An “Empire State” Model for Ontario’s Electricity Sector?

Aleck Dadson

A number of headlines have been written about Ontario’s electricity sector in recent months. Generally, these have speculated about possible transactions in the sector, like the privatization of Hydro One.  But behind the headlines, there are a number of changes afoot in the electricity sector that could have far-reaching implications for utilities and their customers.

Fifteen years ago, during the restructuring of the Ontario electricity sector, the debate centred on the respective roles of markets and government agencies, the disaggregation of Ontario Hydro’s generation, network and system operation functions, and the creation of a new retail electricity market modelled on the province’s retail natural gas market. Through all of those discussions, electricity distributors remained largely on the sidelines, shut out of any role in procuring energy for their customers and restricted from pursuing new business opportunities.

But recently the discussion in Ontario has shifted. Changes in public policy, regulation, technology, and customer expectations have brought electricity distributors off the sideline and into the game. For example, the Ontario government has already given distributors broad new responsibilities for: conservation, smart meters, the connection of renewable generation, the implementation of the “smart grid” and the costs of upgrading systems to accommodate renewable generation resources. In addition: new demand management technologies are altering consumption patterns; climate change and extreme weather events, like the 2013 ice storm, have heightened interest in the availability of local power supplies and the resiliency of the grid; social media has empowered electricity consumers to seek redress for prolonged outages, poor service and billing errors; and many unregulated affiliates now offer an array of sophisticated services and technologies alongside incumbent distributors.

Much of this has happened without great fanfare or bold statements from the regulator or government. Perhaps this quieter approach has been beneficial given the diversity within the province’s distribution sector. It has left it to each distributor to persuade its customers – and ultimately the OEB – about the business case for making major investments in their distribution systems.

But a number of questions remain unanswered: How should we balance an interest in promoting innovation with the interest in ensuring the equitable recovery of our legacy system costs – costs largely related to that portfolio of centrally-procured resources? Will there be a need to rethink the way we regulate, incent performance, and set prices for distribution service? How should distributors account for the prospect of this transformation in their own business planning?

We should be discussing all of these issues in Ontario, as each of them will have important implications for the future. While doing so, Ontario should be paying close attention to what other jurisdictions are doing.

South of the border in New York, for example, a paradigm shift is under way in the state’s electricity sector. At the end of February, the New York regulator approved a “new energy vision” designed to speed up the integration of “distributed energy resources” – micro-generation, demand management services and new retail offerings – into the market. The rationale is that the rapid integration of such resources can yield real value for consumers and long-term benefits for the economy and environment.  The incumbent utilities have been given responsibility for operating the platforms needed to integrate those resources. In the interest of kick starting that process, the New York regulator put aside earlier concerns about giving this powerful role to the incumbents.

These developments raise questions about the business model for electricity distributors in Ontario: Should Ontario adopt the same approach as New York? Would it unleash innovation in the distribution, micro-generation and demand management services available to consumers? Would it attract to the sector new players able to squeeze out new efficiencies for the benefit of consumers? Or would it simply allow some customers to bypass the legacy costs associated with the distributor’s existing assets and the province’s portfolio of centrally-procured generation assets? Could it, in turn, affect the risk profile of the electricity distributors, impacting their financing costs and suitability for municipal ownership?

While our neighbours to the south may not have all of the right answers, their experience should highlight some of the questions that remain unanswered in connection with Ontario’s own reforms in the electricity sector. The trade-offs that the New York regulator was prepared to make provide a model which could help chart the course for what would be appropriate for Ontario.

Aleck Dadson is the Energy and Utility Practice Group Leader at StrategyCorp, a Toronto-based consulting firm, and former Chief Operating Officer, Ontario Energy Board.