Replacing the antiquated electrical system in the United States with a super-efficient smart grid always seemed a surefire opportunity for entrepreneurs. So what went wrong? An article in a recent issue of the Harvard Business School Working Knowledge blog highlight’s research by HBS Professor Rebecca Henderson.
Replacing the antiquated electrical system in the United States with a super-efficient smart grid always seemed a surefire way to strengthen the economy, improve society, and provide endless opportunities for entrepreneurs. Big opportunities.
But modernization of the country’s power infrastructure has encountered several hiccups in recent years that have put the timing of its implementation in question, leading Rebecca M. Henderson, the John and Natty McArthur University Professor, to get students thinking during a class last week: Who exactly stands to profit from the smart grid in the long run?
“There’s a huge opportunity to make money here,” Henderson, codirector of the Business & Environment Initiative at HBS, told students who attended a recent field study seminar in the course Innovation in Business, Energy and Environment, held in Harvard’s Innovation Lab. “It’s a question of who will make money and which business models are effective.”
Although the definitive answer to that question remains to be seen, Henderson helped students develop strategies for analyzing the positions of the various players in the smart grid market—infrastructure builders, software suppliers, network providers, utilities, system operators—in an effort to figure out who might benefit.
“It’s interesting to get some type of understanding about a complicated market where there are so many different players and so many uncertainties,” one student remarked after class. “It was an opportunity to step back, look at the issues, and get some clarity.”
Cracks in the infrastructure
The arrival of the smart grid—essentially computerizing the electric utility network for more efficiency, remote troubleshooting, and customer personalization—has been delayed despite wide acceptance by many experts that the existing power system is falling far short of America’s energy needs.
In 2009, energy demand in the United States was rising nearly twice as fast as it had in the previous two decades, according to the 2010 case The Smart Grid, prepared by Henderson, Associate Professor Noel Maurer, and former research associate Catherine Ross. When demand peaks beyond the capacity of the base system, utility companies use additional plants, called peaker plants, to help meet the increased demand, but these plants are expensive to maintain.
Besides, much of the key power equipment is aging rapidly. After government moved to weaken monopolies that utilities enjoyed, those companies had little incentive to invest in replacing transmission infrastructure because of uncertainty over who would keep control of those assets in the future, according to the case. So the same transmission lines, power transformers, and circuit breakers that were installed in the 1960s and ’70s are still in operation, in many cases barely chugging along beyond their expected life span.
When power demands strain the overwhelmed electrical system, the results are not pretty. The United States had three major blackouts in recent years, including one in New York City in 2003 that lasted several days and created an estimated $6 billion economic loss. All told, power outages have resulted in an estimated $80 billion a year in total economic losses, according to the case.
The smart grid was touted as the best solution to the problem, allowing for on-demand energy use resulting in greater energy conservation and reduced greenhouse gas emissions. It was expected to allow for the transmission of anywhere from 30 percent to 300 percent more electricity and allow for greater energy storage than the current overburdened system.
“We’re trying to reduce the peak demand because it’s very expensive. We need to find a way to handle the swings,” Henderson said. “A smart grid with efficient storage would get us a long way forward.”
Another potential plus: Consumers would have more control over their energy usage. Homeowners would be given in-home meters to monitor their energy use and even control how much they spent on electricity, perhaps by setting their lights and appliances to turn on when rates were at their lowest. Plus smart meters, monitors, and sensors capable of two-way communication would allow for a more efficient reaction time if an outage was detected, rather than relying on field workers to truck to sites and report back to power plants by phone.
Even better, the system would work well with alternative energy sources such as wind and solar power, unlike the existing energy system, which has a tough time with renewables. Potentially, customers would be able to sell unneeded renewable energy produced at their homes back to the utility companies to be used in other places.
The system could even be a cash cow. One report suggested that transforming from current energy transmission to a smart grid would generate $227 billion over four decades in the United States alone.
The US government threw its support behind the concept, announcing that $3.4 billion in stimulus money would be directed toward smart grid technologies. This created excitement in the industry, and many utilities and technology companies made the smart grid a top priority.
By 2009 venture capitalists had invested over $1 billion in new smart grid technologies, the case said. Utilities began working with software, networking, and technology companies. John Chambers, CEO of leading networking and communications technology provider Cisco, said his company would develop smart grid technologies with an “almost unlimited budget.”
But the smart grid has stalled as a result of several challenges, including federal regulatory issues and the need to bring the various partners together to negotiate technology standards.
Also, an overarching question looms: Will consumers get on board? Even if the smart grid offers customers the ability to reduce energy usage and costs, the system could require programming and other actions by consumers. “Life is busy,” Henderson said, adding that consumers might say, “I don’t want to do this whole thing. I might think it’s an intrusion.”
As Henderson guided students through analyzing the different players in the smart grid market, she told them there are basically two ways companies can make money: by offering a product or service that is unique or by having tightly held complementary assets, capabilities that support the successful commercialization and marketing of an innovation.
“You can be unique, the only company that has this product or service. You have a patent for Lipitor, and you get to make a lot of money,” she explained. “Or you have tightly held complementary assets. Look at Coca-Cola. It’s not unique, but it has really strong customer relationships and a deep knowledge of customers’ needs.”
Henderson noted that it is much easier to make money in an industry if there are high barriers to entry and if there are no substitutes for your products. “We love industries in which it’s difficult to get in,” she said. “The example I use is Kodak. If you were Kodak [several years ago], you were selling to consumers, your suppliers were chemical companies, and there was no substitute for high-quality film. Kodak was among the most profitable firms.”
Many companies decide a product will be successful based largely on whether a market exists for that product, but they fail to look at whether the product is unique or has complementary assets, Henderson said.
“Just because a market is big doesn’t mean there’s some money to be made there,” said Henderson, who has worked with both Fortune 100 companies as well as small technology-oriented start-ups. “You need to look at the conditions [that might contribute to success or failure]. A robust strategy pays off.”
As for the smart grid, years ago many thought it might be in place by now throughout the United States.
Other countries, including Sweden, Italy, and China, have made major headway with developing their smart grids, but progress in the United States has been slow.
“It’s rolling out much more slowly than people expected. Consumers seem less interested in its capabilities. The regulation regime is difficult,” Henderson said. “People have been talking about the market for 10 years, but it’s not yet where it’s supposed to be.”
Henderson’s best guess is that the utility and power integrators, like Siemens AG and GE, may have the best shot at making money off of the smart grid. But with so many uncertainties, it’s hard to tell.
“This question of who will make the money is a very difficult one. We don’t know exactly how it will look,” Henderson said after class. “It will be a tough place to make returns. The worst case is no one will make money.”