Warren Buffett, Pacificorp, And Institutional Change In Electricity

Lynne Kiesling

For years Warren Buffett has been saying that there is a lot of untapped, uncreated value to be unleashed in the electricity industry. Berkshire Hathaway’s acquisition of PacifiCorp, a retail utility in the Pacific Northwest, is its first large acquisition in seven years.

Long-time KP readers know that this is the kind of dynamic, entrepreneurial activity that the industry desperately needs in order to generate some capital flow and some implementation of new thinking, new business models, and new technology. I commented on Buffett’s electricity interests twice in summer 2002, after acquiring a natural gas pipeline from Dynegy and when Berkshire Hathaway provided financing for Williams.

Buffett certainly knows what he’s getting in to, which is a byzantine rat’s nest of inertial regulatory institutions. The core of that nest is PUHCA, the Public Utility Holding Company Act of 1935. I summarized PUHCA and the arguments for and against its repeal in a post from June, 2002. In the three years since I wrote that, my belief that PUHCA is obsolete and detrimental to the public interest (by which I mean detrimental to the well-being of customers and forward-looking, entrepreneurial producers) has only solidified. All of the Congressional energy bill proposals of the past three Congresses have had provisions for the repeal of PUHCA. I continue to think that those provisions are the only parts of the energy bill worth passing. PUHCA was passed to address harms that no longer exist.

Furthermore, it creates additional layers of merger approval by putting SEC and FERC fingers in the regulatory pie. Last time I checked, we had a regulatory agency whose primary focus is mergers (that would be the DOJ), and which follows a public and transparent set of merger guidelines that make the lay of the land a lot clearer than the merger provisions under PUHCA. I am no fan of antitrust and merger regulation (last week at the PFF IRLE workshop my friend Howard Shelanski called me a “strong Schumpeterian” because of that skepticism about antitrust regulation), but in this world of incremental institutional change, it’s superior to deeply meshed, high transaction cost reality that is PUHCA. PUCHA has got to go. This PacifiCorp transaction, and a couple of other cross-regional utility mergers, might even put PUHCA before the Supreme Court. Good. Let ’em at it, since Congress lacks the gumption to unravel 70 years of obsolete law.

This obsolete law and its cousins, state rate-of-return regulation, have led to strong feelings of customer entitlement to low, stable rates. According to this article in today’s Portland Tribune,

MidAmerican Energy Holdings Co. may think it would score a vibrant electric utility in proposing to buy PacifiCorp for $5.1 billion, but it still is walking into a tough regulatory market, a former state regulator says.

The unit of billionaire Warren Buffett?s Berkshire Hathaway Inc. also is likely to face some of the same consumer groups that helped derail the Portland General Electric sale to Texas Pacific Group.

?Everyone will have trouble,? predicted Joan Smith, a former chairwoman of the Oregon Public Utility Commission who now serves on the Idaho Power board of directors. ?Now that intervenors have smelled blood, they want more. They?ll want rate relief. (MidAmerican) will have to fight for every nickel they get in a rate case because the regulatory scene is hostile.?

At the very least, the Citizens Utility Board of Oregon and other groups want reductions in rates for local consumers. ?I think we need to make sure this process is as robust as all the others that we?ve gone through,? said CUB?s counsel, Jason Eisdorfer.

What galls me about this mindset, which I agree is very real, is the blinkered, narrow conception of consumer well-being that persists in this industry. PacifiCorp was for sale because there are lots of capital investment projects that are needed, but the ones that can deliver real value to customers and to shareholders, that involve innovative technologies and new services and product offerings, are off the table when the so-called consumer advocates hammer away at low rates, low rates, low rates. Doesn’t it occur to them that lots of folks are willing to pay more to get a better quality product in lots of different industries? Why continue to ghettoize electric service with the red herring claim that electricity is different? Why continue to hold all customers back just to ensure that low income customers can afford service, instead of bolstering targeted low-income programs and letting the rest of us create the opportunity for entrepreneurs to come up with different offerings and business models?

I hope this acquistion, and other recent mergers, spark a pushback against these ossified and obsolete notions of customer value and public interest. If they don’t, I worry that distribution utilities will come too late to the realization that the world is changing, and that they have to change to stay valuable and relevant. It’s becoming more and more possible for us to innovate around utilities, and with the persistence of PUHCA, stale utility business models, and the shrill, narrow focus of so-called consumer advocates, institutional inertia will only exacerbate that dynamic.