Electricity meltdowns: Texas can learn from SMUD, California

In February, Texas experienced a freak weather event, a deep freeze that shut down its electrical  system, damaged its infrastructure and cost dozens of lives.

The storm revealed the lack of preparation and investment by the Texas state government, the flaws of its system of deregulated privately-owned utilities, and the failures of the Electric Reliability Council of Texas, or ERCOT.  The latter is responsible for maintaining the state’s energy infrastructure.

SMUD is not a stranger to the challenges faced by Texas and PG&E.

Texas isn’t alone in facing electrical meltdowns.

Over the last few summers, California has experienced historic, deadly wildfires, caused, in part, by investor-owned Pacific Gas & Electric’s negligence of its energy infrastructure. To make up for PG&E’s neglect, some of the giant utility’s customers were frequently forced to do without power for prolonged periods.

Which brings us to the Sacramento Municipal Utility District, or SMUD. SMUD is not investor-owned; it is owned by the ratepayers.

But it is not a stranger to the challenges faced by Texas and PG&E.

SMUD was forced to deal with California energy deregulation and the resulting 2000-01 energy crisis. As a northern California utility, SMUD has had to deal with the stresses that climate change and wildfires put on its infrastructure and power supply.

A ratepayer-led vote to close Rancho Seco was followed by reforms brought about by a new board.

For years, SMUD, at least by some accounts, has enjoyed high customer satisfaction and reliably provided electricity.

But, that wasn’t always the case. Saddled with the poorly designed Rancho Seco nuclear power plant in the 1980s and 1990s, SMUD struggled with bad management, unreliable service, soaring costs, and a poor bond rating, all of which nearly led to its privatization.

A ratepayer-led vote to close Rancho Seco was followed by reforms brought about by a new board led by former directors Ed Smeloff and Peter Keat, who successfully pushed efforts to  improve  energy efficiency and green energy.

Capitol Weekly talked to SMUD Chief Financial Officer Jennifer Davidson about what SMUD is doing right — and what lessons it has learned that can be applied in Texas.

In 2006, after many years in the private sector that included a stint at investor-owned Southern California Edison, Davidson joined SMUD. In 2017, she became SMUD’s CFO.

This Feb. 25 interview has been edited for clarity.

Capitol Weekly: Given what happened in Texas, while noting PG&E’s continuing struggles with safety and reliability, I am not alone in asking, Why is SMUD so stable? How is the utility able to keep its rates lower while avoiding the energy infrastructure problems that seem to be endemic to Texas and PG&E?

Jennifer Davidson: What I first want to say is that whatever model you have, whether you’re for-profit, or community or customer owned, the way we are, it’s a complex business. Electricity is a daily necessity, but if not handled right, obviously, it could be deadly. It’s a testament to anybody who’s running the utility industry, an electric utility. It’s not an easy game.

“Because we’re not-for-profit, we have the luxury of being able to balance the short-term with the long-term.” — Jennifer Davidson

Even though SMUD’s not-for-profit, we must run it like a business. This is Sacramento, so this may not seem big if you’re in New York. We run through three million dollars of cash a day. SMUD is incredibly cash intensive, so we have got to run a tight ship. But we have a couple of differences (from for-profit utilities) that are the intangibles, and the intangibles are so critical.

First of all, we’ve got one customer — it’s our customer. While that doesn’t necessarily make it easier, it does make it clearer. We’re not trying to satisfy two audiences, the investors and the customers. That single focus makes it much clearer for us.

CW: Right, because the customer is the investor.

JD: Yes, SMUD has a customer-owner. So, that’s number one. Another thing that differentiates us is [something] that I didn’t realize, spending the first 20 years of my career working for for-profit companies… When I got to SMUD I thought, ‘This is an awesome business model.’ Because we’re not-for-profit, we have the luxury of being able to balance the short-term with the long-term.

When you’re a publicly-traded company, you’ve got quarterly milestones you’ve got to hit every single time. While we obviously pay great attention to our financials – as I said, we are running through $3 million dollars a day to keep the lights on and do all that we do — we can balance short term decisions with long term decisions.

An example of where that comes up is that we never defer maintenance because, in the long-run, doing the maintenance makes a lot more sense. We don’t ever have to short the long-run or do less in the long-run to satisfy the short-term gain…

(Another) example is that we put away funds, almost a “rainy-day fund,” but it is actually the opposite. Twenty-five percent of our electrical generation comes from hydro generation. That’s our least costly source of generation, but if we’re in a period of a drought, as we’re entering into now, we have to replace that energy and that replacement energy is more costly. So, again, we have the luxury of putting away funds because we don’t have to pay out the investor, which leads to rate stability. Rate stability is good for our customers and it’s also good for the business…

CW: In 1989, after rate-payers voted to shut down Rancho Seco, SMUD started instituting something like a Green New Deal with the shade-tree program, co-generation projects, an energy efficiency program, rebate to replace energy-wasting appliances like old refrigerators, etc. Those are more examples of SMUD investing in the long-term.

JD: Right. For for-profit companies the goal is profit. SMUD’s goal is value. Value can be measured in things like the shade tree program. We also do 150% of what the requirement is for energy efficiency, and we’ve done that for since forever. Our goal is to create value, not to create profit.

“We can’t provide any guarantees because these are one in a 100-year events. But we are expanding our testing.” — Jennifer Davidson

CW: I remember when energy deregulation triggered the California 2000-01 energy crisis. When Enron and others were shaking down California, SMUD wasn’t really that affected. Its rates didn’t go up. Almost everybody else was getting hammered, but SMUD was in a really great position where it didn’t really hurt the utility or rate-payers. Can you talk about that?

JD: Our goal is not to make money with our commodity budget. Right. Our goal is to make sure that we can keep the lights on at the lowest cost. It sounds subtle, but at the end of the day what it looks like is exactly what you describe.

So, what we do is lock in prices [of the energy we buy]. What that means is that we might not be able to capture on some great price spike in the market for some great opportunity, but that also means we aren’t harmed when you have these events. … With what’s going on with the environment, you’re going to see more and more of these events, be it extreme heat, be it extreme cold. We can’t provide any guarantees because these are one in a 100-year events. But we are expanding our testing. We always are testing scenarios, but we are going to widen the scenarios we test.

CW: If I was a long-term investor, I’d invest in SMUD, not some utility that’s going to have like a spike of profit and then go down in value because it’s just about profit. With SMUD, I’m getting a return, a regular return. It might not be huge, but it’s going to be reliable.

JD: Yeah, you’re absolutely right. It goes back to being so capital intensive and infrastructure intensive: We do go to markets and we do sell bonds to be able to finance our infrastructure. Again, that’s part of a strategy to keep rates steady. And so right after the markets froze [early 2020], nobody could borrow money, but we really wanted to make sure that we could get some additional cash…We were going to do a finance in any way, but we decided that we would go for a little bit more money just because there was so much uncertainty with COVID.

Even if they did jump to a higher office, I think what you see is that they might just jump to like the city council or the county because, again, the focus is local.

If you look back to March [2020], nobody was able to borrow money — the markets completely froze. But then once the markets loosened up, SMUD was actually one of the very, very first to be able to go to markets and that’s because the investors had confidence in SMUD and they demonstrated it…we had a goal between $350 million and $400 million. And we absolutely sold out our $400 million, [because] investors also had exactly the same perspective as you do. Our borrowing was, as we say, fully subscribed, and that was right after the markets froze. We were the very, very first to be able to enter into the markets and we were fully subscribed.

 CW: It seems to me that having an elected board of directors helps, especially since the SMUD board has never really been a launching pad to a greater political career. That’s kind of the politics of it. You don’t see a lot of former SMUD directors, Dave Cox being an exception, jump to a higher office.

JD: Even if they did jump to a higher office, I think what you see is that they might just jump to like the city council or the county because, again, the focus is local. And that’s the one common thing: the SMUD board is incredibly focused on locally. That’s something that we really value at SMUD. We absolutely value local decision making.

CW: Since the board is local, it’s not like there’s people in New York City or a hedge fund or somebody outside calling the shots of what you’re supposed to do. Everything goes back to Sacramento, Sacramento, Sacramento, Sacramento.

JD: (While) board members have come and gone…they’ve created [and] work within a culture, a governance model. They’ve got this great governance model and the board members really work to preserve that governance model, which is the root. It wasn’t just born yesterday. Its roots go back at least twenty years.

“We have 90% figured out right now; the last 10% we’re going to have to work with people to figure out what new technology can come on in the future.” — Jennifer Davidson

CW: You mentioned that 25% of SMUD’s energy comes from hydro-electric. What are the other sources and how much?

JD: About 45% is natural gas. Of course, that’s the focus right now of our 2030 plan, because we really want to get to our zero-carbon plan. But, even with [natural gas], we’re very proud of the fact that — before we start our 2030 plan — we’re 50% carbon-free. We’re trying to get that 50% to 100% by the end of the decade. Right now, 50% is carbon-free, of which half is hydro, half other resources, wind and solar, etc.

CW: What are you looking to replace that natural gas with?

JD: I’m going to quote our CEO: There’s absolutely not going to be a silver bullet, right? It’s going to be, he calls it, a ‘silver buckshot.’ We’ve got probably about 90% of it figured out. The last 10%,  we’re going to need to work on continuing technology improvements (and) continue in research. We are attacking this on all fronts. We’re looking at co-investing with our customers in battery and solar. We’re going to be developing our own solar and our own batteries. We’re going to be looking to see if we can partner: What can we do in the area of electric vehicles? … Like I said, we have 90% figured out right now; the last 10% we’re going to have to work with people to figure out what new technology can come on in the future.

CW: As you know, utility economics is different than regular economics, in that the more electricity people use the lower the price per kilowatt of electricity. But SMUD stresses energy efficiency, which means that you’re trying to bring use down , which makes the price per kilowatt higher. How does SMUD balance the goal of energy efficiency with providing pretty consistently low rates?

JD: Energy is a commodity, so when it’s abundant, the price is low and when it is  scarce, the price is high. What we are working on with our time-of-day rate is working with our customers, sending price signals. Electricity is more expensive between 5 and 8 p.m., so we send a price signal to our customers saying, “It’s really much better if you can wash the dishes, vacuum the house, cook the dinner, maybe pre-cool your home when electricity is not so expensive.” It’s not so much important how much electricity you use, but when you use it.

CW: And when you spread demand, it also is less stress on the infrastructure.

JD: Less stress.  Yes, because what you really want to do is have a coherent orchestration where (energy) generation and use is in balance. Think of an orchestra where everybody is playing at the same time and they’re playing a different song. You can just hear the noise! Energy prices are spiking, energy use is down and or up. Or you can now imagine an orchestra where everybody is playing the same song all at once. And that’s really what we want, a levelized use of electricity.

CW: Can you speak about why Texas and PG&E and their infrastructures were not prepared to cope with disasters.

JD: In California, we pay for what’s called capacity, what I call energy savings in the bank. In Texas, they don’t — not at all. A California utility, in fact, has to have a 15% [energy] reserve to kind of help cover for scenarios that you don’t expect. After last summer, regulators are thinking of increasing the 15% percent to 17.5%. This is for all California customers and they pay for that capacity. When you see what has happened when you don’t have that capacity available, that makes a lot of sense. Right? Texas doesn’t have this capacity, [they] don’t have plants standing by, and that is bad news when the plants aren’t winterized. We’ve got plants paid to be standing by that may never be called on.

CW: And with PG&E, would you say that the shareholders have taken precedence over customers?

JD: Well, you know, I guess I’ll just say that our mission is very clear. Right. I appreciate the clarity.