Transforming Banks for a Digital Future: The Winners, The Losers, and the Strategies to Beat the Odds
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Two summers ago, in a little-noted incident that every CIO should understand, anxious engineers at PJM Interconnection LLC, an electrical distribution company in Norristown, Pa., were preparing for the worst. An imminent shortage of electricity caused by a prolonged drought and heat wave threatened the 25 million people and hundreds of thousands of companies connected to PJM's electricity grid across the mid-Atlantic states.
In a foreshadowing of the shortages that plagued California and could yet threaten New York and other areas this year, PJM engineers attempted to buy extra power from neighboring grids, but also laid plans for rolling shutdowns across the region.
Then something unprecedented happened. On a real-time, Internet-based electricity marketplace built by PJM, corporate clients and distribution companies began to bid higher and higher for electricityup to $1,000 per megawatt hour, more than 10 times the normal rate. In response, energy producers from as far away as Florida began furiously selling power into the PJM grid. "Before we knew what was happening, we had a 1,000-megawatt surplus, and the crisis was over," recalls Ken Laughlin, vice president of market services for PJM.
Welcome to electric power in the Internet Age. Until recently, the business of buying and selling electricity was conducted by phone and fax, and one transaction took days. Today, thanks to the Internet, forward-thinking distributors and end-users like The Boeing Co. and ALCOA Inc. are making power-trading decisions in seconds. And they're anticipating the day when the purchase of electricity is all done automatically, around the clock. This fledgling revolution in some parts of the U.S. power system could help ease electricity shortages for progressive companiesand give CIOs a potentially powerful cost-cutting tool.
At PJM's three-year-old Net-based market, the grandfather of the online electricity markets, demand and prices are posted every few seconds, allowing producers and users to cut and close deals instantly. This Nasdaq-like market, available to PJM's more than 200 members, is not only changing the way energy is bought and sold, but also the way it is used. PJM members ALCOA and Bethlehem Steel Corp., for example, used to run full-tilt all the time, not knowing how much a unit of power was costing from one minute to the next. Now they can shut down some operations during peak periods when marginal rates soar. "What we're beginning to create is essentially a Nasdaq market for electricity," says Phillip Harris, president and CEO of PJM.
To be sure, only a fraction of the country's electricity is being traded so far through such exchanges. But energy experts predict that within the next five to 10 years there will be a real-time, national market for electricity. "The big picture is that energy is starting to be traded like pork bellies," says Ray Niles, director of equity research at Salomon Smith Barney Inc. "Eventually, every electron is going to be monitored and traded across the country on the Internet, and what PJM is doing now is very much on the cutting edge of that."
The insight for CIOs: Some companies are already using these markets to save money. At Boeing's Rotorcraft division in Ridley Park, Pa., for example, executives follow spot prices on PJM's market. Boeing can generate its own electricity for 14 cents a kilowatt hour, so when PJM's monitors show prices moving above that, Boeing turns its generator on, for savings that can exceed $50,000 a day.
But would-be traders, beware. A steep learning curve awaits CIOs entering these markets. "Those who understand the market are going to kill the ones who don't, whether they're buyers or sellers," says Roger Anderson, director of the Energy Research Center at Columbia University. Anderson cautions that no CIO should participate in the spot market for electricity alone; they will be beaten by those who are also playing the futures market. "You had a lot of people in California who were trading power but didn't really understand trading. They got killed by the companies that did know how to trade, like Enron Corp."
To tap into these new markets, CIOs mostly likely will need to team with CFOs, operations executives, energy officers and others. At companies like Ford Motor Co. and Boeing, that's already starting to happen. "The CIO should definitely be a major player on the team that develops the strategy," says Dr. Robert Handfield, Bank of America distinguished university professor of supply chain management at North Carolina State University. Handfield says that such teams are best led by supply management and operations executives. On the other hand, some companies may outsource energy management altogether; and such alternatives are already available.
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