New Bottom Line Volume 6.17 – Stranded Assets: Why Can't You Ever Find a Capitalist Around When You Need One?

August 11, 1997

It’s ironic, in the wake of capitalism’s triumph over the wreckage of the Soviet excuse for communism, to encounter expanding attempts to insulate some of the largest players from the allegedly victorious wisdom of the market.

Case in point: utility deregulation, an active policy juggernaut in California and other US states, in Great Britain, and coming soon to a public utilities commission near you, no doubt. An electricity market that uncouples the “natural monopoly” of local power distribution from competitive national power generation would arguably reduce electricity costs–certainly for the large industrial customers who could cut good independent deals, with the benefits eventually, hopefully, trickling down to residential customers.

But the fly in the ointment is called “stranded assets.” US electrical utilities have operated and invested for decades under a regulated system that required approval of capital investment plans, and a guaranteed rate of return. Shareholders bought into a system with, they thought, a high degree of certainty. Deregulation certainly changes that (as did the WOOPS default, but that’s another story). Newcomers like Enron are entering the market with new technology and natural gas capacity, while existing large regulated utilities have to figure out what to do with billions of dollars of sunk investments in powerplants (primarily nuclear) that just can’t compete.

Moody’s Investor Service estimated in 1995 that stranded costs could reach as high as $300 billion, or as low as $50 billion. A 1996 analysis by R. J. Rudden Associates estimated $23 to 65 billion, depending on time frame. Some consumer and environmental activists estimate closer to $500 billion. Whoever is right, we’re clearly talking real money here.

California’s solution is to allow utility companies to soften the blow of suddenly tossing uneconomic assets like nuclear power plants into the competitive free-for-all. Instead of writing these assets down over time, utilities will be able to transfer the burden from shareholders to ratepayers, and now to the general public.

California has just passed legislation, sitting on the governors desk as I write, to “facilitate” issuance of $7-9 billion in utility company bonds through state guarantees. So the taxpayers — who have neither collected secure profits from utility company shares all these years, nor made the decision to invest in uneconomic assets — face the prospect of subsidizing the shareholders, who have done both. As usual, other states and countries are watching the California examples closely, preparing to thwart their own markets.

Now I seem to recall, reaching back to Econ 101, that it’s supposed to work more like this: people invest in a business because of the expectation of financial return. If the business is successful, they make money. If the business is not successful, they lose money. If the business is very not successful, it goes out of business. If memory serves, this is called capitalism. Business people favor this system because they don’t want government getting involved in their business.

According to Martha Hewitt of the Center for Energy and the Environment, “Allowing the utilities to recover stranded costs would give the greatest reward to those utilities that made the worst business decisions. What other industry can tap widows and orphans to undo $500 billion in past mistakes?”

The criticism doesn’t just come from the usual suspects on the environmental/consumerist left. Here’s what Adam Thierer of the conservative Heritage Foundation has to say: “‘Stranded costs’ are defined most simply as investments or assets owned by regulated electric utilities that are likely to become inefficient or uneconomic in a competitive marketplace. Essentially, a stranded cost or stranded investment is nothing more than a monetary loss; utilities are asking policymakers to ensure that any losses they sustain in the transition to a competitive market are paid for by someone beside themselves and their investors. In other words, high-debt utilities are demanding a legislatively mandated bailout of the industry.”

Remember, we still haven’t seen the bill for decommissioning nuclear power plants–something that was never factored into the business plan back when they were promising us “power too cheap to meter,” since nobody knew (or wanted to know) how much it would cost. You want to bet who’s gonna get to pay for that? The investors who ponied up the capital in hopes of profiting in some relation to the risk they undertook? Econ 101 again: Higher risk, higher rate of return. Take your lumps, profit or loss, win or lose. But noooooo…

In fairness, proponents argue that utility companies made reasonable decisions with the best planning tools available at the time, under the then-operable standards–and expectations of assured rates of return–reviewed and approved by the PUC. The stranded assets financing is necessary to smooth the transition –for both the industry and its investors–to a very different risk-reward equation, not to bail out “mistakes, mismanagement, etc.”

But what’s really important about this story (aside from capitalists seeming to abandon capitalism with a “free market when it suits me, handout when it’s handy” attitude, aside from California taxpayers–who are already spending more for prisons than for schools–preparing to reach into their pockets once again) is the new political alignment that it suggests. The mainstream media missed an important roadsign in the NAFTA debate, mocking the Nader/Buchanan opposition as extremist rejection of the obvious good sense of the overwhelming center. But now with international left-right anti-statist, anti-corporate opposition to NAFTA/GATT/MAI globalization (NBL 6.11: Globalization and the Tragedy of the All Too Common), with the US Green Scissors Coalition presenting left-right opposition to center-backed corporate subsidies (NBL 6.4: “Green Scissors”: Cutting the Fat From Left and Right), and with bedfellows as strange as Consumers Union and the Heritage Foundation weighing in against the stranded assets component of the electric utility deregulation…well, there might just be something happening here worth noticing.

(c) 1997 Gil Friend. All rights reserved.

New Bottom Line is published periodically by Natural Logic, offering decision support software and strategic consulting that help companies and communities prosper by embedding the laws of nature at the heart of enterprise.

Gil Friend, systems ecologist and business strategist, is President and CEO of Natural Logic, Inc.

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