FOLIOWIRE
Project Portfolio Management not only
helps utilities create
more value from their
portfolios, it can
facilitate transformational change -- a key
success factor in the
advent of the smart
grid.
Smart Grid & Utility
Project Portfolio Management
Lee Merkhofer, Ph.D.
Folio Technologies LLC
Project portfolio management
(PPM) is a tool supported process
by which organizations select projects and manage project portfolios using techniques similar to
those employed by financial managers to optimize investment portfolios. Organizations, including
utilities, are adopting PPM mainly
because it enables them to make
better project choices and,
thereby, create more value while
reducing risk.
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However, PPM offers another
advantage that at times can be
extremely useful: when appropriately implemented, PPM can intelligently drive transformational
change. In other words, if your
business is currently at Point A
and you wish to get to Point B,
PPM can help ensure that you
follow a reasoned and effective
path to your destination. A timely
example is provided by electric
utilities that are developing PPM
approaches that will help them
create the smart grid.
Smart Grid
Smart grid is, of course, the term
used to describe the envisioned
implementation of an everexpanding set of computing and
communication technologies for
automating and improving the
control of electricity distribution.
Many see smart grid as the key to
national efforts to improve reliability and efficiency, accommodate renewable energy sources,
further energy independence, and
reduce greenhouse gases.
Smart grid is an explicit goal of
U.S. energy policy. Thirty states
have adopted renewable energy
standards, which require a predetermined amount of the state’s
energy mix (up to 20%) to come
from renewable sources by as
early as 2010. Cap and trade
legislation, if passed, will increase
the costs of traditional energy.
The Department of Energy has
announced the availability of $3.9
billion in grants for modernizing
the electric grid. Clearly, there is
plenty of top-down momentum
for smart grid.
States with renewable or alternative energy
standards (as of July 29, 2009)
Source: Pew Center on Global Climate Change
Utility Choices
But smart grid will need to be
constructed from the ground up.
Utilities have been criticized for
“dragging their feet” with regard
to smart grid, but it makes sense
for utilities to be cautious when it
comes to investing limited resources into new and unproven
technologies. Utilities must be
able to demonstrate to investors
and regulators that the projects
they undertake produce benefits
that justify costs.
Customer and Societal
Benefits
Suppose, for example, that a proposed smart grid project would
reduce the frequency or duration
of outages. Conducting that project would enable the utility to
avoid the revenue loss associated
with failing to deliver the expected power, but this benefit to
the utility is much less than the
larger benefit to customers who,
for example, might lose perishables in their refrigerators if an
outage is prolonged. Similarly, a
smart grid project that would
lessen electrical demand would
reduce the amount of pollutants
discharged from petroleum-fueled
generation plants. This, in turn,
could produce environmental and
health benefits for society at large,
but the main impact to the utility
would be reduced revenue.
Prioritizing Smart Grid
Projects
Recognizing the bias inherent in
traditional utility-centric, project
evaluation methods, a growing
number of utilities, including
Washington State’s Puget Sound
Energy (PSE) and Pennsylvania’s
PPL, are adopting PPM approaches that explicitly quantify
customer and societal benefits.
For example, Martha Dodge,
PPL’s Senior Director for Planning and Engineering, states,
“Our prioritization model values
A challenge for utilities considering smart grid projects is that the
main benefits of smart grid investments are customer and societal benefits, benefits that are not
reflected on utility balance sheets.
Given economic realities and lack
of assurance that utilities will be
able to recover investment costs, it
may be tough for utilities to make
a business case for many socially
desirable smart grid investments.
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projects from the customer’s perspective. How much benefit will
the customer derive from the proposed project?” Customer benefits that are quantified include
customer cost savings and the
value to customers of improved
electric service reliability.
The models or tools that these
utilities are using value projects in
two steps. First, templates are
provided to facilitate the estimation of the impacts of proposed
projects on customers and others.
For example, if a project improves
reliability, how many customers
will be impacted and by how
much will the frequency and/or
duration of outages experienced
be reduced? If a project reduces
emissions from burning fossil fuels, how much less fuel will be
required?
The second step is to translate
customer and societal impacts
into equivalent dollar values. Although the dollarization of benefits is difficult, utilities can leverage results from academic research, other industries, and the
government. For example, numerous studies have quantified
the value to customers of avoiding outages, government agencies
have recommended values to
place on health and safety, and
the auto industry has developed
assumptions for quantifying the
social benefits of reducing pollution.
Source: PPM Maturity of Senior Managers
Center for Business Practices Research
© 2009 Folio Technologies LLC. All rights reserved.
For completeness, the models also
include other hard-to-quantify but
potentially important benefits. For
example, projects can impact the
stakeholder perceptions of the
utility and create goodwill in the
marketplace. Such perceptions
are important because they can
affect funding in equity and credit
markets and impact the utility’s
ability to obtain necessary project
approvals. Likewise the models
typically account for risks and
allow project value to be adjusted
based on the utility’s risk tolerance. Smart grid risks that concern utilities include network security breech, infrastructure obsolescence and communication reliability.
Finally, since there are often interdependencies among proposed
smart grid investments (obtaining
full value requires implementing a
suite of related projects), the
models allow scenarios of phased
investments to be investigated to
support long-term strategy
choices.
The models for valuing projects
should be designed collaboratively
by a team composed of individuals whose understanding encompasses all of the diverse needs that
motivate projects and the wide
range of impacts that project decisions have on the business. As
Mark Velicer, PPL’s Senior Direc-
tor of Finance and Regulation,
notes, “It is important to engage
stakeholders in the design of the
model, to establish buy-in and
ownership, and to ensure that all
sources of project value are represented.”
Enabling Change
Including customer and societal
benefits, as well as risk, in project
valuations allows utilities to prioritize smart grid projects together
with more traditional, low-tech
capital and maintenance projects.
But utilities that are taking this
course are realizing another advantage: they are finding that the
process of designing their PPM
approaches, particularly the step
of agreeing on the logic for evaluating and prioritizing projects,
promotes culture change that will
help them to play the role of
gatekeeper for many smart grid
projects. Specifically, when executives back a project evaluation
process that puts substantial
weight on creating value for customers and society, they provide a
clear message to their managers
and staff about where effort
should be focused.
Also, utilities are finding that the
adoption of an explicit logic for
valuing and prioritizing projects
helps them respond to external
demands to explain their choices,
especially important if rate increases are needed to make smart
grid investments viable. Including
customer and societal benefits
when valuing projects is attractive
to regulators and consumer advocates.
Lastly, the approach provides a
pragmatic means for encouraging
the implementation of smart grid
projects that make the most sense
for specific utility situations.
When a utility identifies a project
that, although not economically
attractive to the utility, would
generate high customer or social
value, the utility can alert regula-
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tors and government agencies and
seek help in the form of pricing
flexibility, cost recovery, or subsidies to make the socially desirable
project financially viable for the
utility. If regulators disagree with
the logic used by the utility to
value customer and societal benefits, they can suggest changes to
the value models. Regardless, if
PPM can assist regulators and
utilities in obtaining agreement
over the value and priority of
proposed projects, it will certainly
facilitate the development of the
smart grid.
In conclusion, PPM provides a
pragmatic, bottom up perspective
to complement the top-down
push for smart grid. It will help
utilities and regulators maintain a
clear vision of the desired destination and ensure that the path forward will realize value at every
step along the way.
Lee Merkhofer is Managing Director of
Client Services for Folio Technologies, based
in San Francisco, CA. He is a well-known
author and practitioner in the field of project
portfolio management. His academic credentials include an M.S. in Electrical Engineering and a Ph.D. in Engineering Economic
Systems from Stanford University.
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© 2009 Folio Technologies LLC. All rights reserved.