Fit for the future: how the power and utilities industry is facing up to transformation challenge

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1 Article Fit for the future: how the power and utilities industry is facing up to transformation challenge 10 Volume 5 Issue 1

2 Imagine being able to take the world s most-proven industry processes and measure how far you need to go to adopt them as your own. Imagine being able to pinpoint where performance improvement is most needed in your business and having certainty that spend will be targeted where it will make the most impact. That is reality right now in the power and utilities industry. Authors Al Galiunas Senior Manager Advisory Services, Ernst & Young, US Jens Grabow Assistant Director Advisory Services, Ernst & Young, Germany Henry Kinler Senior Manager Advisory Services, Ernst & Young, US 11

3 Article Globally, the utilities sector is having a pretty tough time. It is undergoing a massive transformation and needs to invest at least US$16.9 trillion 1 in power supply infrastructure by Squeezed by the credit crisis and global recession, its cash flow and revenues are reduced; yet, come the recovery, demand for energy is expected to escalate and even exceed forecasts. The sector faces a delicate juggling act to ensure that hard decisions are made today, so that it is sufficiently lean, clean and able to meet that future demand. Breaking with the past, on budgets with little elasticity, utilities have to wake up to the fact that they can no longer continue with business as usual. High on the list of priorities is replacing aging infrastructure in developed countries. However, many utilities, dissuaded by market conditions, are confused about where best to invest and are relying on existing infrastructure to get by. Meanwhile, those countries with growing energy needs have no choice other than to build new capacity to meet demand. China, for instance, consumed less than half the energy of that by the US in 2000, but is now the world s largest consumer. It is projected to consume nearly 70% more than the US in Meanwhile, rapid economic and population growth in India is expected to see the country s energy demand double between 2009 and World Energy Outlook 2011, International Energy Agency. 2. World Energy Outlook 2011, International Energy Agency. There is continuing demand from government and the public for green and renewable energy production to reduce carbon emissions and combat climate change. Smart grids that balance energy supply and demand, while integrating alternative and renewable production, figure highly on the wish list too. Of course, such transformational challenges put further pressure on already limited funds and increase the complexity of technologies needed to operate in this evolving market place. However, despite such lofty aspirations, it seems that the utility sector is thwarted on a number of counts: Reduced revenues. As manufacturing and production slow, there is less demand for energy from all sectors resulting in a drop in revenues. Volatile energy prices. Natural gas prices in the US, for instance, are at 10-year lows as hydraulic fracking opens up immense and significantly cheaper shale gas reserves. This, in turn, puts producers decisions to invest in alternative renewable production, such as wind and solar, lower down on their priority list. Increased scrutiny from investors. This means investment is hard to attract. Need to demonstrate return on investment value. This is a particular issue for investment projects along the value chain, but notably for US utilities that, faced with cheap natural gas prices, struggle to generate interest in smart meter projects. Rising labor and construction costs. Stringent environmental regulation demands. For example, the Environment Protection Agency (EPA) imposes laws that force US utilities to re-evaluate and even retire power plants that do not meet clean emissions criteria. Regulators restricting rate increases that might, otherwise, fund investment in new infrastructure. Generally declining public tolerance of large-scale infrastructure, including plants, wires and pipes. 12 Volume 5 Issue 1

4 Fit for the future: how the power and utilities industry is facing up to transformation challenge Given the cash demands on utilities, PUMMA can help to take some of the guesswork out of where to target investment. How can this sector deliver all that is expected when constrained on so many counts? This is, after all, an industry that has not needed to change for more than a century and where infrastructure assets have life spans of up to 50 years. Breaking with the past, on budgets with little elasticity, utilities have to wake up to the fact that they can no longer continue with business as usual. They have to think differently about what they do and how they do it in order to improve legacy systems and processes, enhance performance and ultimately ensure that they can operate successfully in the future. What good looks like Process transformation takes many guises and companies are responding to multiple drivers to re-energize their businesses; create leaner, smarter and more efficient operations; and to extract value from existing resources in order to drive profitability and competitive advantage. Drivers include: Demands from regulators and changing government policies that require utilities to enhance their efficiency, environmental performance and customer service Cost pressures that require utilities to operate leaner and more streamlined processes in order to preserve margins; this, in turn, frees up capital to fund investment in other business priorities Competition from existing and emerging players that drives utilities to protect and enhance market share and to become more agile and able to respond more quickly to changing market dynamics Innovation challenges, such as the transformation to smart technologies, which require investment and resources Merger and acquisition opportunities that prompt companies to review their structures, finances, working capital and assets and to shed duplication by identifying common ground and economies of scale KPIs and benchmarks Process PUMMA IT systems environment Risks and controls Maturity models PUMMA Ernst & Young s Power and Utilities Maturity Model and Architecture Of course, one way of improving performance is to emulate or improve upon the standards set by better-performing peers. Such comparative analysis can help utilities to review the processes that will make their transition to new business models smoother, faster and more efficient. Ernst & Young s Power and Utilities Maturity Model and Architecture (PUMMA) does just that. 13

5 Article Simply expressed, PUMMA is a template for what good looks like. It is a repository of global industry data 3 that defines the processes and process flows across the principal activities at top performing utilities. It classifies process maturity from basic to leading practice and enables utilities to gauge how far they need to progress in order to achieve an optimal level of performance. Simply expressed, PUMMA is a template for what good looks like. Sitting on top of existing business models, it provides a blueprint for a desired future state by helping to identify potential weaknesses in the existing workings and pinpointing where to put things right, without detours or misguided expenditure. It can be used on single or multiple processes. So, a utility that is concerned about the reliability of its distribution network assets might use PUMMA to benchmark its process maturity against the industry s top performers. It helps the utility to look objectively at its as-is network processes and to identify where they might become more competitive. Or a utility might take a wholesale approach, using PUMMA to systematically benchmark its sophistication across all endto-end processes, so that it can identify deficiencies, strengthen its underlying architecture and bring its entire process performance up to industry-leading standards. PUMMA is especially useful in these very traditional businesses where legacy practices, built up over a number of years, need to be unwound, simplified and recalibrated to fit a future-looking model. It helps businesses objectively assess existing capabilities and make choices about what needs to change in order to move forward in the industry transformation. In some processes, such as finance and marketing, achieving similar process standards to other players is perfectly acceptable there is nothing to be gained from overperformance. However, in more critical processes, excellent performance will drive customer satisfaction and profitability. And, given the cash demands on utilities, PUMMA can help to take some of the guesswork out of where to target investment. It highlights those areas with the widest maturity gaps and those with most potential for high-value returns, enabling utilities to direct their spending effectively and prudently. So, a utility undergoing a maturity assessment of its supply chain will have its processes ranked from basic to leading practice. By mapping available budget to maturity weaknesses, return on investment can be projected and appropriate adjustments made to the existing business model. Unlike other models, PUMMA defines the operational risks inherent in specific processes and the controls that top-performing utilities typically employ to mitigate or prevent them. This repository of risk and control data means that utilities do not need to reinvent the wheel. Rather they can adopt and replicate proven practices and controls to best protect their operations; to close loopholes that may expose the business to risk and to free up resources to focus elsewhere. As a global model, PUMMA takes into account leading functional practices across the power, gas and water industries. It consolidates in-depth professional experience at some of the world s leading P&U companies rather than having a specific geographic or industry bias. It can also be used to analyze IT systems commonly found in utilities and to assess their ability to cope with business-led change initiatives. In short, PUMMA is a tool that helps to accelerate the journey from A to B. It encapsulates the right guidance, practices and process information that will help businesses optimize performance to cope with the industry transformation. Managed by the Ernst & Young team, it is a standard element of our service delivery rather than an add-on, enabling a utility to: Explore what it needs to improve and by how much in order to achieve industry-leading standards Discover and address performance issues Prioritize investment so that money is spent appropriately and gainfully in pursuit of business goals Identify and minimize gaps in risks and controls Highlight opportunities for ongoing improvement 3. Data is derived from Ernst & Young professionals experience with power and utility companies around the world, leading industry practices and information from the American Productivity & Quality Center (APQC), a third-party organization focused on benchmarking, knowledge management, measurement and process improvement. 14 Volume 5 Issue 1

6 Fit for the future: how the power and utilities industry is facing up to transformation challenge Time to make a difference Even though it can take time to shake off old behaviors and adopt new ways of working as part of an overall transformation plan, results can be relatively quick due to the elective nature of the PUMMA approach. Those utilities seeking to measure the maturity of specific operational processes and implement improvements can expect to realize benefits in a matter of weeks. Changes to risks and controls will take a little longer. However, a wholesale assessment and realignment of the underlying architecture as a foundation for utility-wide improvement will be a fairly lengthy undertaking but is delivered as an intrinsic part of the relationship with the Ernst & Young Power and Utilities team. In the meantime, global knowledge from client engagements and other metrics, such as risk and control information, is constantly fed back into PUMMA. This keeps our repository of leading practice data current. It means that clients can confidently test the maturity and sophistication of their own performance and target investment appropriately as they progress through the industry-wide transformation and emerge fit for the future. 15