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Utilities global survey 2006

The Big Leap*

*connectedthinking

5 211

Utilities global survey 2006

The Big Leap*

1 Introduction

3 Report highlights

5 Inside the boardroom

5 The change challenge

7 Forces of change

9 Barriers to change

11 A technological leap

12 A new coal and nuclear era

14 An efficiency leap

15 The M&A leap

17 The leading players

17 The new network players

17 The liberalisation leap

19 Environmental reporting

20 The future for emission controls

Regions

21 The AmericasUnited StatesCanadaSouth America

33 EuropeEmissions trading

39 Asia PacificAsiaAustralia and New Zealand

53 Middle East and Africa Snapshot: Middle EastAfrica

59 What the future holds

60 Methodology

61 Contact us

33 39 53

g Leap*

Once again we go to the heart of boardroom thinkingwith our comprehensive annual global survey ofpower utility company leaders around the world.Both this year and in the last two years, concernsabout security of supply top the list of anxieties withmassive technological and infrastructure investmentrequired to meet burgeoning demand and addressenvironmental concerns. Against that background,last year in our Under Pressure report, we askedinvestors about the attractiveness of investment inthe sector and found significant concerns aboutregulatory uncertainty and market volatility.

This year we go inside the industry to focus on thesector’s viewpoint about The Big Leap forward thatneeds to be made. We find a sector that has littledoubt about the scale of the challenge facing it andhas increasing confidence that it can provide many ofthe solutions. We survey the changes that are beingor need to be made in technology, investment, M&A,efficiency, cleaner fuels and customer relationships.

But we also find a sector still worried that thesedevelopments may flounder on the hurdle ofcontinuing regulatory uncertainty despite the industryvoicing its concerns. Planning, price and regulatoryuncertainty continue to cloud the long-terminvestment frameworks that are needed to deliver arange of solutions such as nuclear, clean coal andrenewables. Manfred Wiegand

Global Utilities Leader

Like bird flu, the industry is worried that a fullappreciation of the preparations needed won’thappen until the worst symptoms occur. Therespondents to our survey point to a real concern thatshock factors such as supply crises may interveneahead of considered regulatory reform.

Looking ahead, there is considerable need forregulatory frameworks to emerge that provide a betterenvironment for investment and planning but oursurvey respondents remain divided about how fastprogress can be achieved. The political and economiccontext for power remains caught between a puremarket-oriented approach and a more planned andstructured environment. In some territories,respondents expect the opening up of markets tocontinue while elsewhere they expect it to stall. It isagainst this background that the industry has to 'rollits sleeves up' and work with government andinvestors to make the infrastructure, technological,environmental and investment leaps that need tohappen.

Introduction

1 Introduction

97

Introduction 2

116 senior executives of power utility companies interviewed

98Utility companies

Europe AustriaBelgiumCroatia EstoniaFinlandFranceGermanyIreland Italy LatviaNetherlands Norway Poland Slovenia Spain Sweden Switzerland United Kingdom The AmericasArgentina Bolivia Canada Chile ColombiaEcuador Mexico United States Venezuela Asia PacificAustralia China India Japan MalaysiaMauritius New Zealand PhilippinesMiddle East & AfricaBotswana Jordan Kenya NamibiaOmanQatar South Africa United Arab Emirates

4major regions

43countries

Revolutionary change aheadThe power and gas sector is facing ‘revolutionary’ change. Two-thirds ofthe respondents in our global survey say the industry is facing its biggestchallenge in recent times and the majority of these rate the changes thatthe industry will have to undergo as little short of ‘revolutionary’. Thissentiment is most strongly felt in Europe where nearly three-quarters (72%)of respondents expressed this view.

Stepping up the paceThere is widespread feeling within the industry that the pace of changeneeds to be stepped up with progress to date falling behind what it wouldlike to achieve. For example, 42% of respondents said the sector waslagging behind in the development of renewable energy sources. Evenmore respondents – between 50% and 60% – said the industry needs tohave a strong 10-year focus on reducing environmental damage,developing new technologies, improving customer service relationships andfinding new fuel sources.

Waiting to be shocked into action? Despite market liberalisation, the survey highlights the continuing pivotalrole of policy makers and regulators who are identified as both the leadingsource of pressure for change and the biggest barrier to achieving change.The sector feels increasingly confident that it will be able to deliver thetechnological solutions to achieve change but it continues to be uncertainabout the political and regulatory context. Indeed, 42% of respondents feltthat the industry is unable to develop long-term plans due to governmentor regulatory policy. There is a real worry that the policy makers may notsucceed in dismantling this hurdle before shock factors, such as supply orenvironmental crises, come into play.

Supply concerns persistThe prospect of real shocks is highlighted by the fact that 51% of therespondents to our survey reported that they face either a significant orimmense supply and demand challenge over the next five years. The worryis particularly strong in Europe where twice as many utility leaders believethe prospects for power cuts have increased rather than diminished. In thelong-term, greater end-user energy efficiency could ease supply anddemand imbalances but the mandate to make this happen sits uneasilybetween regulators and utility companies.

Report highlights3 Report highlights

Making a technological leap Higher prices, stretched supply lines and investment in expanded anddiversified infrastructure place significant additional cost into the valuechain. Companies are looking to technological innovation both to deliverefficiencies and to respond to the pincer of future demand challenges andenvironmental concerns.

Clean coal moves to the front burnerCoal tops the list of fuels expected to make the biggest contribution tomeeting future demand growth and it is here that survey respondentsexpect technology to have the greatest impact. The combination oftechnological developments and high energy prices are expected tosignificantly increase the contribution of both coal and nuclear in the energymix. Half of the respondents in the Americas and Europe and 44% of allrespondents said they expect nuclear capacity to increase in their region.

M&A activity jumps upwardsUtility companies are already making big leaps in M&A activity. Both thevalue of total deals and the size of deals are at record levels. Total dealvalue soared from US$123bn in 2004 to US$196bn in 2005, much of itfuelled by a US$64.6bn increase in the value of European power assetsthat changed hands. Looking ahead, deal activity in the sector is likely tobe sustained with the industry ripe for consolidation in all major markets.

Report highlights 4

Inside the boardroomThe change challenge

Inside the boardrooms of the world’s leading utility companies,

executives are preparing for the biggest change challenge

faced by the industry in modern times. They are grappling with

conflicting challenges. Securing supply as fuel sources

become more distant and scarce. Delivering cleaner power

while also responding to burgeoning demand. Making a huge

investment in capacity at a time when markets are liberalising

and customer price concerns are intensifying.

*


There is widespread boardroom consensus that a bigand far-reaching leap forward is required. Two thirds ofthe respondents in our global survey say the industry isfacing its biggest challenge in recent times and nearlyhalf of these describe the changes that the industry willhave to undergo as little short of ‘revolutionary’. Thesentiment is felt most strongly in Europe where 72%agreed with the ‘biggest change challenge’ view and isweakest in Asia Pacific which was the only regionwithout a clear majority of respondents agreeing withthe viewpoint (see later regional sections).

The scale of the change is reflected in the scale of theprojected investment needs of the sector. Powergeneration, transmission and distribution will requiremore than US$10 trillion by 2030 and the gas sector afurther US$3 trillion (source: World Energy Outlook 2005,International Energy Agency). The investment challengeis particularly great since half of all global energyinvestment will be required in developing countrieswhere current regulatory and market conditions ofteninhibit private investment.

10 20 30 40 50 600

Figure 1: The global utilities industry is facing the biggest period of change in the last twenty years

64%Agree

Disagree

70 80 90 100%

18%

18%Neither agree or disagree

Strongly agree/agree

Strongly disagree/disagree

Note: Global responses only. % share of responsesSource: PricewaterhouseCoopers, Utilities global survey 2006

10 20 30 40 50 600

Figure 2: The extent of change facing the power utilities sector

75%Revolutionary or significant

Marginal or not so significant

70 80 90 100%

25%

Revolutionary/significant change

Marginal/not so significant change


“the change challenge is littleshort of revolutionary”

Inside the boardroom 6

Many survey respondents believe that the pace of change needs to be stepped up with progress todate falling behind what they would like to achieve. For example, 42% of respondents said the sectorwas lagging behind in the development of renewable energy sources. Even more respondents – nearly60% – thought the industry needed to have a strong 10-year focus on reducing environmentaldamage, developing new technologies and improving customer service relationships (see figure 3).

10 20 30 40 50 600

Developing customerservice and relationship

Finding new andcompetitive fuel sources

70 80 90 100%

Branding and reputation

Low focus

Medium focus


Developing new technologies

Reducing environmentaldamage

High focus

Figure 3: What should be the focus of the utility industry in the next ten years?

Forces of change

The power utilities industry is at the centre of a number of powerful forces for change. The biggestinfluence remains that from politicians and regulators (see figure 4). But, with customer choicebecoming a reality in an increasing number of national and regional markets, respondents to oursurvey also pointed towards customers as a key driver. Other factors are also mixing with the influenceof government and customers to create a strong and potent recipe for change. Fifty-four percent ofrespondents attach significance to the potential of environmental shocks or crises forcing change. The same percentage cites demand growth as a strong influence and, indeed, nearly a quarter ofthese respondents say demand growth will have a revolutionary effect on change. Clearly, a majority ofleaders within the sector believe there is very real potential for future supply shocks or environmentalcrises to play a dramatic part in shaping the future of the sector.

Figure 4: What is driving the change?

Environmentalshocks or crisis

Revolutionary change

Very significant change

Significant change

Marginal change

Not so significant change

10 20 30 40 50 600

Technological orinnovatory forces

Demand growth

70 80 90 100%

Market competition fromrivals and new entrants


Government orregulatory forces

Pressure from consumers


The prospect of real shocks is highlighted by the fact that 51% of the respondents to our surveyreported that they face either a significant or immense supply and demand challenge over the next fiveyears. Barely a quarter (26%) were either unconcerned about supply and demand challenges or ratedthem of low importance (see figure 5).

The balance of industry opinion is tilted towards the view that power blackouts or interruptions to gassupply are more likely compared with five years ago. The worry is particularly strong in Europe wheretwice as many utility leaders believe the prospects for power cuts have increased rather thandiminished (see figure 6). Concern is even greater in Europe about gas supplies with 48% of Europeanrespondents saying there is a stronger likelihood of gas disruptions compared with just 14% believingthe prospects for cuts has faded (see figure 7). Recent events concerning the supply of Russian gasthrough the Ukraine, which occurred after the interviews were conducted, will have increased theanxiety level even further.

Figure 5: What is the extent of the supply and demand challenge you face over the next five years?


Immense challenge 11%

Significant challenge 40%

Medium challenge 24%

Low challenge 17%

No challenge 8%

Figure 6: Do you think blackouts in the electricity sector or interrupted supply in the gas sector are more or less likely to occur in your home market compared to five years ago?


More likely 40%

Less likely 35%

Unchanged 25%

Electricity Gas

More likely 37%

Less likely 35%

Unchanged 28%


Figure 7: European gas anxiety: are interruptions of supply more or less likely than five years ago?

Note: Europe responses only. % share of responsesSource: PricewaterhouseCoopers, Utilities global survey 2006

More likely 48%

Unchanged 38%

Less likely 14%

“the prospect remains formajor supply shocks”

Barriers to change

The industry is gearing up for a big leap forward. However, despite the monumentalnature of the challenges facing the power sector, increasing awareness of potentialsupply and demand imbalances, evidence of infrastructure vulnerability andconcerns about environmental issues, significant barriers still lie in the way. Oursurvey respondents identified politicians and regulators not just as the leadingsource of pressure for change but also as the biggest barrier to achieving change.

Figure 8: What is preventing the big leap?

10 20 30 40 50 600

Financial

Utility corporate culture

70 80 90 100%

Technological

Low barrier

Medium barrier


Regulatory

Political

High barrier

The sector feels increasingly confident that it will be able to deliver the technologicalsolutions to achieve change but it continues to be less certain about the financialcontext and, in particular, the political and regulatory context (see figure 8). As wesaw last year in our survey of investors, the financial and political contexts areintertwined with regulatory uncertainty identified as the number one anxiety affectinginvestment in the sector. Financial barriers were a concern for around half of theutility company respondents to this year’s survey and over 80% of all respondentssaid that political and regulatory factors are inhibiting the ability of the sector torespond to the immense change challenge ahead of it. Thus, while the sector ispreparing for major change, there are significant hurdles remaining that impedeprogress. Indeed, 42% of respondents felt that the industry is unable to developlong-term plans due to government or regulatory policy (see figure 9).

2 3 41

Figure 9: : The global utilities industry is unable to develop long-term plans due to regulatory and government policy

Asia Pacific

Middle East & Africa

5

Global

Note: Average response. Rate where: 5 = strongly agree; 1 = strongly disagreeSource: PricewaterhouseCoopers, Utilities global survey 2006

Americas

Europe

3.5

3.3

3.2

2.9

3.3


The continuing concern about regulatory uncertainty is further highlighted in our topsix issues table where ‘increasing regulation and obligation’ has edged up the list ofconcerns compared with two years ago and is joined in the top six by ‘regulation ofemissions’ (see table below). The major change in the top six is the dropping out of‘increasing transmission capacity’ and ‘increased JV from the oil majors/financialinstitutions’ – perhaps reflecting that the latter has already become evident, at leastin respect of financial institutions. In their place, a focus on renewable energy hasmoved more to the fore and the importance of both overall efficiency and controllingemissions is reflected by the arrival of ‘increasing efficiency of conventionaltechnologies’ in the table at number four.

Note: Global responses only. Source: PricewaterhouseCoopers, Utilities global survey 2006


“over 80% of respondents said that politicaland regulatory factors are inhibiting the abilityof the sector to respond to the immensechange challenge ahead”

1

2

3

4

5

6

Increasing transmission capacity

Concerns over security of supply

Increased JV activity from oil majors/financial institutions

Continuing wholesale price volatility

Increasing regulation and obligation

Encouragement of renewable energy

Top six ranking of the most important major developments in your power market over the next five years

2006 Two years ago (2004)

1 Concerns over security of supply

2 Encouragement of renewable energy

3 Increasing regulation and obligation

4 Increasing efficiency of conventional technologies

5 Continuing wholesale price volatility

6 Regulation of emissions

The single most important concern, however, for utility companies remains security of supplywhich tops the list both this year and last year. Underpinning this, and crucial to resolving supplyconcerns, is the interaction of price and regulatory uncertainty (see figure 10). The combinationof exposure to wholesale price volatility and, in many markets, regulatory controls on mostlynetwork but sometimes also end-user prices presents utility companies with both short-term and long-term difficulties. In the short term, fuel price volatility, which has been a strong recentfeature of the market, can leave companies exposed and, in the long term, critical majorinvestment decisions have to be planned against often uncertain regulatory as well as pricehorizons. The impact of regulatory uncertainty on investment is felt across all regions. However,it is especially strongly felt in the Asia Pacific region where no fewer than 54% of respondentsrate it as a high disincentive to investment and a further 47% judge it of medium importance.

10 20 30 40 50 600

Figure 10: What is most important in determining security of supply in your home market?

Environmental compliance

Avoidance of dependencyon single supply source

70 80 90 100%

Financial uncertaintyof suppliers

Low importance

Medium importance


Price pressures

Regulatory uncertaintyhindering investment

Political instabilityin supply country

High importance

A technological leap

The utilities industry is looking to technology playing a major role in its response to the pincer offuture demand challenges and environmental concerns. Around two-thirds of respondentsidentify technology as a strong driver of change with many of them saying that it will have arevolutionary or highly significant role in determining the future direction of the sector. A range oftechnological developments point towards the industry entering a period of change unparalleledsince the shift to gas in large generation some twenty years ago.

The importance of technology is highlighted by utility companies’ identification of coal, alongsidepiped gas, as the key fuel in meeting much of future demand growth (see figure 11). Accordingto the International Energy Agency’s Clean Coal Centre, all the present-day coal-firedtechnologies for power generation could be adapted to capture 80-90% of the CO2 that theyrelease. Significant challenges and uncertainties remain and some key technologies are only justat the stage where they are ready to move to large commercial-scale demonstration. Forexample, Vattenfall is about to construct a pilot facility in Germany to enable CO2 capture frompulverised coal combustion (PCC) involving combustion of the coal in an oxygen/recycled fluegas mixture, with the balance of CO2 taken off for storage. An Australian-Japanese consortiumalso plans to retrofit a 30Mwe unit in Queensland to achieve the same outcome (source: IEAClean Coal Centre, Towards zero emission coal-fired power plants, Profiles, October 2005). Theresponses in figure 11 also highlight the emphasis that will need to be placed on majorinfrastructure investment to deliver increased gas pipeline capacity.


20%

48%

47%

29%

12%

10 20 300

Figure 11: What fuel types are expected to account for an increasing proportion of your fuel consumption over the next 5 years?

Wind

Oil

40 50%

Liquefied natural gas (LNG)

Note: Global responses only. % share of respondents ranking fuel source in their top 3Source: PricewaterhouseCoopers, Utilities global survey 2006

Nuclear 19%

17%

13%

Coal

Other renewables

Hydro

Piped gas

A new coal and nuclear era

Coal, alongside gas, leads the fuels expected to meet increased power demand in thenext five years. A significant minority of respondents also identify nuclear generation. If anything, this understates the likely future emphasis on nuclear since the questionfocused on the next five years whereas new nuclear build requires a ten-year lead-intime. Nuclear would be more relevant across a 10-15 year time-frame. Indeed, whenasked whether climate change concerns would lead to an increase in nuclear power, halfof the respondents in the Americas and Europe and 44% of all respondents said theyexpect nuclear capacity to increase in their region (see figure 12). Also, the contributionof hydro and renewables should not be underestimated; they were identified as firstchoice for meeting future demand by around a quarter of respondents.

10 20 300

Figure 12: Regional percentage of respondents expecting climate change concernswill lead to a growth in nuclear power generation in your region

Europe

Asia Pacific

40 50%

Middle East and Africa

Note: % share of responsesSource: PricewaterhouseCoopers, Utilities global survey 2006

Americas

11%

50%

49%

38%


“we are entering a period of technologicalchange unparalleled since the shift to gas inlarge generation some twenty years ago”

The combination of technological developments and energy prices raise theprospect of a shift towards cleaner coal and nuclear in the energy mix. For the samereasons, there is the very real prospect of much greater distributed generationwhere end-users, both large and small, install their own on-site generation, using avariety of technologies ranging from today’s local CHP plant and micro-turbinesthrough to tomorrow’s fuel cells. On a grand scale, perhaps the ultimate example ofend-users shaping the future of the power sector comes in Finland which, alone inEurope, has pressed ahead with the expansion of nuclear power with a Euro 3bnnew plant being financed by the country’s power-hungry pulp and paper industry. Inan era of high power prices and supply uncertainties, we can expect the number of‘end-user led’ power projects, both large and small, to increase.

Unsurprisingly, the majority of respondents, 67%, expect the greatest technologicalimpact to come in generation. When asked to identify where exactly in the valuechain technology will make the biggest contribution, the importance of clean coal isonce again brought into focus with nearly half of respondents pinpointing coalgeneration (see figure 13). Not far behind is the expected impact of technology onenergy and fuel savings.

Energy efficiency will become ever more important, both on the supply and thedemand side, to help alleviate both the cost of investing money in more generationand to close the demand and supply gap. Also, notably, nuclear generation isidentified by 33% and distributed generation by 25% of respondents. However,clearly a significant majority within the power utilities industry is looking totechnological innovation in fossil fuel-fired generation to provide the answer to bothsupply and environmental challenges. Indeed, when asked what technologies wouldhave the most beneficial impact on greenhouse gas emission, virtually as manyrespondents singled out coal regasification and carbon sequestration as opted fornuclear and renewable generation (see figure 14).

10 20 300

Figure 13: In which areas of generation and supply do you expect technological developments to have the greatest impact over the next 10 years?

Waste incineration and landfill gas

Geothermal

40 50%

Oil-fired plants


Combined heat and power (CHP) plants

14%

10%

8%

20%

16%

14%

26%

24%

22%

41%

33%

33%

47%

Hydro power plants

Solar power plants

Combustible renewable

Distributed generation

Gas-fired plants

Nuclear power plants

Wind power plants

Energy savings and efficiency

Coal-fired plants


10 20 300

Figure 14: Which technologies do you expect to make the biggest impact on the level of greenhouse gas emissions from the supply of electricity within the next ten years?

Coal regasification

Nuclear

40 50%

Renewables


Carbon sequestration

36%

27%

41%

28%

An efficiency leap

The pressure on utility companies to deliver greater efficiencies is intensifying. Anera of higher prices, stretched supply lines and investment in expanded anddiversified infrastructure is putting significant additional cost into the value chain. Atthe same time, high energy prices are increasing scrutiny from regulators, customersand the media. Companies can expect continued and, indeed, greater resistance tocosts being passed on to end-users. In this environment, many respondents to oursurvey are looking to technology to be the lead source of efficiency gains withintheir companies (see figure 15). In the Americas, for example, nearly half (48%) ofrespondents gave the exploration of new technologies top scores of 4 or 5,reflecting the emphasis of the Bush Government on technological solutions to futureenergy need.


1 2 30

Figure 15: Which of the following do you expect to have the greatest impact on the efficiency of utility companies?

Reorganising capital structure

Diversification

4 5

Vertical integration

Note: Average response. Rate where 5 = most impact; 1 = least impactSource: PricewaterhouseCoopers, Utilities global survey 2006

A return to core business

2.6

2.5

2.4

2.6

3.0

2.7

3.1

Improved operational and maintenance efficiencies

Enhanced risk management

Exploiting new technologies

“we can expect the number of ‘end-user led’ power projects, both large and small, to increase”

Hard on the heels of technological efficiencies comes an emphasis on improving theefficiency of operational activities – sourcing and transporting fuels, converting fuels,transporting/distributing electricity to customers and, increasingly, efficientenvironmental performance. Utility companies are increasingly seeking to minimiserisk in asset security, serviceability, performance availability, reliability andrestoration after breakdown. Smart asset management is stepping up a pace andcompanies are delivering this:

i) through contracts with expert service providers who bring advantages conferredupon them as a consequence of some mix of size and specialisation;

ii) through appropriate monitoring and management interventions based on gooddata on real time performance and linked directly to asset performance whichmatters; and

iii) through automation and capital solutions to eliminate human errors when thatmakes sense in terms of return on investment. At a time when so muchinfrastructure needs to be built, capital expenditure programmes will also need to bedelivered on time and to budget. It will be important that the delivery of theseprogrammes by big engineering contractors is integrated by utility companies withthese principles of smart asset management from the outset.

The M&A leap

M&A activity in the sector is already running at very high levels. Our Power Deals2005 survey reported that new records were set for the total number of deals, thetotal value of deals, the value of a single deal and the number of mega-deals in2005. Total deal value soared from US$123bn to US$196bn, much of it fuelled by aUS$64.6bn increase in the value of European power assets that changed hands.More recently, E.ON’s US$34bn move for Endesa not only set a new record for theutility sector but was reported to be the second biggest cash deal on record acrossall sectors (Financial Times, 21 February 2006). The surge in deals comes on theback of a similarly huge surge in the previous year leaving the value of total dealactivity at nearly five times the level recorded just two years earlier.

The industry continues to be ripe for consolidation in all major markets. The questby the leading companies to become ‘super regional’ players has some way to run.It is this quest for the right ‘super regional’ scale, together with the pursuit of non-organic growth, that is driving M&A activity (see figure 16). As well as theachievement of scale and growth, a range of imperatives are fuelling activity –continuing fuel and power convergence, now extending in ways that are blurringupstream and downstream boundaries; the need to develop new skills andcapabilities, for example in renewable energy; and vertical integration to achieve anoptimal balance between fuel supply, generation and the customer base.


“stretched supply lines and investment inexpanded and diversified infrastructure are puttingsignificant additional cost into the value chainmaking efficiency all important”

2.7

1 2 30

Figure 16: What is driving your M&A activity?

Regulatory pressure

Geographic expansionoutside home territory

4 5

Note: Average response. Rate where 5 = major driver; 1 = not a driver*Question not asked in 2004Source: PricewaterhouseCoopers, Utilities global survey 2006

Divesting assets to focuson core business

Acquiring new customers

Acquisition of skill/knowledge

Scale for competitive advantage 3.2

Broadening product portfoliosto existing customers

*Creating an inherent hedge in portfolio– supply & demand balance in gas

3.53.3

3.13.2

3.3

2.82.72.7

2.62.9

2.6

2.62.62.6

2.62.8

3.0

*Creating an inherent hedge in portfolio– supply & demand balance in power

2.52.62.6

2.32.5

2006

2005

2004

3.1

Looking ahead, it is the quest for ‘super regional’ scale that will continue to be thedominant imperative rather than wider global ambition, although the latter is notcompletely ruled out with a small minority of Asia Pacific respondents who are lookingtowards the Americas and Europe, and a few European respondents who are keepingan eye on opportunities across the Atlantic (see figure 17). In contrast, all of therespondents from the Americas are sticking to their home market for expansion.

Note: Total % share of responsesSource: PricewaterhouseCoopers, Utilities global survey 2006

Europe

Americas

MEA

Asia Pacific

Figure 17: Which geographical markets are your priorities for expansion in the next five years?

10 20 30 40 50 600 70 80 90 100%

Americas

Europe

Asia Pacific

MEA


The leading players

EDF and E.ON continue to stand out in the minds of utility company respondents asthe leading utility players globally. Seven companies stand out and, with twoexceptions, they are the same companies that led the pack last year. Duke Energyand Eskom are the newcomers, the former gaining greater global prominenceperhaps as a result of its US$14.3bn mega-deal acquisition of Cinergy and the latterpossibly as a result of its dominant regional position on the African continent.

Figure 18: Who do you see as the leading utilities player(s) globally?


EDF 19%

Endesa 3%

Others 41%

E.ON 16%

Duke Energy 6%Exelon 6%Eskom 6%

RWE 3%

The new network players

In all the major markets, the competitive threat is perceived by companies to bepredominantly from other utility companies in their own country markets or inadjacent markets who are building regional footprints. A noteworthy exception tothis comes in Asia Pacific where respondents rate the competitive threat fromfinancial institutions and investment banks nearly as strongly as from within theirown sector.

This partly reflects the rise of infrastructure funds, led by the activities of Australian-based Macquarie Bank. These infrastructure funds are mainly purchasing networkassets that have been unbundled from the competitive upstream generation andretail parts of the power value chain and holding them in investment funds alongsideinfrastructure purchases in other sectors such as toll roads, water and telecoms.

The result is the beginning of what could be a significant shift in the overall shape ofthe power sector. Particular economic advantages can be gleaned by assemblinggeographically overlapping gas, water and electricity networks and marrying thesewith long-term investment objectives, for example those of pension funds.Regulators may also see potential advantages from the low costs of capital thatthese infrastructure businesses can command.

The liberalisation leap

One leap that has been with us for some time is liberalisation although, as we seebelow, in some territories it is more akin to a walk. Liberalisation of markets, boththrough dismantling barriers to entry and the introduction of customer choice, is atrend that has been running for some ten years. Progress has been faster in someregions than others and in some countries within regions. The introduction ofcustomer choice in a number of key markets, particularly in most of Europe by mid2007, is stepping up the pace of change. Indeed, 50% of respondents to our surveysaid the sector is having to rapidly improve its practices as a result of customerchoice and, interestingly, this view was fairly consistently expressed across allregions, irrespective of the extent of customer choice that had been introduced inthose regions.


However, problems with access to markets and the local character of muchregulation have been a factor in thwarting the ambitions of many European and UScompanies to develop a more globally stretched footprint. We have seen retreats byUS companies from Europe and Australia and of European companies from the US.Looking ahead, the consensus of respondents to our survey is for a continuedopening up of markets with the notable exception of respondents from the Americas(mainly US) who, despite the recent repeal of the Public Utilities Holding CompanyAct, see little progress in the opening up of their home market (see figure 19).

3.13.3

3.23.1

3.2

3.33.9

3.73.3

3.6

1 2 30

Figure 19: How open do you consider your home market now and how open do you expect it to be in five years time?

Electricity

Gas

4 5

Note: Average response. Rate where 5 = most open; 1 = least openSource: PricewaterhouseCoopers, Utilities global survey 2006

In five years

Now 3.33.6

3.0

Americas

Europe

Asia Pacific

MEA

Global

3.13.3

3.34.2

4.04.0

3.9

In five years

Now

Ineffective regulation continues to be seen as a significant barrier to entry and, notsurprisingly given their forecasts for a relative stalling of market opening, the mostcritical voices in our survey are coming from the Americas (see figure 20). They arenot alone in seeing shortcomings with the overall regulatory framework as a keydampener on liberalisation. It is a factor that is identified by around half of allrespondents (see figure 20). In addition, third party access for transportation andstorage continues to be a problem particularly for gas companies in Europe.


“ineffective regulation continues to be seen as a significant barrier to entry”

20 40 600

Figure 20: Which is the largest barrier to entry (assuming appropriate lawshave been passed to permit competition)?

80 100%


Lack of investment protection

Inneffective regulation Americas

Europe

Asia Pacific

MEA

Global

Preferential treatment fornational companies

Non-transparent third party accessfor transmission, transport, storage

and distribution

10 30 50 70 90

Environmental reporting

Utility companies continue to see environmentalreporting as a clear opportunity that can bringbusiness benefits although progress towards itswidespread adoption is slow and inconsistent. Inboth the Americas and Europe slightly morecompanies are expressing an ambition to move toenvironmental reporting than in our survey last year.However, in Asia Pacific the trend is reversed. Thoserespondents who are already undertaking suchreporting or moving towards it cite a variety ofreasons for its adoption. Foremost among them isan opportunity to enhance their brand. This isclosely followed, however, by a belief that it will addshareholder value, either directly or through strongersocial responsibility ratings through indices such asFTSE4Good and the Dow Jones SustainabilityIndexes.

Figure 21: Is your ambition to move towards greaterenvironmental reporting?


No 49%

Yes 51%

Americas 2006

No 44%

Yes 56%

2005

Europe 2006 2005

No 27%

Yes 73%

No 32%

Yes 68%

Asia Pacific 2006 2005

No 25%

Yes 75%

No 18%

Yes 82%


The future for emission controls

The majority of utility leaders in our survey expect to see a continuation andexpansion of the ‘cap and trade’ market-based approach to emission controls, asfirst pioneered in the US in respect of SO2 and, more recently, in the EU in respectof CO2. Sixty-one per cent of respondents expect to see either more linked regionalschemes (40%) or even a global scheme (21%) beyond 2012, when the first KyotoCommitment Period expires. The view is particularly strongly held by respondentsfrom the Americas where 88% of respondents either anticipate the development ofa global scheme (21%) or linked regional schemes (67%). However, strikingly, asignificant proportion of respondents believe either that the EU Emissions TradingScheme (ETS) will not be joined by other similar schemes elsewhere (23%) or thatboth the ETS and the Kyoto Protocol will collapse (16%). Such a view is particularlyevident among Asia Pacific respondents among whom there is a majority that donot expect to see an extension of the schemes. They will hope this is the casesince, currently, Asian utility companies are potential beneficiaries in the sense thatthey do not have to contend with any caps under the Kyoto Protocol but they cangain by credits.

20 40 600

Figure 22: What regulatory or market regime do you expect to develop post-2012 for CO2 emissions?

80 100%


Continuation of the EU ETSbut no other significant cap

and trade scheme for utilities

Collapse of the Kyoto Protocoland repeal of EU emissions

trading legislation

Americas

Europe

Asia Pacific

MEA

Global

Linked regional cap andtrade schemes for utilities

Global cap and tradescheme for utilities

10 30 50 70 90


“a majority of respondents expect to seeeither more linked regional schemes or evena global emissions trading scheme”

The Americas

*

21 The Americas

Utility companies in the Americas are in little doubt about the

change challenge ahead. Nearly two-thirds of our survey

respondents (63%) see it as the biggest change in recent

times (see figure 1). They are milder in their assessment of the

nature of the change compared to their counterparts in

Europe. Nonetheless, over a third (38%) see it as

‘revolutionary or very significant’ (see figure 2). They express

particular concern about the supply and demand challenge

they face (see figure 3).

Over half of respondents in the region rate the supply anddemand challenge they face as either an ‘immense’ (16%or respondents) or ‘significant’ challenge (42%). Compared,though, to the era of the California power crises some fiveyears back, most respondents do not feel the likelihood ofpower cuts or interruptions in gas supply is increasing.

However, as we report in the main global chapter, utilityrespondents from the region are not optimistic about theprospects for market reform, predicting that there will belittle regulatory progress to further open access to marketsin the next five years. Out of all the regions, they arestrongest in pointing to ineffective regulation as a barrier tomarket entry (see figure 20 on page 19).

Americas Figure 1: Americas vs global: the global utilities industry is facing the biggest period of change in the last twenty years

Strongly agree

Agree

Americas

Europe

Asia Pacific

MEA

Global

Strongly disagree

Note: Americas and global responses only. % share of responsesSource: PricewaterhouseCoopers, Utilities global survey 2006

10 20 30 40 50 600 70 80 90 100%

Americas

Global

Disagree

Neither agree or disagree

Americas Figure 2: Americas vs global: What is the extent of change?


Revolutionary or very significant change

Significant change


Marginal change

10 20 30 40 50 600 70 80 90 100%

Americas

Global

The Americas 22

Americas Figure 3: Americas vs global: how significant is the extent of the supply and demand challenge you expect to face over the next five years?

Immense challenge

Significant challenge

Medium challenge

Low challenge

No challenge


10 20 30 40 50 600 70 80 90 100%

Americas

Global

Americas Figure 4: Americas vs global: what should be the focus of the industry over the next ten years?

Developing new technologies

High focus

Medium focus

Low focus


10 20 30 40 50 600 70 80 90 100%

Americas

Global

A key trend among respondents from the region is a strongfocus on technology (see figure 4). Spurred by the USgovernment’s focus on technology as a response to globalwarming concerns, utility companies in the region areclearly prioritising the development of technology to delivergreater efficiency, cleaner power and to diversify the fuelmix.

United StatesStrong shareholders returns, new energy legislation andunprecedented volatility in fuel commodity markets characterisedthe US power utility sector in 2005 and are expected to havemajor impacts on the structure and operation of the power utilitiessector for many years to come. The next five to ten years will seesignificant changes although the leap forward will be gradualrather than sudden with the local regulatory environmentcontinuing to condition the pace of change.

1 2 30

United States Figure 1: Please rate the effects of the following provisions of the Energy Policy Act of 2005 on the company

Incentives for clean coal technology

Repeal of mandatory purchase/sales requirements of PUHCA

4 5

Note: Average response. Rate where: 5 = high impact; 1 = low impactSource: PricewaterhouseCoopers, Utilities global survey 2006

Repeal of PUHCA

Encouragement of renewable energies

2.9

2.7

2.4

2.1

Although the Federal Energy Regulatory Commission (FERC) was granted authority to reviewacquisitions and mergers of generating facilities, it is likely the repeal of PUHCA will speed upconsolidation of the industry. The momentum for more mergers in the sector comes not just fromthe PUHCA repeal but, more fundamentally, from the improved financial strength of the sectorand the limits of purely organic growth. In this environment, the road to enhanced shareholdervalue points to consolidation as a solid strategy to achieve real operational synergies, fuel andgeographic diversity and the matching/hedging of generation resources with demand profiles.The combination of these factors leads respondents to our survey to highlight more utilitymergers as the clear first choice in terms of expected changes in the US power utility sectorover the next five years (see figure 2).

Big changes

In August, President Bush signed into law the Energy Policy Act 2005 (EPA 2005). Most notably,the Act repealed the Public Utility Holding Company Act of 1935 (PUHCA). In our survey,respondents ranked repeal of PUHCA as the most significant effect of the Energy Policy Act (seefigure 1). PUHCA imposed federal restrictions on the scope, structure and ownership of electriccompanies. Specifically, non-utilities such as oil and gas companies or private equity fundscould only have a passive interest in utilities. The Act also placed limits on the geographic reach,size and capital structure of utility holding companies.

Moreover, when asked to speculate as to which group would be the most active in increasedmerger activity, our respondents picked private equity ahead of utility companies themselvesreflecting the specific opportunity afforded to such players by the PUHCA repeal (see figure 3).

23 United States: The Americas

1 2 30

United States Figure 2: What will be the biggest change to the utility industry over the next five years?

Increase in open access through RTO’s

Less regulation

4 5

Note: Average response. Rate where: 5 = very important; 1 = not importantSource: PricewaterhouseCoopers, Utilities global survey 2006

New technologies

More regulation

3.1

2.6

2.0

1.9

3.9More merged companies

1 2 30

United States Figure 3: Will merger activity resulting from the repeal of PUHCA be among the following groups?

Oil companies

GE and other utility vendors

4 5

Note: Average response. Rate where: 5 = very likely; 1 = unlikelySource: PricewaterhouseCoopers, Utilities global survey 2006

Domestic utilities

Foreign utilities

3.1

2.8

2.2

2.1

3.4Private equity

The Americas: United States 24

A focus on renewables

EPA 2005 also encourages investment in infrastructure, helps boost electric reliability andpromotes a diverse mix of fuels to generate electricity. Various incentives were made available forinvestment in clean coal technologies, integrated coal gasification combined cycle facilities,increased natural gas-fuelled power production and renewable energy resources such as wind,biomass, geothermal, solar and fuel cells. Nuclear energy was also supported via cost overrunsupport and production tax credits. As figure 1 shows, the respondents to our survey view theencouragement of renewable technologies as the second most important part of the legislationand, indeed, as the second largest force impacting change in the utility sector over the next fiveyears (see figure 2).

Increased regulatory activity

With rate freezes ending in many jurisdictions, our survey indicates that management’s emphasisover the next year will be squarely on securing appropriate new rates in traditional state ratecases (see figure 4). It is clear also that the sector does not expect its regulatory challenges toend there. Record increases in natural gas and coal prices have received high visibility and thereis growing concern about the ability of the average consumer to absorb these costs as they areincurred. Several states long ago eliminated fuel adjustment clauses permitting automatic passthrough of these higher commodity costs with the result that the opportunity to offset highercommodity costs with customer growth or other efficiencies is severely limited. Given the extentof fuel price increases, the pressure for regulatory pass through will be great and the onlyquestion is whether the issue will be dealt with in new rate cases (indicated by two-thirds of ourrespondents), prudency reviews (over 40% of respondents) or both (see figure 5).

1 2 30

United States Figure 4: Over the next year, what will be your focus?

Retail competition

Fuel diversity

4 5

Note: Average response. Rate where: 5 = very high focus; 1 = no focusSource: PricewaterhouseCoopers, Utilities global survey 2006

Merger/acquisitions

Increasing customer satisfaction

2.8

2.6

1.9

1.8

2.8Acquiring new generation

3.7Rate cases

Shareholder value

The Dow Jones Utility Index generated a total return in excess of 25% in 2005, far exceeding thereturns of the Dow Jones Industrial Average, S&P 500 Index or the NASDAQ composite index.The sector, in fact, has experienced excellent returns since 2003 when the ‘back to basics’mantra took hold and non-core investments were liquidated with improved operations becomingthe primary focus. Seventy-one per cent of the respondents to our survey believe their stock isappropriately valued while only 13% believe their stock was undervalued. When asked to predictthe movement in utility stocks over the next twelve months, 75% forecast that stock prices willstay the same or move higher (see figure 7).

10%

10 20 30 40 50 600

United States Figure 5: In what ways do you see state regulatory commissions responding to higher fuel commodity prices?

Prudency reviews

More scrutiny on contracting/hedging strategies

70 80 90 100%

No impact

Note: Average responses only. % share of respondentsSource: PricewaterhouseCoopers, Utilities global survey 2006

New rate cases 67%

43%

17%

25 United States: The Americas

There is, however, some good news on the regulatory front. For many years, the traditional utilitywas vertically integrated performing the functions of generation, transmission and distributionwithin a certificated service territory. Over the past ten years generation has largely beenderegulated with power produced by non-regulated generators being sold into and purchasedfrom power markets operated by Independent System Operators (ISOs). The ISOs areresponsible for, among other things, establishing generation prices based on market dynamicsand achieving system reliability. We asked survey participants to grade the effectiveness of thevarious markets and all received better than average scores with PJM scoring the highest withan above average composite grade (see figure 6).

1 2 30

United States Figure 6: How effective are the following markets?

Cal ISO

4 5

Note: Average response. Rate where: 5 = very effective; 1 = inefectiveSource: PricewaterhouseCoopers, Utilities global survey 2006

MISO

New York ISO

3.2

3.1

2.8

3.3ERCOT

3.8PJM

The Americas: United States 26

United States Figure 7: What movement do you expect in utility stocks over the next twelve months?

Higher 25%

Don’t know 21%

Lower 4%


Same 50%

“the leap forward will begradual rather thansudden with the localregulatory environmentcontinuing to conditionthe pace of change”

This bullish forecast should be a vote of confidence to investors worried about high commoditycosts but, more importantly, is supported by our respondents’ belief that the most importantshareholder value initiatives will be focused on increasing generation availability and improvingfuel diversity as hedges to continued volatility in commodity markets. (see figure 8).

1 2 30

United States Figure 8: What are the most important cost reduction/shareholder value opportunities in the US?

Reduce headcount

4 5


Reduce pension/Other Post Employment Benefits (OPEB) costs

Outsource non-core functions

2.3

2.2

2.1

2.4Improve fuel diversity

3.3Improve availability of generation

CanadaThe operating environment for utilitycompanies in Canada is diverse andthis diversity is a key influence on thepace and extent of change. From aneconomic perspective, the Canadianresources sector, driven by oil andgas, has been extremely dynamic.Most of the resources activity islocated in western Canada and,consequently, the western economieshave been booming. In centralCanada, in contrast, there has beenlittle growth due to reliance on themanufacturing sector.

From a political perspective, Canada is equallypolarised. In Alberta, there is a full commitment toderegulation and a growing consensus that deregulationhas been very successful. In Ontario, in contrast,deregulation initiatives have been largely put on hold, asa result of a political decision to cap retail prices. Theother key political issue in Ontario stems from thechallenges to the provincial government’s decision tophase out coal generation. In most of the otherprovinces, with the exception of New Brunswick,deregulation is barely on the agenda.

27 Canada: The Americas

“polarisation is the defining feature”

Regulatory outlook

When asked about their views on the results of deregulation, respondents to our survey gaveAlberta a quite favourable rating with 57% of respondents viewing its deregulation efforts assuccessful and only 14% as unsuccessful. In Ontario, on the other hand, respondents tended toreserve judgement with 50% saying it was ‘too early to tell’. Only 38% of respondents rated theprovince’s efforts to date as successful. Twelve per cent said they were unsuccessful. All theother provinces are at an early stage in deregulation apart from New Brunswick, which has setup an independent system operator that has been carved out of New Brunswick Power.

The detailed survey results indicate a broad consensus that there will be little change in theregulatory landscape in Canada over the next five years with the exception of:

• Alberta where there was significant divergence of views with 38% anticipating ongoing deregulation, 37% anticipating no change and 25%of respondents anticipating more regulation.

• Ontario where 50% of respondents anticipated more deregulation, 38% anticipated no change while only 13% anticipated more regulation.

Growth

We asked respondents to indicate their growth projections over the next twelve months.Seventy-five per cent of respondents anticipated growth of less than 5%, although there wassome bullish sentiment with 13% indicating 6-10% growth and 13% projecting growth of morethan 15%. The variance in results may reflect the diverse environment discussed earlier. Weasked respondents to identify the key opportunities for growth over the next three years (seefigure 1). Interestingly, the highest rated opportunity was the development of trading activities.The level of trading activity has dropped in recent years and this may indicate a resurgence.However, it is also striking that respondents did not give strong scores to any specific area,which suggests a relatively static and stable industry with a strong emphasis on the status quo.Utility companies do, however, expect to put a strong emphasis on improvements in internalperformance, particularly in operational performance; 87.5% of respondents are planninginvestments in operational performance improvement within the next twelve months and 50%anticipate similar investments in financial systems performance.

1 2 30

Canada Figure 1: What are the primary growth opportunities the company sees over the next three years?

International acquisitions

4 5

Note: Average response. Rate where: 5 = high priority; 1 = low prioritySource: PricewaterhouseCoopers, Utilities global survey 2006

Pursue domestic mergers/acquisitions

Retail opportunities

2.0

1.3

1.1

2.1Buy/build additional transmission

2.3Buy/build additional generation

2.6Additional trading

The Americas: Canada 28

South America The South American economy isexperiencing its highest GDP growthfor many years – averaging 4 to 5 percent in the last twelve months. Thereis significant variation within theregion, with growth rates rangingfrom just one per cent to almosteleven per cent. Countries with lowergrowth rates need a significantdegree of investment in energyinfrastructure to foster theireconomical industrial activity. Thefaster growing economies, likeArgentina or Venezuela, requireenergy investments to maintain theireconomic growth and to ensuresustainability.

25%

10 20 30 40 50 600

South America Figure 1: Are you expecting investments in the market within the near future?

Strong level of investment

Some minor investment

70 80 90 100%

No investment


38%

37%

Investment and regulatory outlook

Energy supply investment is a real need in mostterritories. Most markets are characterised by a highlevel of government intervention and this is a keyinfluence on the degree of investment. Thirty-eight per cent of South American respondents said theyexpect a strong amount of investment in the near futurewith a further 37% expecting minor investment (seefigure 1). However, a quarter of the respondents do notanticipate investment being forthcoming.

29 South America: The Americas

“nearly two-thirds expect a morerational legal framework to beintroduced sooner rather thanlater”

Regulatory control of tariffs is a major determinant of investment flows into the sector. Only 63%of respondents expect tariff re-accommodation to happen in their markets in the next three years(see figure 2). The rest said that tariffs will stay frozen or managed in a way that would indicateto all stakeholders that no significant re-accommodation in the medium time will happen. Tariffre-accommodation is vital for investment. In some countries, frozen tariffs impede the viability ofnew gas and electricity projects.

No 37%

25%

10 20 30 40 50 600

South America Figure 2: Do you anticipate tariff re-accommodation over the next five years?

Yes, within a year

70 80 90 100%

Yes, within 2-3 years


38%

Yes, within 4-5 years 0%

The evolution of the legal framework in many countries has been patchy. In the 1990s, severalgovernments favoured demonopolisation, deregulations and privatisations and electricity andgas laws were reformed to accommodate this trend. However, subsequent economic crises incountries like Mexico, Argentina and Brazil prompted government intervention in these legalframeworks with, for example, the introduction of subsidy mechanisms to provide lower pricesfor some parts of the population. These types of interventions caused distortions in the systemsthat had been successful in the past. They also triggered lack of investment in the sector. Theoutlook for their relaxation is mixed, according to the respondents to our survey. Just over a thirdeither don’t expect any relaxation or say it is four or five years away (see figure 3). However,nearly two-thirds expect a more rational legal framework to be introduced sooner with a quarterof respondents optimistic that it will happen within the next twelve months.

10 20 30 40 50 600

South America Figure 3: Do you believe the legal framework will be morerational in the next five years?

Yes, within 2-3 years

Yes, within a year

70 80 90 100%

25%No


38%

25%

Yes, within 4-5 years 12%

The Americas: South America 30

Sustainable energy

Alternative sustainable energy sources will affect competitive electricity pricing in the region inthe near future. Gas stands out as the main alternative sustainable supply source (see figure 5).The region is rich in gas reserves and many projects have been implemented over the last 20years to transport gas reserves from wellhead injection to consumer markets. In the future thesouthern countries of the region, including Peru, Chile, Ecuador, Brazil, Argentina, Paraguay andUruguay, may constitute a regional gas market by incorporating two or three projects into theexisting network.

Interconnection is likely to spread further afield. A gas pipeline is under consideration which willtransport gas from Venezuela to Brazil, Argentina and other countries. Already, in some countriessuch as Argentina, the share of gas in the energy demand exceeds 50%. In others, like Brazil, itcomprises less than 5% so there is considerable potential for growth if the infrastructuredevelops. Even though hydro accounts for much of the region’s power generation, contributingalmost 90% of Brazil’s electricity for example, governments are planning to invest in more hydroprojects. Other sources like wind, nuclear, solar and bio-energy are expected to play their part inthe fuel mix but have a smaller underpinning role.

Legislation will be key to the restructuring of power markets. As the responses in figure 4indicate, our survey respondents see the need to be more customer-focused and to introducemore competition as two of the main drivers behind such restructuring. Many observers feel thatcustomer care was left to one side in the nineties with security of supply becoming the dominantpriority. Improved customer care will be important if companies are to demonstrate theadvantages of more liberalised markets.

1 2 30

South America Figure 4: What are the key drivers for the restructuring of the generation and distribution markets?

Lack of investment/inability to maintain networks

Inability to supply to the indigent (poor population)

4 5

Note: Average response. Rate where: 5 = key driver; 1 = not a driverSource: PricewaterhouseCoopers, Utilities global survey 2006

Current fragmented industry

Integration with other industries

2.2

2.2

2.2

2.2

3.4

2.7

2.5

2.3

3.8

Tariff rationalisation

Performance improvement

Improved customer care

Competition

Legislation

31 South America: The Americas

“cost reduction is the numberone priority”

1 2 30

South America Figure 5: Which of the following alternative sustainable energy sources do you believe will affect competitive electricity pricing in your region in the near future?

Solar

Bio-energy

4 5

Note: Average response. Rate where: 5 = high effect; 1 = no effectSource: PricewaterhouseCoopers, Utilities global survey 2006

Wind

Nuclear

2.1

2.0

2.0

1.7

3.8

2.3

Gas

Hydro power

Internal reform

In South America, the level of development is not in line with markets like Europe or the US.Over the past decade, the operating environment for utility companies has been disrupted bydevaluations and other economic volatility. Corporate strategy has been interrupted by changesin ownership. This context means that companies have ground to make up in focusing on someof the ‘basics’ that will increase profitability. Top of the list is a focus on cost reductions, followedby securing a more favourable price regime (see figure 6). The capital structure of companies isalso continually on the agenda with new local players playing an active part, especially with exitmoves of companies such as EDF and Suez from France, National Grid from the UK and othersto reduce their capital exposure in the region.

1.7

1.7

1.7

1.7

2.1

1.9

2.9

2.7

2.3

3.6

1 2 30

South America Figure 6: Which do you see as the most likely way to improve the profitability of South American utility companies?

Outsourcing

Personnel reductions

4 5


A return to core business

JVs and alliances

Diversification

Vertical integration

Integration with other industries

Price/tariff increases

Reorganising capital structure

Cost reductions

Moving forward

Utility companies and governments in South America will face their own big leap in the decadeahead. Government intervention has been a marked feature of the sector in the past and hasimpeded the development of projects that could have accompanied economic growth in severalcountries. A reduction of government intervention and legislative change will be necessary toallow greater private sector participation in utilities markets. Tariff increases, cost reduction andbetter performance would allow more investments that will be essential to achieve sustainablegrowth.

The Americas: South America 32

EuropeThe utilities sector in Europe is experiencing a wave of

consolidation with a series of record mega M&A deals ahead

of the full introduction of customer choice within the EU in

2007. The scale of industry consolidation is matched by

European respondent’s views of the challenge ahead.

Fifty-seven per cent of European respondents describe the

change challenge as ‘revolutionary’ or ‘very significant’ and

nearly three-quarters (72%) expect it to be the biggest change

in recent history (see figures 1 and 2).

*

33 Europe

Europe Figure 1: Europe vs global: the global utilities industry is facing the biggest period of change in the last twenty years

Note: Europe and global responses only. % share of responsesSource: PricewaterhouseCoopers, Utilities global survey 2006

Strongly agree

Agree

Strongly disagree10 20 30 40 50 600 70 80 90 100%

Europe

Global

Disagree


Europe Figure 2: Europe vs global: What is the extent of change?



Significant change


Marginal change

10 20 30 40 50 600 70 80 90 100%

Europe

Global

Security of supply fears

The nature of the challenge facing European utilities is evidenced by the fact that, compared toall other regions across the globe, it is in Europe that utility fears of energy cuts are intensifyingmost. Approaching half of all the European respondents to our survey believe that powerblackouts or interrupted gas supply are more likely to occur than was the case five years ago.Only a small minority thinks the fear has receded. Behind this worry is a concern about politicalinstability in gas supply source countries, which is cited as a strong factor affecting security ofsupply by 50% of respondents. The cost of environmental compliance is also cited strongly – by43% of respondents.

Europe 34

“nearly half of all the Europeanrespondents believe that powerblackouts or interrupted gas supplyare more likely to occur”

However, these concerns need to be seen in the historic context of relative supply security.While there have been notable power crises in recent years, for example in the UK and innorthern Italy, such occurrences have not been commonplace as they are in some other parts ofthe world. Thus, although they anticipate an increasing risk of power failures in Europe, whenasked about the overall supply and demand challenge (figure 4), European respondents remainmore relaxed than their counterparts elsewhere. Nonetheless, one third (34%) say that supplyand demand imbalance in Europe is a ‘significant’ or even ‘immense’ challenge. Such concernswere brought into sharp focus with the disruption to European gas supplies from Russia in early2006, caused by Gazprom’s price dispute with Ukraine.

Europe Figure 3: Europe: do you think blackouts in the electricity sector or interrupted supply in the gas sector are more or less likely to occur in your home market compared to five years ago?

Note: Europe responses only. Total % share of responsesSource: PricewaterhouseCoopers, Utilities global survey 2006

Unchanged 33%

More likely 45%

Less likely 22%

Electricity

Unchanged 38%

More likely 48%

Less likely 14%

Gas

Europe Figure 4: Europe vs global: how significant is the extent of the supplyand demand challenge you expect to face over the next five years?

Immense challenge


Medium challenge

Low challenge

No challenge


10 20 30 40 50 600 70 80 90 100%

Europe

Global

35 Europe

Emissions trading

With the advent of the EU emissionstrading scheme (ETS), the cost ofcarbon has become a key factor inutility companies’ strategies. The EUscheme is at a critical stage, in itssecond year and with key decisionsabout to take place on the operationof the second phase of the schemewhich will run from 2008 to 2012. Wetook the opportunity to get the viewsof European respondents on theoperation of the scheme and itsfuture direction.

More favourable 11%

Less adverse 11%

Less favourable 6%


As expected 53%

More adverse 19%

Europe Figure 5: After the first year of trading on the EU Emissions Trading Scheme, how has the impact on the profitability, value and prospects of your business in Europe compared with your expectations prior to the launch of the scheme?

Europe has led the way in the introduction of a ‘cap andtrade’ form of regulation of CO2 emissions. The scheme,though, follows similar mechanisms pioneered in the USfor the control of SO2 emissions. Strikingly, as we sawon page 20 earlier in this report, a majority ofrespondents around the world expect other regions tofollow Europe in the introduction of CO2 emissionstrading, including 88% of respondents across theAtlantic. In Europe, very few respondents (just 10%)expect to see a future without such emissions trading(see earlier figure 22).

Overall impact

The emissions trading scheme introduces opportunitiesfor European utilities to add value to their companies byusing a blend of emissions trading, hedging and pricingstrategies and through changes in the fuel mix. One yearinto the ETS, our survey indicates mixed views on theimpacts on performance (see figure 5). While themajority feels that the impact of ETS on their company’sprofitability and prospects has been in line with theirexpectations, 25% of European respondents say thescheme has had a more negative impact than they hadanticipated. Set against this, just over a fifth (22%)report that the impact has been more favourable thanthey previously expected. Companies who are likely tobe most feeling the pinch will be those that areoperating in market environments where they are unableto pass carbon prices on to customers.

Europe 36

Impact on investment

Despite uncertainties around the second phase of the scheme, few survey respondents reportthat the ETS has caused them to postpone investment decisions. Instead, the scheme hasspurred more investment in renewables and a greater focus on clean coal technology (see figure 6). However, the responses in the table do not suggest a net switch from coal to gaswhich, at least in the short run, would help to reduce carbon emissions.

14%

47%

37%

21%

10 20 300

Europe Figure 6: What impact have ETS uncertainties had on investmentdecisions in your business?

Postponement of investmentin new generation

Active consideration ofcarbon capture and storage

40 50%


Active consideration of investmentin new nuclear generation 14%

12%

9%

Active consideration ofclean coal technology

More investment in newgas-fired generation

More investment ingeneration outside the EU

More investmentin renewables

Use of CDM

Companies are able to use emission-based credits flowing from so-called Kyoto Protocol FlexibleMechanisms – CER (Certified Emission Reductions) from Clean Development Mechanism (CDM) and,from 2008, ERU (Emission Reduction Units) from Joint Implementation (JI) – to help comply with ETScaps. In this way, emission reductions achieved through approved projects in developing countries canbe used to meet EU obligations up to a certain limit. Around 40% of respondents are relying onsignificant CDM purchases for compliance purposes. This underlines the importance of theinternational transaction log, which will link the CDM registry with EU national registries, being ready intime for companies to use these credits before the end of the first phase in 2007. Around a quarter ofrespondents are not just using CDM for compliance but are also actively trading in these credits.However, a third are staying out of the CDM process, perhaps being concerned about risk, lack ofsuitable trading expertise or not having the capability to identify suitable projects overseas.

14%

33%

29%

10 20 300

Europe Figure 7: Which of the following best describes the likely involvement of your company in the CDM market during the remainder of the first phase of the EU-ETS?

Significant purchases through a fund or otherintermediary for compliance purposes

Some opportunistic purchases fortrading or compliance purposes

40 50%


Significant direct purchases fortrading purposes 10%

10%

4%

No significant purchases likely

Significant direct purchasesfor compliance purposes

Significant purchases through a fund orother intermediary for trading purposes

37 Europe

Future carbon prices

Emissions trading introduced considerable new uncertainties for utility companies with the priceof carbon itself, of course, foremost among them. CO2 allowance prices have been trading in themid to high Euro 20s per tonne, rather higher than many commentators would perhaps haveforecast in advance of the scheme (see figure 8). European respondents to our survey expectthese prices to increase as a result of decisions about phase 2 allocations. Just over half (52%)anticipate increases of up to or above 20% (see figure 9) and a further 45% expect no majorimpact. Hardly any respondents expect the carbon price to weaken. With no carry-over ofallowances to phase two permitted, European utility companies will need to manage 2007positions carefully – a significant net long or net short position in the market at the end of phase 1 could lead to dramatic short-term price distortions.

45%

45%

10 20 300

Europe Figure 9: What movement in the price of EU allowances do you expect as a result of decisions and announcements in relation to Phase 2 National Allocation Plans during 2006?

20%+ reductions

1-20% reductions

40 50%

Note: Europe responses only. Total % share of responsesSource: PricewaterhouseCoopers, Utilities global survey 2006

20%+ increases 7%

3%

0%

No significant effect

1-20% increases

Europe 38

Apr 2005 Jul 2005 Oct 2005Jan 2005

Europe Figure 8: The price of carbon

10

6

Jan 2006

Source: Point Carbon/PricewaterhouseCoopers

14

26

18

22

28

Official start oftrading scheme

EC demands cutsin Italian NAP

UK gas rise0.75p to 66.5p

Softening wintergas prices

Cold spell acrosscontinental Europe

Russia-Ukraine gas dispute

Climbing gas & Germanpower prices

Cold weather

Eur

osp

erto

nne

Asia PacificGiven the phenomenal growth and change already

experienced in the region, Asia Pacific utility leaders might be

expected to view the changes that lie ahead with equanimity.

Indeed, respondents in the region were less inclined,

compared to their counterparts in other parts of the world, to

view forthcoming change as ‘revolutionary’ in nature. Even so,

44% report that the sector in the region is facing the biggest

change challenge in recent history with only 25% disagreeing

with this statement (see figure 1).

*

39 Asia Pacific

Asia Pacific Figure 1: Asia Pacific vs global: the global utilities industry is facing the biggest period of change in the last twenty years

Note: Asia Pacific and global responses only. % share of responsesSource: PricewaterhouseCoopers, Utilities global survey 2006

Strongly agree

Agree


Asia Pacific

Global

Disagree


Asia Pacific Figure 2: Asia Pacific vs global: What is the extent of change?



Significant change


Marginal change

10 20 30 40 50 600 70 80 90 100%

Asia Pacific

Global

Security of supply fears

Concerns about meeting the burgeoning power demands of the region are a key factor inrespondents’ minds. It is a challenge, of course, that the region’s utility players are used tograppling with and, alone among all the regions, no respondents characterised the challenge as an‘immense’ one. Clearly, companies in the region are sanguine about the scale of the challengesthey are continually facing. However, similarly, they are alone among all the regions in having such ahigh proportion of respondents rating supply and demand imbalance so significantly and in havingnot a single respondent rating it low in the scale of problems (see figure 3).

Asia Pacific Figure 3: Asia Pacific vs global: how significant is the extent of the supply and demand challenge you expect to face over the next five years?

Immense challenge


Medium challenge

Low challenge

No challenge


10 20 30 40 50 600 70 80 90 100%

Asia Pacific

Global

Asia Pacific 40

“Ninety-four per cent report thatregulatory uncertainty is holdingback investment”

Asia Pacific Figure 4: Asia Pacific vs global: how important is ‘regulatory uncertaintyhindering investment’ as a factor in determining security of supply in your home market?


Very high importance

High importance

Medium importance

Low importance

No importance

10 20 30 40 50 600 70 80 90 100%

Asia Pacific

Global

One of the responses of companies in the region to these concerns, has been tostep up their M&A activity. A strong motivation behind the deals in the region is notjust the pursuit of scale and growth but also the creation of an inherent portfoliohedge by striking an optimal balance of supply and demand. Forty-four per cent ofAsia Pacific respondents cited this as a strong driver of their M&A activity comparedto 19% and 18% of respondents in the Americas and Europe respectively. On theM&A front, Asia Pacific respondents are also exceptional in rating the competitivethreat posed by financial institutions and investment banks strongly. Fifty-three percent of respondents in the region saw these players as a significant threatcompared to 12% of respondents in the Americas and 10% or European

41 Asia Pacific

Investment concerns

Lying behind concerns about security of supply are concerns about the regulatoryclimate in the region hindering investment. The stage of market reform in the regionvaries considerably and the whole question of regulatory uncertainty is felt stronglyby survey respondents. Ninety-four per cent report that regulatory uncertainty isholding back investment to a medium (40%) or high/very high degree (54%). This94% compares with 41% in the Americas and 73% in Europe. Looking ahead onthe regulatory front, many Asia Pacific respondents expect to see regulatory movesto unbundle transmission and transport operations from vertically integrated utilities – 60% of respondents in the region flagged this up compared to around aquarter of respondents in Europe and the Americas.

AsiaPowerful economic growth has beenaccompanied by major changes inAsian power utility markets. In thepast, most Asian countries had theirpower sectors under governmentcontrol. Now, in China and India forexample, governments haveprivatised a significant amount ofgeneration assets. However, thechange challenge in the regionremains immense. Projected demandgrowth is strong, many countriescurrently face imbalances and poweroutages, infrastructure developmentis vital, and the reform process has along way to run.

0%

10 20 30 40 50 600

Asia Figure 1: Within what time period do you believe your market will liberalise?

Within the next five years

Within the next three years

70 80 90 100%

Not in the foreseeable future


62%

38%

Liberalisation and regulation

Despite significant privatisation of generation assets, the transmission and distribution sectors typicallyremain monopolised and in state ownership.Liberalisation is still at a relatively early stage. For example, China has undergone industry reform for the last five years, with the expectation of furthermodernising the industry in the near future. The reformwill continue and is expected to last for another five toten years. In our survey, all the respondents from theAsian continent expected to see liberalisation in theirhome country markets within the next five years with38% anticipating that it would take place within thecoming three years (see figure 1).

Asia Pacific: Asia 42

“supply and demand challengesare immense”

Key challenges

The supply and demand challenges that utility companies face are immense and arehighlighted by the fact that all of the respondents cited demand and supply as animmediate major challenge to their business (see figure 3). In China, for example,surging demand in recent years has outstripped the completion of new generationcapacity. Dozens of major new electric power projects have been approved since2003 but the long construction lead times have left a significant short-term shortageof generation capacity. This is exacerbated by a major infrastructure challenge. The Chinese electricity sector remains very fragmented with limited connectionsbetween provinces and no national grid. The result is that there can be surpluses insome areas even though there is an overall national power shortage. Looking ahead,while shortages have been a serious problem in the last few years in countries likeChina and India, there is a risk that there may be an over-supply of power oncemore and more power plants come on-line in the next few years.

88%

100%

88%

88%

10 20 30 40 50 600

Asia Figure 3: What are the major challenges to your business within the next 12 to 24 months?

Technology requirements

Labour

70 80 90 100%

Note: Asia responses only. % share of responsesSource: PricewaterhouseCoopers, Utilities global survey 2006

Environmental issues 75%

38%

25%

Customer Relationship Management (CRM)

Fuel cost

Tariff setting

Demand and supply

43 Asia Pacific: Asia

The variety of market environments and the need for further reform are highlighted byrespondents’ split view of the impact of current regulation. While two-thirds thought the currentregulatory environment did facilitate business development, the remaining third said thatregulation was a barrier (see figure 2).

38%

10 20 30 40 50 600

Asia Figure 2: Is the nature of regulation a facilitator of business development or an impediment?

Facilitates

70 80 90 100%

Impedes


62%

2.8

1 2 30

Asia Figure 4: What is driving performance improvement?

Cost reduction

Capital restructuring

4 5

Joint ventures and outsourcing


3.4

2.9

People/head costs 2.8

75%

88%

75%

10 20 30 40 50 600

Asia Figure 5: In which areas of your business have you invested recently?

New technologies in generation/transmission etc.

Managing non-domestic business/new acquisitions

70 80 90 100%

Note: Asia responses only. % share of responsesSource: PricewaterhouseCoopers, Utilities global survey 2006

Regulatory management strategy 75%

63%

25%

Information technology and e-business

Customer Relationship Management (CRM)

Enterprise risk management

Alongside utility companies’ concerns about balancing supply and demand lieworries about high fuel prices and the mismatch with tariffs that are often still set atsubsidised rates. The squeeze that utility companies face is further compounded byenvironmental costs that may drive down their profit. In some countries like China,where the current tariff setting mechanism for new power plants does not fullyprotect the power utility's profitability at times of increasing fuel costs, costreduction measures become the key focus for management. Not surprisingly, tariffreform is a hot issue in many Asian countries.


Cost reduction is the number one priority for performance improvement by theregion’s utility companies (see figure 4). This priority is being driven partly by thehigh cost of fuel and price constraints discussed above, and also by the scope fordelivering greater efficiencies as companies make the transition from statemonopolies to liberalised markets. Most power plants are coal-fired, in particular inChina. Higher coal costs have adversely impacted profitability. The scope formodernisation is illustrated by the responses in figure 5, with significant recentemphasis by companies on investment in information technology, customerrelationship management, and enterprise risk management, suggesting that thesepower utilities are focused on building up sophisticated, modernised enterprises.

Asia Pacific: Asia 44

AustraliaThe Australian power market is inthe middle of substantial changewith the formation of a singleregulatory body that will take overfrom multiple previous incumbents.However, with energy demandforecast to grow by 50% by 2020,many utility companies arequestioning whether reform willcreate sufficient investmentincentives. Our survey highlights anumber of obstacles that remain inthe way of a big leap by the sector,and these are compounded by asignificant human resourcechallenge as Australian utilitiescompete to retain key personnel andreplace an ageing workforce.

Market reform

Market reforms in Australia, including the formation ofthe National Electricity Market in 1998, have deliveredsignificant benefits, but substantial work remains. TheNational Electricity Market is still largely a series ofinterconnected regional markets. Our survey reinforcesthe fact that a fundamental structural issue is involvedand moving from the current situation to a truly nationalmarket is not going to happen overnight (see figure 1).

When it comes to Full Retail Contestability (FRC), thereality is that Australia is a patchwork of markets. Mostof the eastern states already have competition down tothe residential level, while in Queensland it will beimplemented in July 2007. Respondents ratedineffective retail competition as one of the moresignificant impediments to an efficient national electricitymarket. Ineffective market signalling, due to thegovernment imposition of retail price caps andlimitations on time-of-use pricing, are also impeding theefficiency of the Australian market. The markets are stillnot effectively signalling to investors when and howmuch to invest in new power generation, transmissionand distribution. Finally, uncertainty flowing from thetransition to a single national regulator remains asignificant concern.

45 Australia: Asia-Pacific

“market reform and humanresource concerns lie in the way of a big leap”

2.1

1 2 30

Australia Figure 1: What do you see as the current impediments toan efficient national energy market in electricity in Australia?

Lack of inter-jurisdictional co-operation

Insufficient generation capacity

4 5

‘Energy only’ market rules

Note: Average response. Rate where: 5 = significant impediment; 1 = low impedimentSource: PricewaterhouseCoopers, Utilities global survey 2006

2.4

2.1

Lack of transparency and clarity in governmentdecision making reducing investment 2.1

2.6

2.6

2.6

2.6

2.9

2.9

2.9

2.7

3.0

3.1

3.1

2.9

3.3

Insufficient number of market participants

Ineffective competition in generation

Ad hoc government interference in marketsand regulatory decisions

Financial market illiquidity

Price and availability of fuel

Lack of demand side participation

Regulatory uncertainty

Lack of investment in infrastructure

Ineffective competition in retail

Ineffective market signalling

Uncertainty about when and how transition toa single national regulator will take place

Uncertainty over security and reliability of supply

Lack of inter-connectivity between regions

Asia Pacific: Australia 46

Climate change and regulatory uncertainty

The Australian Government’s renewable energy target places a legal liability onwholesale purchasers of electricity to proportionately contribute towards thegeneration of an additional 9,500 gigawatt hours of renewable energy each year by2010. The New South Wales Greenhouse Gas Abatement Scheme (GGAS)establishes annual state-wide greenhouse gas reduction targets, requiring individualelectricity retailers to meet mandatory benchmarks. These measures have helpedencourage new renewable energy investments and are likely to play an ever-increasing role in the medium term.

The survey responses indicate that retailers are coping with the need forrenewable/low-emission energy in three ways: investing in their own projects,purchasing the energy from others, or setting up strategic alliances with establishedgenerators. Companies are having to plan renewable/low-emission energy to avoidpenalties in the short term and to be in a position to ramp up the levels ofrenewable energy should the regulations change in the long term. They are takingthis issue very seriously (see figure 3).

There is a need for further interconnection to create a strongly integrated nationalelectricity market that does not fragment into separate regions during periods ofhigh demand. This could help reduce the tendency for inefficient generationstrategies developed on a state-by-state basis. Survey respondents criticise theexisting transmission infrastructure and regulatory arrangements as creatingexcessively regionalised markets and the tendency to state-based rather thannational solutions (see figure 2). At present, the price of energy can vary significantlyfrom region to region because there is not a fully integrated and liquid nationalmarket.

2.6

1 2 30

Australia Figure 2: In your opinion, what has been the impact of the existing transmission infrastructure and regulatory arrangements on the energy market in Australia?

Decreases liquidity in the financial market

Provides generators with excessivemarket power

4 5

Discourages investment in generation

Note: Average response. Rate where: 5 = significant impact; 1 = little impactSource: PricewaterhouseCoopers, Utilities global survey 2006

3.0

2.8

Limits interstate financial contracting 1.9

3.1

3.3

3.1

3.0

3.3

Has created regions in the market

Encourages state-based solutions to newgeneration requirements (rather than markets)

Effective in facilitating an efficient market

Creates effective barriers toentry in each state market

Causes price separation between regions

47 Asia-Pacific: Australia

2.8

1 2 30

Australia Figure 3: What impact will climate change regulations, which require more energy to be generated from renewable/low emission energy sources, have on your business strategy?

Other

Do not purchase renewable/low-emissionenergy and pay penalties that arise

4 5

Government and industry lobbying forchange in current legislation


2.8

2.8

Purchase renewable/low-emission energy fromrenewable/low emission generators (longer-term deals)

2.8

3.0

3.1

3.1

2.8

Active investor in renewable/low-emissionenergy projects

Purchase renewable/low-emission energy fromrenewable/low-emission generators (short-term deals)

Strategic alliances with establishedrenewable/low-emission generators

No strategy to date

The industry has estimated that at least A$30-40 billion in energy investments will berequired by 2020 to meet Australia's future energy needs. Investment in the energyand utilities sector will depend on a stable regulatory environment and private sectorresponses to market signals. In this context, it is important to note that respondentsrated uncertainty regarding the future of environmental schemes in support ofrenewable/low emission generation as their key concern. This may well stem fromAustralia’s mixture of federal and state and territory-based schemes, with a number ofchanges and even additional schemes recently signalled (see figure 4).

2.4

1 2 30

Australia Figure 4: Which aspects of regulatory uncertainty provide the greatest disincentive to investment in the energy and utilities sector?

State interference in wholesale market throughpricing arrangements that distort competition

State ownership of energy assets and riskof uncommercial behaviour

4 5

Uncertainty about how much power the stateswill give up to the national regulator


2.4

2.4

ACCC attitude towards market concentrationand market structure

2.4

2.7

2.7

2.7

2.6

Network pricing regimes

Uncertainty about how nationalregulator will behave

State interference through mandating ofnew generation or transmission projects

Changes in wholesale energy market rules

2.7

3.1

2.9Retail price caps

Transmission inter and intraconnection approval process

Uncertainty about future of environmentalschemes that support ‘green’ investors


2.9

1 2 30

Australia Figure 5: Which factors are key to your organisation’s retail customer strategy?

Acquire new customers through new productoffers (eg gas ‘green’ products)

Acquire new customers through newgeographic markets (eg interstate expansion)

4 5

Reduce customer cost to serve


3.5

3.3

Win back lost customers 2.9

3.8

4.3

3.9

3.6

Up sell to current customers(eg dual fuel offers)

Acquire new customers through marketinginitiatives (eg brand campaigns)

Protect current customers andminimise churn

Acquire new customers through saleschannel initiatives (eg door knocking)

Given the competitiveness of the market, particularly in Victoria, it is critical toacquire new customers, preferably through the lowest cost channels ordifferentiating products such as green energy. Respondents rated acquiring newcustomers through a variety of strategies as very important. Generally, the utilitiesindustry faces a situation similar to other sectors such as telecommunications.Preventing customer churn is vitally important and will require more sophisticatedcustomer strategies including strong and compelling differentiation. Respondents toour survey are pinning their differentiation strategies on good customer service,followed by brand awareness and product offerings such as green and dual fuel(see figure 6).

Investors need stable and consistent national arrangements to underpin investmentdecision-making. Retail price caps, with their effect of distorting price signals,enforcing inefficient cross-subsidies, and potentially preventing industry fromrecovering the full economic cost of supply, also featured as significant investmentdisincentives. Government interference through the mandating of new generationand transmission projects, uncertainty about the transition to the new nationalregulator, network pricing arrangements, and transmission augmentation approvalprocesses were among other disincentives scored relatively highly by surveyrespondents.

The consumer as energy king

Given the consolidation of the retail industry in Australia, a greater focus is being puton obtaining additional value from and protecting the existing customer base. Thiscan be achieved through up-sell offers such as dual fuel, which emerged in thesurvey as by far the most important factor in retail customer strategies. The cost ofacquiring a new customer far exceeds the cost to retain the existing customer base(see figure 5).


People challenges

In a changing, more competitive and dynamic marketplace the quality of humanresources is of key importance. Australian utility companies are facing a range ofhuman resource challenges, of which the retention of key workers in the face ofcompetition is the leading concern (see figure 7). The size of the growth andinvestment challenge facing the energy sector in Australia may underpinrespondents’ perception that the identification of the correct resourcing levels tomeet future workloads is a significant challenge. Younger workers are generallyperceived to be more ambitious and more mobile than the traditional utilitiesworkforce. This will put a greater strain on existing resources and recruitment andretention strategies.

2.6

1 2 30

Australia Figure 6: How do you plan to differentiate your business from your competitors?

Price

Billing

4 5

Marketing offers (eg magazine subscriptions)

Note: Average response. Rate where: 5 = most important; 1 = least importantSource: PricewaterhouseCoopers, Utilities global survey 2006

3.0

2.9

Channel coverage 2.6

3.5

3.6

3.5

3.1

‘Green’ product offers

Dual fuel offers

Brand awareness

Loyalty programmes

4.0Customer service


“preventing customer churn is vitally important”

In addition, the next decade will potentially see a significant number of experiencedmanagers and leaders moving into retirement – another area of great concern torespondents. The labour shortage being created by the ageing population isparticularly acute in the utilities industry because it is such a buoyant market. In oneAustralian utilities company, 50 per cent of the workforce is over 50 and 25 per centis over 55. It is imperative that companies identify, attract and retain the right peoplethrough human capital strategies that keep employees engaged.

2.4

1 2 30

Australia Figure 7: In the light of increasing human resource scarcity, which areas are of greatest concern to you?

The image of the industry particularly withtoday’s school leavers

Managing shift-based organisations

4 5

The ability to attract skilled workersto remote areas


2.6

2.4

Targeting non-traditional groups toaccess transferable skills 2.1

2.6

2.9

2.7

2.6

Identifying the right resourcing levelsto meet future workload

Optimising current operating procedures inthe light of declining resource availability

Tailoring reward packages to meetchanging individual needs

Responding to different generational demands

2Providing opportunities for career advancementthrough freeing up middle management

3.1

2.9

3.4

The potentially significant number of experiencedmanagers who will retire over the coming years

The availability of skilled workers with theright qualifications and experience

Retaining key workers in the face ofcompetitive recruitment market conditions

2.9


Merger challenges

Compounding the labour market situation is the high level of merger andacquisitions activity, which is expected to continue as utilities consolidate to seekgrowth and improved positioning. Mergers and acquisitions can cause enormousupheaval. The complexity of factors, from IT to shareholder value and from culturecompatibility to business continuity, means that managing a deal to completion isnot a simple task. Survey respondents see the management of such transitions askey. Adopting the right overall transition, culture and roles migration strategy earlycan mean the difference between success and failure (see figure 8). Theidentification of suitable acquisition candidates is also viewed as a critical issue –demonstrating the need for synergistic and strategic benefits, and for carefulbuilding upon the acquirer’s core competencies, in addition to simple scale benefits.

2.9

1 2 30

Australia Figure 8: In the face of increasing investment and change of ownershipactivities, which of the following factors are most likely to be key challenges?

Assessing the ‘real’ state ofpotential acquisitions

Minimising confusion and productivitydips during takeovers

4 5

Identifying core talent to beretained post-acquisition


3.1

3.0

Aligning different reward structures 2.8

3.5

3.6

3.6

3.4

Identifying suitable candidatesfor acquisition

Merging cultures to create asuccessful hybrid

Building a successful futureorganisation structure

Ensuring the acquisition deliversthe best of both worlds

3.8Ensuring a successful transition toany revised roles/responsibilities


Middle East & AfricaUtility leaders in the Middle East & Africa are anticipating

sweeping changes ahead of them. Seventy per cent concur with

the view that the sector is about to face the biggest period of

change in recent times and half see the change as revolutionary

or very significant in scope (see figures 1 and 2).

*

53 Middle East & Africa

MEA Figure 1: MEA vs global: the global utilities industry is facing the biggest period of change in the last twenty years

Note: MEA and global responses only. % share of responsesSource: PricewaterhouseCoopers, Utilities global survey 2006

Strongly agree

Agree


MEA

Global

Disagree


MEA Figure 2: MEA vs global: What is the extent of change?



Significant change


Marginal change

10 20 30 40 50 600 70 80 90 100%

MEA

Global

Middle East & Africa 54

“financial uncertainty of suppliers is the biggest supply securityanxiety”

It is not surprising that so many respondents characterisethe nature of change in the region as ‘revolutionary’. Thechallenges faced by utility companies in both the MiddleEast and Africa are relatively unique. In Africa, there is theimmense task of extending infrastructure and capacity to bring power to the hundreds of millions who don’t haveaccess to electricity. This has to be tackled against abackground of very varying economic, political anddevelopment contexts. In the Middle East, there is also considerable socio-political uncertainty. Much of theregion also faces the challenge of extensive price reformssince a large part of the Middle East power sector is notcurrently commercially viable. Underpricing through the use of government subsidies is a feature in Iran, Egyptand the Gulf countries. For customers used to decades ofminimal prices, the shift to more market-based priceswould be truly revolutionary and will be a considerablechallenge for governments and companies alike.

Similarly, in contrast to respondents in other regions, utility leaders in the MiddleEast & Africa are much more likely to cite ‘the acquisition of skills and knowledge’as a motivation for M&A activity. Together with the need to acquire new customers,this was the lead driver for deals by utility companies in the region, rated as astrong factor by 60% of respondents compared, for example, to around a quarter ofrespondents in Europe or the Americas.

55 Middle East & Africa

The scale of the supply and demand challenge in the region is foremost in theminds of many respondents. Half (51%) described the challenge as significant orhigher with one in five of these terming it ‘immense’ (see figure 3). The generalrange of factors underpinning security of supply concerns are similar to thosereported earlier (see figure 10 on page 11). However, alone among the differentregions, respondents in the Middle East & Africa single out ‘financial uncertainty ofsuppliers’ as their biggest supply security anxiety. Sixty per cent of respondents inthe region rate this factor strongly compared to an average of 33% of all surveyrespondents, reflecting the challenge posed by economic and political instability inparts of the region.

MEA Figure 3: MEA vs global: how significant is the extent of the supply and demand challenge you expect to face over the next five years?

Immense challenge


Medium challenge

Low challenge

No challenge

10 20 30 40 50 600 70 80 90 100%

MEA

Global


Continuing market reform will be important if therequired amount of future investment is to be attractedfrom private rather than government sources. Therespondents to our survey identified cost control andoperational efficiency as key drivers for liberalisationthroughout the region. The nature of market change,however, is different according to which of essentiallytwo clusters a country falls into: a relatively wealthyenergy supplier economy such as the GCC countries,or the less wealthy and relatively more populouscountries of the Levant and North Africa region.

For the first cluster, the key change stems from aneconomy seeking to mature, with the governmentseeking eventually to move from being a provider ofservices to becoming a regulator as seen in thedeveloped economies of the West. For the secondcluster, the key challenge is the need for new financingsources as well as general economic and governmentreform.

With its rich mineral base, the region will continue torely predominantly on hydrocarbons for powergeneration. However, it is expected that there will be asignificant switch from oil to gas, both to allowcountries to free up oil for export and in response toenvironmental concerns. In some areas this will requireinvestment in new gas infrastructure. The politicalcontext makes the development of nuclear poweruncertain in the region. On the renewables front, thescope for further development of hydro power is limitedand wind is only an option in limited areas. Thepotential for solar is, of course, immense but currenttechnology will prevent this playing anything other thana very marginal role on the energy mix.

Middle East & Africa: Middle East 56

The demand for utility infrastructure spending in theMiddle East and North Africa is immense. Rapidlyexpanding demand will require electricity generation togrow by an average of 3.4% per annum in the periodto 2030, requiring some 300 GW of new capacity,about 6% of the world total (source: World EnergyOutlook 2005, International Energy Agency). Indeed,the IEA estimates an investment requirement ofUS$458bn for power generation, transmission anddistribution in the region – nearly as high as thatneeded in the upstream oil sector.

Two key infrastructure projects are in development.After more than two decades on the drawing board,contracts have been awarded for phase 1 of the Gulf Co-operation Countries (GCC) power grid, whichwill see the transmission grids of Bahrain, Kuwait,Qatar and Saudi Arabia connected. Movement on theGCC grid is also spurring new investment in nationalpower grids, notably in the United Arab Emirates, inorder to prepare them for cross-border trading and toensure that all parts of the region can benefit fromincreased trade in electricity. In addition, the DolphinProject seeks to create a gas grid in the region withcurrent plans to deliver a US$10 billion scheme to pipegas from Qatar’s plentiful North Dome reserves to Abu Dhabi and on to Dubai, Oman and possiblyPakistan.

Liberalisation in power generation has and iscontinuing to proceed at a good pace throughout theregion, particularly the GCC countries, with IPP/IWPPprojects completed in Oman and Abu Dhabi (UAE),and a number of projects currently under way in Saudi Arabia and Bahrain.

Snapshot: Middle East

57 Africa: Middle East & Africa

3.6

1 2 30

Africa Figure 1: Assess the likelihood of the achievement of the NEPAD principles of connecting Africa

The potential of cross-border transactions

African utilities co-operate with eachother to form a common power pool

4 5

More demand for alternative energyresources (gas, nuclear, wind)


4.3

4.0

Harmonisation of legislationthroughout the sub-region 3.4

AfricaNowhere, perhaps, is the big leapgreater than in Africa. In sub-Saharan Africa at least 400 millionpeople are without power, mostly inrural areas. Energy supply, andelectricity in particular, is a criticaland most needed infrastructure asthe African economies start to grow.The national utilities are struggling tokeep up with the growing demandfor electricity as budget constraintsand the time taken to roll-outexpansion have worked againstthem. However, in the case of SouthAfrica the national utility companyEskom has made significant gains inconnecting households that werepreviously in the dark.

Fuel poverty

The survey highlights that the priority for the sector is tosatisfy the growing demand for power. Respondentsattached a very high rating to goals such as satisfyingthe growing power demand and investment in plantexpansion and refurbishment. Eskom, the largest utilityin Africa, has announced a massive capital expansionprogramme of approximately $14 billion to increase itsinstalled capacity and to upgrade its transmission anddistribution networks. The group is considering severaloptions including coal-fired steam plants, open-cyclegas turbines, pumped storage schemes as well as thenuclear pebble-bed modular reactor.

Africa already has a massive amount of its populationwithout access to electricity. Demographic and othertrends mean that these numbers are expected toincrease further to an estimated 1.4 bn people by 2030.The government-led New Partnership for Africa’sDevelopment (NEPAD) is a far-reaching strategicdevelopment programme that includes important powerambitions. Survey respondents expressed optimism onsome of the power implications of the partnership,particularly the prospects for co-operation to form acommon power pool in the continent (see figure 1).However, they feel the outlook for harmonisation oflegislative frameworks throughout the region is lesspositive.

Middle East & Africa: Africa 58

4.0

1 2 30

Africa Figure 2: With electricity demand expected to increase over the next few years, will there be…

Greater use ofcontinent-wide resources

4 5

New investment in furthergeneration capacity


4.0

A return to service of stationsthat are currently mothballed 3.6

3.0

1 2 30

Africa Figure 3: What are the main drivers for the restructuring of the generation and distribution markets?

Competition

Inability to maintain networks

4 5

Inability to supply to the indigent

Note: Average response. Rate where: 5 = strong driver; 1 = weak driverSource: PricewaterhouseCoopers, Utilities global survey 2006

3.3

3.3

Current fragmented industry 2.9

3.4

4.1

3.6

3.3

Improved customer care


Legislation

Tariff rationalisation

Africa-wide responses

Greater continent-wide infrastructure, new generation and the recommissioning of mothballedplant are all scored strongly by respondents as ways of meeting the challenge of increasedfuture demand (see figure 2). As in other parts of the world, restructuring of generation anddistribution is an important part of the power sector in Africa. Our survey respondents areattaching primary importance to the impact this can have on improved customer care, reflectingpartly the overall need to modernise customer-facing activities and, of course, the massivechallenge of bringing power to new customers (see figure 3).

59 What the future holds

What the future holds

In The Big Leap* we have drawn on the insight of 116 senior power utility executives.They operate in a variety of market contexts in 43 different countries around the world.The common theme, though, from the vast majority of respondents, is that the periodahead holds the prospect of potentially massive change to meet the challenges ofsupply and demand and environmental sustainability, and to deliver the technologicaldevelopment and infrastructure investment needed to meet these challenges.

We see an industry that is already in the spotlight and, looking ahead, is likely to findthat the spotlight intensifies. Consumers and governments in western economies arejoining the ranks of those elsewhere in the world who realise that they cannot takepower supply for granted. Respondents to our survey do not rule out the prospect offuture serious shocks to the system as we move into an era of stretched supply linesand potential power imbalances.

The message, though, from the industry is that it is ready to make the ‘big leap’needed to ensure such scenarios do not unfold but, equally important, regulators andpolicy-makers also need to make a big leap to ensure a more certain and consistentregulatory, and hence investment, climate. Some of our respondents use the term‘revolutionary’ to describe the changes ahead and most believe it will be the biggestperiod of change in the sector in modern times.

If these expectations are correct, we can expect to see a power and gas utilities sectorthat is radically different from now. On the ownership and sector structure front, we willsee many fewer and much larger super-regional generation and distribution companies.We will see greater ownership fusion of upstream and downstream energy. We will seea continued move of infrastructure entities into private investment fund ownership. Wewill have the prospect of much greater end-user involvement in both industrial-scalepower projects and smaller and more medium-sized distributed power.

Across all of the industry, technology will be a key driver and investment in technology,particularly in clean coal generation, will be a key determinant in the extent to whichgreenhouse gas growth is mitigated. Coal and nuclear will play a larger part in the fuelmix. Finally, many in the industry feel there is the very real prospect of ‘cap and trade’emission control schemes being extended around the world.

*

Methodology 60

Methodology

The Big Leap* is based on research conducted betweenJanuary-February 2006 with 116 senior executives from 98utility companies across 43 countries. Research covered thefour major regions of Europe, the Americas, Asia Pacific,Middle East and Africa. The majority of utility participantswere Senior Vice-Presidents and Presidents, CEOs or othersenior managers. No more than 2 interviews were takenfrom any individual company, although multiple respondentswere taken from some countries. The survey sample iscomprised of power and gas utilities (suppliers, transmissioncompanies, traders or generators) that have developed abroad range of interests in a number of complementaryutility sectors or other regions.

Acknowledgements

PricewaterhouseCoopers thanks all the participants whotook time to complete the survey. We would also like tothank our local PricewaterhouseCoopers teams, in each ofthe four regions covered by this study, for their insightfulcontributions throughout this project. Special thanks to MarkHughes, European Leader, Utilities Corporate Finance andAdvisory Services, and Mats Edvinsson, Energy and UtilitiesLeader, Sweden, for their dedication and leadershipthroughout this project.

Contact us

Global contacts

Manfred WiegandGlobal Utilities LeaderTelephone: +49 201 438 1517Email: [email protected]

Mark HughesEuropean Leader – Utilities Corporate Finance & Advisory ServicesTelephone: +44 20 7804 5767Email: [email protected]

Mats EdvinssonEnergy & Utilities Leader, SwedenTelephone: +46 8 555 33706Email: [email protected]

Richard GledhillGlobal LeaderClimate Change ServicesTelephone: +44 20 7804 5026Email: [email protected]

Olesya HatopGlobal Energy, Utilities & Mining Marketing Telephone: +49 211 981 2123Email: [email protected]

61 Contacts

Territory contacts

Europe

AustriaGerhard Prachner Telephone: +43 501 88 1800Email: [email protected]

BelgiumRonald Tiebout Telephone: +32 2 710 7428Email: [email protected]

Central and Eastern EuropeTibor AlmassyTelephone: +36 1 461 9644 Email: [email protected]

Czech RepublicHelena CadanovaTelephone: +420 2 5115 2011Email: [email protected]

Petr SobotnikTelephone: +420 2 5115 2016Email: [email protected]

DenmarkPer Timmermann Telephone: +45 39453945Email: [email protected]

FinlandMika AlavaTelephone: +358 9 6129 110 Email: [email protected]

Juha TuomalaTelephone: +358 9 2280 1451 Email: [email protected]

FranceJean Gaignon Telephone: +33 1 5657 4028Email: [email protected]

GermanyManfred WiegandTelephone: +49 201 438 1517Email: [email protected]

GreeceDinos MichalatosTelephone: +30 1 6874 730Email: [email protected]

IrelandCarmel O’ConnorTelephone: +353 1 6626417Email: [email protected]

ItalyJohn McQuistonTelephone: +390 6 57025 2439Email: [email protected]

MaltaFrederick Mifsud Bonnici Telephone: +356 2564 7604Email: [email protected]

NetherlandsAad GroenenboomTelephone: +31 26 3712 509Email: [email protected]

NorwayStaale JohansenTelephone: +47 9526 0476Email: [email protected]

Contacts 62

PolandWilhelm SimonsTelephone: +48 22 523 4150Email: [email protected]

PortugalLuis FerreiraTelephone: +351 213 599 296Email: [email protected]

Russia and the Former Soviet UnionJohn GrossTelephone: +7 095 967 6260Email: [email protected]

SpainFrancisco MartinezTelephone: +34 91 568 47 04Email: [email protected]

SwedenMats EdvinssonTelephone: +46 8 555 33706Email: [email protected]

SwitzerlandRalf SchlaepferTelephone: +41 58 792 1620Email: [email protected]

TurkeyFaruk SabuncuTelephone: +90 212 326 6082Email: [email protected]

United KingdomPaul RewTelephone: +44 20 7804 4071Email: [email protected]

The Americas

United StatesPaul KeglevicTelephone: +1 312 298 2029Email: [email protected]

CanadaAngelo ToselliTelephone: +1 403 509 7581Email: [email protected]

Alistair BrydenTelephone: +1 403 509 7354Email: [email protected]

Latin AmericaJorge BacherTelephone: +54 11 4850 6801Email: [email protected]

Asia-Pacific

AustraliaDerek KidleyTelephone: +61 2 8266 9267Email:[email protected]

ChinaRaymund ChaoTelephone: +86 10 6533 2111Email: [email protected]

IndiaKameswara RaoTelephone: +91 40 2330 0750Email: [email protected]

SingaporeRobert MontgomeryTelephone: +65 6236 4178Email: [email protected]

Middle East and Africa (MEA)

Southern AfricaStanley SubramoneyTelephone: +27 11 797 4380Email: [email protected]

Sub-Saharan AfricaNick AllenTelephone: +254 20 2855299Email: [email protected]

Middle EastPaul SuddabyTelephone: +971 4 3043451Email: [email protected]

For copies of the report, please visit www.pwc.com/energy

63 Contacts

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PricewaterhouseCoopers (www.pwc.com) provides industry-focusedassurance, tax and advisory services for public and private clients. Morethan 120,000 people in 144 countries connect their thinking, experience andsolutions to build public trust and enhance value for clients and theirstakeholders.

PricewaterhouseCoopers refers to the network of member firms ofPricewaterhouseCoopers International Limited, each of which is a separateand independent legal entity.

The Global Energy, Utilities and Mining group (www.pwc.com/energy) is theprofessional services leader in the international energy, utilities and miningcommunity, advising clients through a global network of fully dedicatedspecialists.

© 2006 PricewaterhouseCoopers. All rights reserved. PricewaterhouseCoopers refers to the network of member firms ofPricewaterhouseCoopers International Limited, each of which is a separate and independent legal entity. *connectedthinking is atrademark of PricewaterhouseCoopers LLP.

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