Challenges of Supply Portfolio Management

Introduction
The macro operating environment for power companies has changed dramatically in recent years. Renewable energy is increasingly competitive with fossil fuels. Distributed energy (behind-the-meter resources) is unending the economics of the grid. Climate change is presenting new threats to power systems and their regulatory models. Further, companies that outsource supply management face billing surprises through third parties. The standard rate-making regime, with a predictable tariff structure, is being asked to integrate new performance-based metrics into utility revenue models. Examples include standards or metrics for energy efficiency, customer engagement, and sustainability.

Public Power Impact
While Public Power may be somewhat insulated, given its non-profit structure, both Generation & Transmission and Distribution companies are still subject to internal and external changes and threats. This is true for those who take an active or passive risk approach to supply management and for those who manage risks internally or outsource externally. Most importantly, opting for third-party load management doesn’t assure sound risk management by the selected vendors because settlement data is not made available. Significantly, all this is happening against a backdrop of stagnating electricity demand and during a period of weak commodity prices.

Risk Exposures/Impacts by Category

1. Customer Opt-Outs Create Demand Volatility: Customer “opting out” can change the public power load profile (either energy or peak load). Risk Managers may increase financial reserves to handle opt-out customers. Risk Managers may adjust risk exposure of open positions (both physical and hedge) to compensate for opt-out customers. Further, marketers and other utilities put pressure on rates for key customers. Not to exceed pricing changes terms and conditions for third party suppliers and the types of price hedges offered in the market. Rather than change rates, public power groups may wish to alter procurement strategies to maintain their competitive rate structure.
2. Market Risk: Given new supplies from distributed and renewable resources, there is uncertainty of financial performance due to variable market prices and price relationships (basis risk from different sources). Requires regular management review, approved procurement strategies, and sound limit structures are required to manage these risks.
3. Regulatory Risk: Legislative/Regulatory proceedings and directives impact the operating environment. Renewable portfolio standards, distributed resource requirements and storage incentives have triggered different portfolio mixes over time.
4. Volumetric Risk: Both supply and demand volume fluctuations require different portfolio tools. Operating reserve increases to manage variable resources may be required, but embedded within third party contracting. Risk managers may need to quantify variability in procurement timing and costs in supplier negotiations. We have found that customers are adopting/modifying formal procurement strategy, monitoring trends in customer onsite generation (distributed energy resources), assessing impacts of economic shifts, and adjusting for changes in customer volume/composition.
5. Model Risk: Several customers have developed and re-trained advanced forecast models to account for surprises in energy and capacity. Testing and improving forecast errors have become more complex with demand and supply delivery risks.
6. Operational Risk: Uncertainties in the macro environment have led to surprises in operations including human resources, technical resources, systems, and/or operating procedures. This is a big impact to insurance and oversight by third party insurance carriers.
7. Counterparty Credit Risk: Suppliers have become cost conscious creating potential controls issues. Control counterparty credit risk is usually controlled through strict limit controls established by credit policy, but many public power groups are seeking further information upstream from system, energy and other third parties in the supply chain.
8. Risk Measurement Methodology: Most public power risk managers are reporting identification, measurement and communication of risk to stakeholders. Risk Managers routinely quantify risks associated with procurement-related business activities and performance relative to goals. Some risk managers have been calculating projected procurement costs on an annual basis at various probabilities and “stress testing” for extreme climate conditions such as hurricanes or wildfires. Most Risk Managers will re-evaluate methodologies on a periodic basis to reflect changing/evolving regulatory regime and competitive landscape.

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Conclusion
Managing supply and demand in a rapidly changing environment is much more than a daily system and load-balancing challenge. The old adage, you can’t manage what you don’t measure is more applicable than ever. Whether it’s the competing regulatory dissonance between Federal and State mandates, the necessity of carbon transition, the competition for and retention of customers threatened by new entities (community choice aggregation), or customer demand for higher green content, an active approach both to internal and external management of power distribution requires constant vigilance.