Why NARUC wants state regulators to incentivize utility cloud computing
Allowing utilities to earn a return on cloud-based software could help them better serve customers and operate the modern grid
Those who got upset when Microsoft Office shifted to a cloud-based subscription service may not like this story.
A new resolution passed by a national association for state utility regulators encourages commissions to allow power companies to rate base investments in cloud-based software as a service (SaaS) technologies and earn a regulated rate of return — just as they do with other software platforms.
Utilities may prefer the SaaS option because, like Microsoft’s Office, it can offer cost and operational advantages over hosting information in onsite servers, argues the resolution from the National Association of Regulatory Utility Commissioners (NARUC). Cost constraints preventing a move to cloud computing should be removed.
“Utilities best serve customers, society, the environment, and the grid by making software procurement decisions regardless of the delivery method or payment model,” declares NARUC’s “Resolution Encouraging State Utility Commissions to Consider Improving the Regulatory Treatment of Cloud Computing Arrangements.”
“NARUC encourages state regulators to consider whether cloud computing and on-premise solutions should receive similar regulatory accounting treatment,” it concludes. “Both would be eligible to earn a rate of return and would be paid for out of a utility’s capital budget.”
The resolution — which serves as a non-binding guide for state utility regulators across the U.S. — was recommended by the NARUC Board of Directors and adopted by the NARUC Committee of the Whole at its 2016 annual meeting last month.
“It’s important that there be competitive neutrality between in-house, do-it-yourself software systems and software-as-a-service subscriptions,” outgoing NARUC President Travis Kavulla told Utility Dive.
Most state regulatory regimes now define in-house, on-premises software as a capital expense, Kavulla explained, meaning that like a power plant or transmission line, utilities can earn a regulated rate of return on the investment. But cloud-based SaaS is typically defined as an operating expense that utilities can pass through to ratepayers, but cannot earn them a profit.
As a result, “utilities may have a financial incentive to take an approach that is less efficient and reliable than an alternative,” Kavulla said.
It is a big incentive, said Jill Feblowitz, principal at Feblowitz Energy Consulting. An SaaS provider would have to reduce their typical $1/customer/month charge by half to make up for the utility’s financial benefit from rate basing an in-house system, she told Utility Dive.
If the NARUC resolution results in more states allowing rate-based investments in SaaS software, it could help utilities cut costs and streamline operations to better meet customer needs. Already, some power providers are pushing the issue.
“Cloud-based solutions present opportunities to accelerate business value and free resources for utilities to focus on the core utility business,” Ameren Illinois testified in the ongoing Regulatory Treatment of Cloud-Based Solutions proceeding at the Illinois Commerce Commission (ICC). “These opportunities have the potential to be so transformational that they should not be overlooked.”
The trend toward the cloud
Utilities are “shifting away” from IT department-built, on-premise systems to SaaS providers, according to a recent survey of nearly 100 executives by Navigant Research. Almost six in ten respondents said they preferred buying new solutions over upgrading existing systems, and over three-fourths of that 59% “are either using or are interested in using cloud-based or SaaS solutions.”
Many utilities see moving to SaaS as a way of remedying the fact that “their agility and speed to market are considerably lagging,” the Navigant paper reports. They are also interested in SaaS as a way “to drive IT costs down.”
“Cloud computing provides a highly automated, dynamic, and cost-effective alternative for the acquisition and delivery of IT services,” according to the Ameren Illinois filing in the ICC proceeding.
Siemens, which provides software for almost every dimension of utility operations, “strongly” supported the resolution, said Chris King, global chief regulatory officer. The company’s MindSphere platform hosts control center software for utilities that manages their transmission and distribution grids, power plants, demand management, distributed resources and more.
King sees two key arguments in favor of cloud-based SaaS. The first is the reduced cost of installation and integration.
With on-premise software, each utility pays for the initial installation and each software upgrade, he said. Siemens does the installation into the cloud once for its 1,600 control systems customers instead of doing 1,600 on-premise software installations. That reduces the Siemens’ cost drastically and makes each utility’s cost lower.
Jeff Ressler, Software Services Group President of SaaS utility app builder Clean Power Research (CPR), made a similar point. “If a utility builds or licenses its software system, it has to dedicate IT resources to run it,” he told Utility Dive. “It is essentially reinventing a wheel that SaaS vendors have already spent millions to invent and are continuously spending millions to improve.”
CPR has had utilities pass on the purchase of its SaaS PowerClerk product because they could not rate base it “and then come back to us to buy it," Ressler said. “Their plans for on-premise software did not get off the ground or did not have support or they lost the IT personnel they needed to implement it.”
King’s second and possibly more important argument for cloud-based software is that it is always up-to-date, offering the latest and greatest number of solutions for the grid.
“Because of the cost of upgrading, utilities with on-premise software often go years before paying for new software,” he said. “With cloud computing, they are upgraded automatically and are always operating on the latest version.”
This is especially important, King said, because software applications are connected to and impact the functionality of other software applications. “That means automatic upgrading eliminates the obsolescence issue well beyond the application that is upgraded.”
CPR has talked to utilities using little-updated billing systems they put in place 15 years ago, said Business Development Manager Alan Saunders. “But today’s utilities need to roll out new programs and services much more quickly and be much more flexible in delivering services. SaaS enables that.”
CPR’s Ressler offered several specific examples, though customer confidentiality prevented him from naming the utilities.
A “major IOU in the Southwest” used the PowerClerk data import capability to merge several thousand interconnection and rebate applications from its in-house, on-premise system, he said. “They were able to add legacy information to their current information for deeper analysis and reporting.”
A “major IOU on the East Coast” added the web adapter capability to their customer information system, allowing "a simpler application process,” Ressler said. “The customer just enters a meter number and the web adapter goes through the utility’s system to fill out the rest of the application.”
A Southeastern utility — "one of the top five IOUs" — just added an e-payments function, he said. “The money goes directly to the utility and eliminates what solar installers say is a major slowdown in the interconnection application process.”
Because SaaS is proving so important to them, utilities are increasingly "willing to push against" the barrier to adoption from being unable to rate base the cost, Navigant reported.
Concerns on the cloud
Among utility concerns with the cloud, security is paramount. The nearly daily headlines of major corporate and government hacks make power company executives wary of hosting software connected to their critical systems on someone else’s servers.
But these days, industry veterans say it’s mostly an unnecessary worry.
“Confidence in security was high” among utilities that have already moved to the cloud, the Navigant survey reported.
“We went through a very strenuous security evaluation,” a utility executive told Navigant. “The external providers are better at security than we are.”
Five years ago, “security concerns were a good reason not to use cloud services,” Siemens’ King said. “That has come a long way and we are now very comfortable with the security cloud providers offer.”
CPR’s Ressler said he has heard the same from many of his utility customers.
“Utilities are intense about security but their IT departments only focus on protecting their own software. It is unreasonable to expect a utility to be the same kind of online cyber security technical expert as a vendor operating in that space,” he said. “SaaS providers’ security practices have to be better because they have so many compliance requirements and they have to be penetration tested.”
There is, however, one strong argument in favor of on-premise software, King said. “It gives the utility more control. It is in their data center. They control the environment, they control the servers, they control the reliability of the environment.”
Feblowitz acknowledged this, too. The total cost of ownership for the in-house system is a bit higher, but for that cost the utility gets hardware, software, services, the guaranteed return, and a “deeper” customer information system, she said.
“In-house software is often especially strong in customer engagement and customer billing systems,” she said. “Billing systems are deep and complex and cover a wide range of functions.”
The value of SaaS here is what King called “the obsolescence issue.” Adding the newest functionalities to on-premise systems can be costly and time-consuming.
At this point, nearly everything the on-premise systems will soon be available from cloud computing, Feblowitz said. “Through the cloud, the functionality will soon be as good and soon after that, without waiting through the typical two year to three year release cycle and without any added expense, it will be even better.”
At present, the most durable argument for on-premise software is the financial advantage it has because utilities can rate base it, recover its cost, and earn a profit, King said. But the NARUC resolution could help change that if state commissions follow its lead.
There are, Feblowitz said, good reasons for allowing utilities to rate base costly, long-term, risky capital expenditures. But making SaaS a non-rate based operating expense is a disincentive that prevents utilities from moving to cloud computing and will eventually lead to higher utility costs, she warned.
Vendors and experts for on-premise legacy systems are often no longer available to manage the on-premise software, Feblowitz said. “Utility IT departments are realizing the best technology, and now the most secure technology, is what is available from the cloud and they see how on-premise technology limits options."
There remains, however, the “knee-jerk reaction from the business side that using SaaS threatens cost recovery and is not the best choice from an accounting standpoint,” she added. “For big systems that is certainly an important consideration.”
It is the point Ressler stressed.
“We would encourage regulators to look at the conditions under which utilities currently have to procure software,” he said. “They sometimes have to decide to procure less developed, less polished, less reliable, less secure software because they can put the cost into their capital expenditures and rate base it.”
A cloud conversion?
The NARUC resolution is not a mandate, CPR’s Saunders said. The next steps must be taken at the state level, with individual commissions altering investment rules for software systems. The resolution’s intent is to encourage state regulators to be proactive by initiating a proceeding that results in “some kind of declaration that allows SaaS to be rate based,” Saunders said.
Led by Illinois, a few states have started that kind of proceeding. California, New York, Minnesota, Massachusetts, and Rhode Island are all engaged in grid modernization efforts that could reach into the cloud.
A year ago, when Feblowitz was completing her research on the disincentive to cloud computing, “it would have been hard to find anybody at NARUC interested in this issue,” she said, “but now it is a widespread concern.”
“This is in line with the way people are rethinking rate recovery and profits in the utility industry and it is only one of the areas where changes are coming,” she said.
Led by Siemens’ MindSphere, GE’s Predix, and Silicon Valley giants like Oracle and Amazon, a shift away from on-premise software is coming. The resolution, King said, as an indication of the market moving to cloud computing. "Digitalization will take time because utilities take time to do things but this is a step in that direction.”
As digitalization penetrates more deeply, utilities will be able to mine data from their system sensors to improve reliability with predictive maintenance, he believes. They will use the information to better understand the changing power flows from an increasingly distributed resource mix and they will need it to get high renewables penetrations.
“Cloud-based SaaS makes it possible to gather system data, store it, mine it, learn from it, and improve operations,” King said. “At some level of penetration, though there is a debate about what it is, the grid cannot support additional renewable energy without this kind of technology.”
Saunders emphasized these same points. “One of the requirements for the energy transformation and the emergence of Utility 2.0 is processing massive amounts of data,” he said. “That requires the massive computing power of the cloud. SaaS will enable that and the NARUC resolution will enable SaaS.”