Once P&U organizations understand the implications of their most important risks, they may determine that the risk exposure is too significant to mitigate. Divesting or exiting may be the most appropriate strategic response.
However, if they choose to manage the risk, there are four primary routes to consider:
Given the state of readiness (or lack of it), particularly as it relates to top strategic risks, this appears to be a typical model. Disruptive change has the potential to undermine asset values across the entire value chain — so utilities need to determine how to finance losses, should they occur.
For instance, we have witnessed significant asset impairments recorded by European utilities in recent years driven by write-downs of underperforming fossil fuel assets, which struggle to compete with highly subsidized, low-marginal-cost renewables.
Utilities looking to be more proactive can undertake actions that help reduce the likelihood of the occurrence or the severity of the impact. This may involve working with regulators to evolve the current approach to create incentives for utilities and third parties to invest more in innovative technologies, including distributed renewables, batteries and energy efficiency.
We have seen examples of performance-based regulatory initiatives, such as the UK’s RIIO framework and New York’s Reforming the Energy Vision strategy.
Some pioneering utilities looking to get ahead of the risk — and their competitors — are electing to increase their exposure by exploiting emerging risks. This may involve making structural changes to their business models.
In recent years, the major German utilities have exercised this option by separating traditional nuclear and fossil-fuel generation businesses from their renewables and retail service side.
When a utility doesn’t like the profile of a certain risk but doesn’t want to avoid it entirely, it has the option of partnering or contracting with third parties to share the exposure.
In the US, master limited partnerships (MLPs) have proven to be especially suitable for financing midstream natural gas pipeline infrastructure. MLPs provide a pass-through tax structure and lower cost of capital, which lowers the financing risk for capital-intensive projects.
Preparing for the future of P&U
The changes facing the P&U sector will bring new challenges and fresh opportunities.
To chart a course toward a future P&U world — one that seizes the potential upside of disruption — organizations need to measure and fully understand the inherent and residual risks they face across financial, strategic, operational and compliance categories.
They need to develop an effective strategic response that allows utility boards and executives to make informed decisions about their risk posture — whether to accept and address the risk or eliminate it altogether.
But, most important, is that P&U organizations need to prepare today to avoid a future trajectory into obsolescence.
So, what’s your plan for managing the new strategic risks that are fast approaching?
Take the risk pulse of your own organization
Read our other survey results and deep-dive articles to learn what your peers are saying about key risks in the financial, operational, strategic and compliance categories. Take the opportunity to have your say by completing the EY Global Power & Utilities Risk Pulse Survey on behalf of your organization or find out more about how our risk and cybersecurity professionals can help.