Electric utility deregulation is not coming to Maryland until next year, but the real estate industry must position itself now to take advantage of a host of new opportunities to profit from the ability to select the company that supplies energy.

Many building owners and portfolio managers alike glaze over at the complexities of the power to choose energy providers. Leases need to be modified, utility easements adjusted, contracts with electric aggregators negotiated, and more …

Under the current structure, users buy energy from their local regulated utility. All of the functions of the utility, generation (including the production or procurement of energy) and delivery (including transmission and delivery of electricity) are regulated and billed along with other utility services as one lump charge by the monopoly.

In an admitted oversimplification, the choice to select an electricity supplier is similar to the choice to select a long distance telephone carrier. The delivery of electric power to the user, over the network of wires and utility poles, as is substantially the same for telephone service, will remain the province of the local utility. But, the supply of electricity (as distinguished from the delivery of electricity) is being deregulated so that that the user may choose their supplier from any of a number of companies that are expected to be in the local market.

At this point in time, no one can accurately predict what final form electric deregulation will take in Maryland. This article, based upon the best information now available, identifies pragmatic steps that real estate owners and operators must take now, to position themselves, such that they will be able to turn electricity into a profit center beginning in the year 2000 and, more significantly, when the price caps are lifted in 2006.

Less Than A Year Away

As required by legislation passed in the 1999 General Assembly session, on July 1, 2000, one-third of residential customers, of Maryland’s four investor owned utilities, must have the opportunity to select their electricity supplier. The existing electric industry in Maryland consists of four major investor owned electric generating utilities, four cooperatives, and five municipalities. The four investor owned generating companies, BGE, Conectiv, PEPCO, and Allegheny Power System, serve 92% of Maryland electric customers.

On January 1, 2001 all industrial and commercial users must have the same opportunity. The second one-third of residential customers must have their electric supply deregulated on July 1, 2001 and all residential customers must have their choice of supplier on July 1, 2002. By July 1, 2003, under a separate schedule yet to be adopted by the Public Service Commission, all customers of the four cooperatives will have customer choice. The five municipal electric utilities may elect not to deregulate.

In an example of how competitive electricity rates will be, Conectiv has already announced, as a component of a recent filing with the Public Service Commission, it will offer its Eastern shore customers who stay with the electric company after July 1, 2000, a 7.5% rate cut for four years. Similarly, BGE has proposed, in a settlement agreed to by major stakeholders and filed with the Public Service Commission, to offer its residential customers who stay with the utility after July 1st, a 6.5% rate reduction for six years. And instead of phasing in deregulation over three years, both Conectiv and BGE will allow all of their customers, not just one-third, to select their supplier on July 1, 2000.

(The BGE “settlement” has been questioned by some who contend that the government traded away any real competition for a period of six years in exchange for a modest residential rate reduction. Others have argued that BGE’s reduced rate and price freeze for six years may well ‘freeze out’ any competitors from entering this market, potentially resulting in a windfall for the utility in 2006.)

Conectiv has moved aggressively into telecommunications, using the existing bandwidth of its electric wires as well as new fiber optics located within their strategically located rights of way, to offer local and long distance telephone service, plus data services. Telecommunication deregulation in 1996 (lifting restrictions on electric utilities entering the telecom business) overlaid with electric deregulation will certainly make Conectiv only the first of Maryland electric suppliers to maximize the huge hidden assets of wires in place, rights of way, etc.

Real Estate Industry Is A Beneficiary

Owners and operators of real estate, from multi-family buildings and shopping centers to office buildings and industrial parks, may be among the largest class of beneficiaries from electricity deregulation in Maryland. Owners of multi-tenant real estate are largely exempt from the prescripts of the new deregulated scheme and, as such, may take advantage of that status to create a new profit center in electricity.

Multi-tenant building owners may aggregate all tenants’ electricity needs and negotiate a reduced rate with a power supplier. Such can result in reduced electric rates that may be an incentive offered to tenants. Aggregating multiple users can result in “signing bonuses” or other one-time fees for switching service (not unlike the up front money paid for switching long distance telephone carrier). Of course, the landlord can charge fees to tenants and retain amounts of the negotiated lower electric fees for managing ‘the internal distribution system serving the building’.

There are instances where the relative bargaining strength of the tenant is superior to that of the landlord and the tenant will demand that it control its electricity supplier. National tenants, franchised businesses, and other businesses with multiple locations may aggregate with themselves and negotiate a reduced electric rate on a nationwide basis.

For that matter, sophisticated tenants will be cognizant that the issue of electricity supplier is now an item to be negotiated at the time of leasing.

Leases Must Be Revised

As a practical matter, existing leases that will remain in effect on July 1, 2000 must have already been revised or landlords will likely not be able to avail themselves of all the profit making opportunities! And from this point forward, all leases for multi-tenant buildings must be revised to incorporate the issues arising out electricity deregulation.

Beyond the obvious new lease provision (describing which party will have the right to choose the supplier) leases must now prescribe who will own on-site internal distribution systems including the access to those systems, and even if a tenant has the right to select the power source, that landlord consent be required, and that the landlord be compensated for access, etc.

Easements And Other Contracts

Leases are only one of the documents that need revision. Utility easements, that had in the past benefited a single utility; must now not benefit any one electric distribution company, must be non-exclusive, and must retain some measure of control in the real estate developer or builder. Developers of land can now structure multi-user projects so that they can retain rights to control and profit from electric supply.

The electricity supply agreements with utilities are complex multi-year contracts that are a far cry from arranging for electricity from today’s monopolies with a quick telephone call. In New Jersey, electric supply contracts for new construction have included supplier funded construction of the internal distribution system and maintenance.

Aggregators and Service Companies

Much of the real money realized in the first year of deregulation will be through aggregators. Aggregators will act on behalf of a group of customers to bundle those users into a single contract with a single supplier. Brokers that will act as agents or intermediaries in the purchase of electricity can not only be expected to represent industrial and large commercial users, but also to pool smaller users, and even residential users into large pools (some pools in California have thousands of members).

Real estate businesses and other companies that have little or no expertise in utility issues, will outsource all power needs to a service company. Service companies have expertise not only in power sources, but also energy management and other value-added services.

Electricity As An Employee Benefit

And beyond all of this, in Pennsylvania electricity deregulation has evolved into an employee benefit! Businesses have signed up with electric suppliers that offer discounted rates not only to the company, but also to its employees. Already in Maryland, chambers of commerce are in the process of structuring a member benefit that will allow companies to aggregate to reduce rates and offer employees similar discounted rates. So, a building owner could offer discounted electricity to tenants and the owner’s employees, and even to the tenant’s employees!

Green Electricity

“Green” electricity, environmentally friendly power produced from renewable sources like the sun and wind, may be a byproduct of deregulation. While Maryland’s deregulation law does not promote renewable energy, consumers are showing a willingness to pay a premium for green electricity. In California, a new condominium is marketing “more than 25% of its electricity obtained from renewable sources.”

Electric Companies Will Be Transformed

Electric supply and delivery in Maryland may undergo a series of mergers and other changes because none of our electric companies may have enough customers to stay competitive. It is important to remember that electric deregulation is a national mandate and all thirteen Maryland utilities together only serve a combined 2.1 million customers. These small utilities may not be able to give customers the new products and services plus reliability that users will demand.

Not only can no one accurately predict what final form electric deregulation will take in Maryland on July 1, 2000, but it is widely accepted that five years from now, traditional utilities will have been so completely transformed that they won’t be recognizable.

Already the Internet is becoming the vehicle of change. Consumers can today, with the click of a mouse atUtility.com, save money by switching energy suppliers in Pennsylvania (one of three states that already has full customer choice in energy suppliers). What is likely the single most significant change, electronic billing, would not be possible without the Internet. And as important as electronic billing is for cutting electric company cost, high-tech electronic meters will be for cutting user’s costs. As ‘smart utility meters’ and remote monitoring come into wider usage, businesses and homeowners will be able to measure energy consumption of each appliance and light fixture, making it possible to conserve energy and save money.

Prepare Now For The Year 2000

At this time, and in advance of the phased-in lifting on statutorily mandated price caps (some of those price caps extending until 2006), property owners must remain flexible enough to adapt to a fast paced deregulation process while effecting the changes necessary to prepare for July 1, 2000.

If not already revised, all new leases for multi-tenant buildings must be revised to incorporate electric deregulation issues. Utility easements must now not benefit any one electric distribution company, and must retain some measure of control in the real estate developer so the developers can retain control and profit from electric supply. And electric supply agreements with power generators must be negotiated. All of this must start now if property owners are going to cause electricity to become a profit center.