After more than 20 years at a major U.S. utility, Ralph Izzo thought he had energy efficiency figured out. But at a recent forum in Washington, D.C., the CEO, Chairman and President of Public Service Electric and Gas (PSEG) showed the realities of the power sector can surprise even the most seasoned professionals.

Izzo recounted a series of meetings he had with large energy customers, attempting to understand their attitudes toward investing in energy efficiency upgrades.

“I asked hospital presidents, 'Why aren't you investing dollars in energy efficiency?'” he said. “You know you don't have agency issues, you know you don't have timeframe issues. This hospital will be here far beyond the payback period.”

Hospitals and other large institutions are often thought of as “natural customers” for energy efficiency upgrades — large legacy organizations with high electric demand and sizable institutional budgets. In theory, Izzo said, it would be silly for them not to invest in upgrading boilers or building efficiency in pursuit of long-term savings.

“I was embarrassed by my foolishness,” the CEO said in retrospect.

In his conversations, Izzo found that while efficiency upgrades could prove cost-effective and environmentally beneficial for many institutions, they often rank too far down the priority list to attract serious funding.

“[If] one of the members of your family needs surgery, and you sit down to look at the place where they can get the best possible care, are you comparing doctors and medical equipment and facilities, or are you looking at how many BTUs were consumed by that hospital?” Izzo said. “If [hospitals] have $5 million in disposable capital, it is not going to improving the boiler. It is going to hiring to attract the best doctors.”

The theme extends to other sectors as well, Izzo said. A university may be more inclined to spend on upgrading dorms and hiring instructors than a combined heat and power system for campus. And competitive businesses tend to reinvest profits at a much faster rate than it takes to realize savings from efficiency upgrades, he said.

“The reality is for most people electricity and gas consumption are not core issues — they are enablers that are in the background,” Izzo said. “Therefore, many investments in these areas where the investor is the consumer are never going to get the priority that they deserve.”

Those are “fundamental flaws in the market” that become even more apparent when expanded to the residential sector’s adoption of efficiency and distributed energy resources (DERs), like solar and batteries. Typical families are even less likely to have the capital to respond to long-term energy saving opportunities, Izzo said, and third-party vendors typically target the wealthiest customers for DER and efficiency technologies, ignoring less lucrative opportunities in the larger consumer pool.

The solution, he told Utility Dive, is to allow regulated utilities to provide efficiency and DER solutions for customers who otherwise would not make the investment themselves — leveraging the utility’s investment power for behind-the-meter resources. While such proposals often receive pushback for being anti-competitive, Izzo said he has formulated a model that would allow third parties to continue serving their existing market segments while also partnering with utilities to expand uptake of DER and efficiency technologies.

A behind-the-meter infrastructure company

Typically, utilities run efficiency programs through requests for proposals (RFPs), Izzo told Utility Dive on the sidelines of the efficiency forum in D.C. They set parameters for how much power must be saved and then administer the application of a solution provided by a third party company.

PSEG, however, wants to take the utility involvement a step further, making it responsible for installing efficiency upgrades, just as it would be for a new power plant or transmission line.

“What we’ve said is we want to pay for the lightbulbs and the heating system — most of it, all of it, whatever you think that particular customer segment is worth — and we earn on that,” Izzo said. “So we're an infrastructure company, but instead of it being wires, it's lightbulbs and heating systems.”

In many instances, DERs and efficiency technologies like smart appliances, programmable thermostats or home batteries are seen as luxury items for environmentally-conscious consumers. While they may deliver savings in the long run, companies usually target their sales to customers with high disposable incomes, leaving out those customers who would most benefit from using less power but are least likely to pay high upfront fees for new technologies.

Allowing the utility to offer such technologies to the ignored customer pool could reduce consumption and save nearly everyone money, Izzo said.

In New Jersey, power costs about $0.15/kWh, but “you can easily find energy efficiency solutions for $0.03-$0.05/kWh,” according to the CEO. Assuming a $0.07/kWh rate for fixed costs, PSEG could easily offer an efficiency solution for $0.10/kWh, “whereas they would have spent $0.15/kWh,” Izzo said.

“So the customer saves a nickel, I've recovered my fixed cost as a utility, which includes my cost of capital, and I've made money on this three-cent installation, because that's also got a cost of capital,” Izzo said. “The only person who's really lost money is the fuel supplier, because somewhere that [fuel] is not being burned.”

That model could help expand savings to a larger customer base and reduce the income gap in advanced energy technologies.

“We've been trying to encourage people who are enthusiastic about these distributed technologies, whether it's a more efficient bulb, a battery or a solar panel, saying the utility can accelerate this as opposed to block it,” Izzo said. “I just think that there's a good segment of our industry that perhaps has earned a reputation as naysayers and there's some skepticism that we want to be enablers as opposed to blockers. So it's a frustrating conversation.”

Competitive concerns?

Many third party energy companies bristle at the thought of a regulated utility offering behind-the-meter products and services. Given the utility’s existing relationship with its customers and unique knowledge of its power system, third party providers argue they are at an unfair disadvantage when the utility is allowed to rate base such investments.

That might be true, Izzo responded, if his utility was targeting the same customers as the DER providers. But he says he’s looking to serve a different market.

The CEO used the rooftop solar market as an illustration. Right now, he said, customers like him — wealthy, creditworthy homeowners — are the prime customers developers like SolarCity and Sunrun seek to identify for rooftop systems.

“In fact I would suggest you want to let the developer go and develop, let him go after selling to Ralph Izzo because Ralph Izzo is a high net worth customer who can afford the solar system,” he said. “Direct the utility to those places where you don't require massively regressive subsidies to do the work — to grid connections where the economies of scale reduce the cost per kWh.”

In those cases, he said, there’s little need for a solar developer, since the utility has the system data to know where solar and other DERs can benefit the grid.

“I know the customer base. I know the school system,” Izzo said. “I can go to them [in theory] and say we've got a $100 million program from the [Board of Public Utilities], we're directing this to schools. We've looked at your school and your usage per square foot is the worst in the state, so you're the prime candidate for this.”

While solar manufacturers and installers will still be integral to such a utility-directed process, the need for the developer is all but erased in Izzo’s situation.

“If you insert the developer in this process then what you end up with is an RFP process where the value creation by them is de minimis and all they're really doing is extracting a higher cost of capital to them and leaning on our balance sheet to justify,” he said.

Distributed solar reforms

Izzo doesn’t want to put an end to developers, but he does want to see a new market paradigm when it comes to distributed solar.

“We are saying if they want to develop based on market principles, let them go after segments of the market that we shouldn’t be subsidizing,” he said.

Right now, he said, the fact that distributed solar and other DERs remain luxury technologies means the subsidies that support them are “massively regressive.”

“In New Jersey, the average rooftop solar customer has an average income of $115,000 a year,” Izzo said. “The average New Jerseyan’s annual household income income is $70,000 and the [investment tax credit] is paid for by the average U.S. taxpayer, who's earning $50,000. That doesn't make sense to me. Why are people making $50,000 paying to put solar on people's houses who make $115,000?”

Instead, Izzo said, regulators should preserve the subsidy, which he says “is needed” to support solar, but use the utility to direct the funds to the entire customer base, rather than allowing third-party installers to target the rich.

“Take whatever that [subsidy] is — $500 million a year is our estimate — and say, 'OK utility, you have a $500 million program, put this on low income housing. Put it on schools. Put it on hospitals,’” Izzo said. “You still have the same subsidy, it's still being paid for by all customers, but instead of people from Camden and Newark transferring payments to people in the high income areas, people from Camden and Newark would transfer payments to people in Patterson and [other low- and middle-income areas].”

Rooftop solar developers who are reliant on retail rate net metering for the value proposition of their product may well see a drop in business if the net metering subsidy is shifted to all ratepayers.

“Those are not customers that typically SolarCity would seek out. They wouldn't go sell to them,” Izzo said. “Now what [the solar companies] would argue is that [customers like] Ralph Izzo aren’t going to put solar panels on his house without subsidies, and my response would be, ‘That may be true. That may be true and maybe that's okay.’”

While Izzo expressed desire for dialogue with rooftop solar companies like the sort that resulted in a net metering compromise in neighboring New York, he acknowledged the distance between his perspective and those of solar advocates in ongoing regulatory debates.

In discussions about net metering, solar companies often argue rooftop systems provide benefits to the grid that utilities are unwilling to recognize, such as helping defer costly investments in the bulk power system. But in New Jersey, with high property costs and an average solar resource, Izzo said that opportunity isn’t a huge one.

“For us, deferring a capital addition to distribution or transmission is just that — you’re deferring it, not eliminating it,” he said. “So at current allowed equity returns, if you’re deferring something for three, five or 10 years, the cost of the solar to do that is never gonna be justified in terms of the deferral of what eventually has to be done, and probably at that time at a higher price.”

At present, the utility is focusing its renewable energy efforts on developing utility-scale solar facilities on landfills and brownfield sites under a $275 million program. But the generation from those projects and all the distributed solar in PSEG’s service area pales in comparison to the power the utility can save with efficiency, Izzo said.

“I think over the long term we want to evaluate the value of [DER] technologies, we want to intelligently target the subsidies until they become competitive, and we're just not doing that enough,” he said. “This is something that should take our attention as step two, and we should put our attention on step one, which is efficiency. But of course no one wants to talk about energy efficiency; they want to talk about rooftop solar and net metering.”

As they work with policymakers to change that dialogue, Izzo said his utility will continue to push to fill the market failures that he sees in the DER and efficiency sectors.

“This way, we’re not competing with entrants who don't see us as partners and we're working well with those who see us as partners,” he said. “I think everybody wins and we're the defender of what has been the hallmark of any utility — whether it has been or water or telephony or electric and gas — which has been universal access to these technologies."