Ebook The Outsourcing Option: Are There Some Gas Utility Functions That Others Can Do Better?
In fulfilling their obligation to serve the public, utilities carry out numerous activities that require many skills and areas of expertise. As in any business, some of these activities are performed in-house and some are outsourced. The utility regulator’s responsibility is to establish performance expectations and ensure compliance. Utilities should do what they do best; what they cannot do best, they should outsource or contract to others. Regulators must assess whether the utility’s decision about what activities to keep internal and what activities to outsource achieve this standard.
The premise of this paper is that regulators should periodically ask the question ?Are there some utility functions that others would perform better and then create regulatory policies that induce the utilities to answer this question in a manner consistent with the public interest. Regulators therefore should assess outsourcing and then encourage or discourage it based on whether it enables the utility to carry out its functions more effectively. To carry out this assessment, regulators need to understand what outsourcing is, along with its positive and negative aspects.
Outsourcing occurs when a firm buys a product or service from an outside supplier. Sometimes a firm has previously performed an activity internally, but for business reasons decided to contract it out to another entity. U.S. firms, large and small, have outsourced a growing share of their business since the 1980s, frequently to foreign entities.
Regulated utilities have become part of this phenomenon. Over the past two decades, they have increasingly contracted once-internal functions to outside firms. One form of outsourcing in the natural gas industry involves what is called ?asset (or capacity) management, in which the gas utility contracts with an outside firm to manage the utility’s unused capacity. The specific gas-utility functions addressed in this paper are gas procurement and management of pipeline and storage capacity.
The major issues examined in this paper include: (1) the rationale for outsourcing; (2) downsides to outsourcing that could harm a utility’s customers; (3) the utility’s use of affiliates to carry out utility functions; (4) fees paid to a utility by an outside firm; (5) the sharing of outsourcing benefits among the utility, its customers, and the outside firm; (6) the selection of the outside firm; and (6) the commission’s role in reviewing, evaluating, and approving outsourcing arrangements. Appendix A identifies several questions that state commissions should ask themselves, utilities, and other stakeholders about outsourcing. This paper addresses most of these questions at various levels of detail.
Contents
I. Why commissions should investigate whether others can perform utility functions better: The case of capacity management and gas procurement
II. Outsourcing as a business strategy
A. Definition and basic features of outsourcing agreements
B. Examples of outsourcing arrangements
C. Rationales for outsourcing
D. Downside to outsourcing
E. Generic features of outsourcing arrangements
III. State experiences with outsourcing of capacity management and gas procurement
A. Examples in selected states
B. Case studies
- 1. Indiana
2. Minnesota
3. Tennessee
4. Virginia
5. Washington
C. FERC Order 712: Facilitating outsourcing arrangements
IV. Major areas of consideration for state commissions
A. The fundamental regulatory question: do the benefits of outsourcing exceed the costs?
- 1. Economic gains
2. The cost of contracting relative to vertical integration
3. Stronger regulatory incentives to deal with one problem addressed by outsourcing
B. Outsourcing? to an affiliate
C. Distribution of profits and efficiency gains
D. The tasks of a proactive commission
E. Process for selecting an outside firm
F. Length of outsourcing arrangements and the process for renewal
V. Major recommendations
Appendix A: Questions Commissions Should Ask about Outsourcing
Appendix B: Illustration of Three Sharing Arrangements
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