel strategy • Tech channel management • Key account management (Optimize sales channel strategies and effectiveness)
Fulﬁllment and delivery • Product fulﬁllment • Service fulﬁllment (Explore new delivery models)
Customer care and experience • Meter reading • Billing, payments, collections • Contact channels (Expand customer care with digital, mobile, and social channels}
Back and middle ofﬁce HR, IT, ﬁnance, risk management (Streamline back-ofﬁce operations) Technology partnerships Outsourcing relationships: product, fulﬁllment, call centers, CRM, etc. (Leverage partnerships and outsourcing arrangements)
Exhibit 11 The pillars of wholesale value generation
Tailored solution provider
Technology innovator Customer/utility alignment Meets regulatory service levels Customer awareness Franchise fulﬁllment Satisﬁes regulatory mandates Emerging world Current model Source: Strategy& Customercentricity “Pull” vs. “push”
Corporate services: Evolution to strategic partner
As noted earlier, a fundamental requirement for sustainable, leading performance is strong organizational DNA and associated performance enablers. Clear roles and responsibilities, insightful and responsive decision making, strong people processes, and the attributes of a performance-oriented culture are all important. Utilities, in general, have historically not placed significant emphasis on either their strategic or their foundational performance enablers. They have focused on functional process improvements, and have often responded in fragmented, limited ways to new customer-oriented demands. To date, the industry has been relatively slow to respond to the need for this change in focus. Now, to meet the challenges of the changing market, it is imperative to break this historical tendency. Aspiring leaders will focus on capabilities and governance. They will seek a tight, cohesive, and strategic alignment between their market proposition and their operating model, with enterprise-wide capabilities in support. This means making more aggressive use of leading shared-services concepts, including end-to-end process ownership, the separation of strategic and expertise activities from transactional or “factory” activities, and the adoption of shared-services management techniques (see Exhibit 12, page 33). Corporate services will use simple service-level agreements (SLAs) to define their relationships with users, and will use active demand management and clear cost and pricing signals to promote transparent business trade-offs and a better alignment of demand with economic need. In short, the corporate services function will transform from a transactional service provider to a strategic partner — one focused on performance analysis and decision support. The measure of performance will be how well senior corporate center executives team up with the CEO and line organizations to provide deeper business insight, more comprehensive strategy and policy development, and faster, better-integrated decision making. The objective will be to shift the focus from transactions to strategy, increasing corporate services’ focus to approximately 75 percent decision support and performance analysis, as opposed to its level of 20 to 30 percent today.
To play this role, corporate services organizations will need to develop stronger functional proficiency in eight key areas: • Governance: Corporate services should be managed like a business, as opposed to a fixed cost. The function should be an independent unit with senior executive leadership and clear end-to-end process ownership. • Skill segmentation: There must be a clear delineation between routine, repeatable factory functions and expertise functions. • Customer orientation: Corporate services should treat business units like customers, providing them with the service levels they want, not the levels the staff thinks they need. • Demand management: Corporate services should drive demand destruction, with internal client demand determining the size of the function rather than vice versa. • Service management: Service levels should be actively managed and guided with limited, focused SLAs; performance accountability should be maintained through key performance indicators and reporting. • Price transparency: Each service should have its own price, and clients should determine how much service they want at that price; pricing provides insight into service cost drivers. • Efficient delivery: The services footprint should be consolidated to raise utilization without service erosion; scalable delivery models support flexibility and growth. • Skills-based workforce: Greater emphasis should be placed on analytic skills in the workforce; workers should interpret and assess rather than process and control.
Exhibit 12 An optimized approach to corporate services
Unbalanced approach • More tactically oriented – and fragmented • Weak integration processes • Bottom-up
Balanced approach • Strategic capability – focused • Highly integrated • Top-down – explicit affordability targets
Capability prioritization and performance management
Strategic management and governance
Demand incentives and accountabilities
Demand planning and pricing Functional optimization Functional optimization Active demand management
Developing the transformation blueprint
Utilities need to undergo a radical shift in the way they think about performance if they are to fundamentally redefine the standard of competitive leadership in the industry. Most companies, however, have addressed this need with narrow, incremental improvement programs. They tweak the organization within a weak framework for the business and operating model, thus providing little lasting change. These traditional approaches focus on historical benchmarking and incremental process and organizational change. True and sustainable success, however, depends on a comprehensive, integrated, and systematic alignment of the organization around strategy, capabilities, and performance-enabling organizational DNA. Failure to develop any one of these elements can be fatal in the long term. Skeptics will say that predicting the future is an exercise in uncertainty, while the underlying pursuit of performance leadership is timeless. In principle, this is true. Transformation is not new — but a capabilitiesbased approach to redefining performance, with an eye to the current climate in the industry and a base of educated assumptions about its development, is a radical innovation (see Exhibit 13, next page). It is not easy. Management theory has consistently addressed the question of managing change, but most change programs, large and small, fail to meet expectations — or fail to sustain the gains made. Considering that the challenge is only getting tougher, utilities will need to move beyond what they have tried in the past.
Exhibit 13 Elements of successful performance transformation
Traditional • Delegated to middle management • Incremental cost reduction and/or revenue enhancement • Series of initiatives—many conﬂicting, disconnected; no unifying vision • Decision by committee—no deciders • Transformation is hidden from organization—speculation rampant • Change imposed too quickly— consequences not anticipated, not proactively managed • Narrow focus on performance— for example, cost
Future • Led by committed, active senior executives • Focused on lasting step-changes in value creation—changes are visionary • Comprehensive integrated programs— guided by clear blueprints and action plans • Tight governance/clear decision-making and issue-resolution processes • Over-communication • Managed change paced to the organization’s capacity to absorb change • Transformation addresses all elements of organization performance Source: Strategy&
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This report was originally published by Booz & Company in 2012.
© 2012 PwC. All rights reserved. PwC refers to the PwC network and/or one or more of its member firms, each of which is a separate legal entity. Please see www.pwc.com/structure for further details. Disclaimer: This content is for general information purposes only, and should not be used as a substitute for consultation with professional advisors.