DANGER: HIGH VOLTAGE!
Article originally appeared in Texas Town & City Magazine, July 2018
It seems like just about every other week I hear a new horror story from a city department head about energy procurement. He or she negotiates what seems like a straightforward deal and then, when it comes time to sign, unexpected add-ons mysteriously appear in the contract. I also hear countless complaints about solicitations to cities for their energy business — solicitations that are usually unrequested and often confusing.
Ralph Waldo Emerson, the famous American enlightenment thinker, once wrote that self-trust is the secret to success. Although Emerson was never a leader in city government, I still think his advice is instructive. If you have responsibility for buying electricity but remain unsure about how to proceed or whom to trust, then first, please, as a leader, find a way to trust yourself.
This makes self-education essential — self-education about the complicated energy market in Texas, its players, and even its history. Effective leadership means entering into the procurement process armed with facts. Only then can you succeed.
And so, in the grand spirit of city government and American enlightenment thinking, I present for you here what I call my “five leadership keys for electricity procurement.” Every city department head responsible for procuring power should be familiar with them.
Leadership Key Number One: Know History
Texas deregulated its retail electricity market in 2002. From that point forward, Texas residential and commercial customers — including city customers — possessed the ability to choose among competing electric providers. The underlying premise of deregulation is that healthy competition should keep a lid on prices. Although the state’s transmission and distribution utilities (TDUs) remained rate regulated under the new system, retail electric providers (REPs) could set their own prices. The new market also allowed continued competition among the big wholesale power providers.
For cities, this complicated new market brought with it opportunities and challenges. Be ready for them. Senate Bill 7, the 1999 law that deregulated the state’s retail electric market, specifically allows cities and other political subdivisions to unify in aggregation groups to negotiate better deals. But the new law also threw cities and their citizens headfirst into an often bewildering sea of competing market players, pricing deals, and rules.
Leadership Key Number Two: Know the Players
Sell electricity directly to retail customers and then arrange for the procurement of that electricity from the wholesale power market. When selecting a REP, be sure to consider both their offered price and the company’s service record.
Are companies or individuals that, for a fee, will sort through REP deals on your behalf, and return with a recommendation for action. (Some energy consultants also fall into this category.) When dealing with brokers, it’s important to understand whether they have any pre-existing relationships — financial or otherwise — that might cause them to favor some REPs over others. Texas Coalition of Affordable Power, to date, has not seen a broker provide offers from all REPs, so there is no assurance that multiple offers represent the best offers in the market.
Are like buying clubs. These are organizations that combine the load of numerous political subdivisions and then shop that load into the market. Again, it’s important to consider whether the aggregator operates as a non-profit, its record of service, and the amount of its aggregation fee. Also, check what additional services the aggregator offers.
Leadership Key Number Three: Understand Pricing and Deal Options
Electricity prices can be variable or fixed, or a combination of both. Although variable-priced deals (if based on spot market energy) may result in lower average prices over the long run, most cities will not or cannot tolerate the inherent risk of extreme price volatility that can come with spot market prices. That’s why almost all cities sign fixed-rate deals or fixed-rate deals with a variable component. But these deals also can have a downside. For one, your city is committed to sticking with any long-term deal it signs, even when spot market prices drop for prolonged periods. Although it’s sometimes possible to offset a high fixed price with a blend-and-extend contract option, be aware that this option also has its own risks and can result in a city paying above-market prices for months or years.
Your city’s energy bill is comprised of two primary components: transmission and distribution utility charges; and energy charges. The first is regulated by the Texas Public Utility Commission and is non-negotiable. Be wary of anyone that tells you otherwise. Energy charges, by contrast, are a function of the free market. But proceed here with caution. Companies may offer you a low-ball kWh price to win your business, but may omit various additional charges that make a big difference. These additional charges will vary from offer to offer and greatly complicate apples-toapples comparison shopping.
A good understanding of market prices, both historic and current, also is useful — as well as of critical aspects of the market. For example, you may be offered the option to treat “congestion costs” (be sure to read your contract, as this term has many different definitions) as either a fixed adder included in the price or a pass-through that fluctuates. Which is better? That depends on the cost to achieve the fixed-price adder and whether this cost is similar to historic actual costs.
One other note: fees charged by brokers, consultants, and aggregators sometimes are expressed in “mils” per kilowatt hour. A mil in this context is not a penny but a tenth of a penny. Understanding where the decimal point goes — that is, the massive difference between one cent per kWh and one mil per kWh — is essential when comparing broker or aggregation fees. Also be sure to check the impact on your bill of these fees. What looks like a very small amount on a per kWh basis can become very large when multiplied by potentially millions of kWh’s of annual usage.
Leadership Key Number Four: Know Your Procurement Options
Although cities are exempt from most competitive purchasing requirements when buying electricity, that doesn’t mean a well-crafted Request for Proposal (RFP) can’t help you get a great deal. But also know that copying some other city’s specs and putting them out to bid can lead to bad results — especially if that other city lacks specialized knowledge about energy procurement. Again: self-trust is the secret.
When drafting an effective RFP keep in mind that electric pricing offers typically remain valid for only for 24 hours, or even less. This means that if your city elects to procure electricity through an RFP, you will have to arrange for immediate council action on the day the responses come in.
To avoid the potential confusion that this entails, you can request indicative pricing from all bidders and then use those offers to narrow the field. The providers left standing then submit new bids on the day your council or board has the item on its agenda. (Be aware, however, that some market providers are aware of this strategy and will provide loss-leader indicative prices just to make the short list and get on the council agenda.)
Another strategy is to employ reverse auctions, wherein your city announces that it will accept bids on a specific day. While this approach can result in achieving a competitive price, there is no assurance that market prices will be favorable on the day of the auction. Reverse auctions also are not necessarily effective approaches to achieving favorable contract language.
And finally, some cities will select an energy provider with a commitment that the final price not exceed a pre-determined limit. The governing body then transfers authority to the appropriate manager to close the deal within a specified time frame, and only if market conditions warrant. If the price isn’t acceptable during that time period, the deal is scrubbed and the procurement process starts again. This approach can work through a modified RFP process and with other systematic processes for procuring energy.
Leadership Key Number Five: Don’t Forget the Fine Print
When shopping for electricity, be sure you have a clear understanding of what you expect to be included in the kWh price and what you will entertain as fluctuating passthrough costs. Be sure to include the sorts of services you expect to have included and be prepared to object to those fees you want excluded. Another good idea is to ask for clear definitions of pricing components such as congestion costs, system losses, and retail adders.
Some providers will offer specialized services, such as assistance to your city if it has technical problems with its bills. Some may have experts available to help your city comply with relevant state reporting requirements. Be sure to inquire about these services and ask whether the associated costs of providing them are included as part of the all-in price. Keep in mind that some contracts include service thresholds or technical contract stipulations that trigger extra charges. Also inquire about any charges your city might incur for adding or deleting metered service for newly commissioned or decommissioned municipal facilities.
So, know your history, know the players, understand the deals, understand procurement options, and read the fine print — these are my “five leadership keys for electricity procurement”. But all five can be summed up with a single word: education. Effective leaders educate themselves about the market, its key players, and the contracting process. Effective leaders look out for the gotchas and never forget that, as long as they remain informed and clear-eyed, they hold the keys to success.
About the Author: Jay Doegey
Jay Doegey is the executive director for the Texas Coalition for Affordable Power. Prior to this position, Doegey was the city attorney for the City of Arlington from 1986-2014, and has been an advocate for cities particularly in the area of utilities.