Using Regulatory Benchmarking Techniques to Set Company Performance Targets: The Case of US Electricity

Abstract

Consolidation in many sectors has lead to the formation of “groups of companies”. Extracting all the potential cost savings from these independent or separate operating units is a challenge given asymmetric information. We develop a step-by-step approach that applies regulatory benchmarking techniques to set efficiency targets for operating units. Holding company management – like a regulator – will want to set targets to encourage efficient operation but in the absence of full information on effort, costs and environmental conditions. Our approach using the parallel with regulation incorporates issues such as measurement error and potential environmental factors that could influence the underlying efficiency score. We demonstrate the approach using data from the US electricity distribution sector and show that substantial savings can be extracted using this approach that was originally developed for regulatory purposes.

Efficiency and environmental factors in the US electricity transmission industry

“…One of the most interesting issues with environmental conditions is the question of whether firms are using them as an excuse for poor performance. In line with this, Nillesen and Pollitt (2010) find that firms which operate in unfavourable conditions can be best-practice for the case of US electricity distribution.…”

“…By contrast,Nillesen and Pollitt (2010) find that the best performing US electricity distribution companies do not correlate with unfavourable conditions.…”

Ownership Unbundling in Electricity Distribution: Empirical Evidence from New Zealand

“…Of these 11, eight test the separability of generation from either transmission alone, or a combination of distribution and transmission, while the remaining three examine vertical economies between generation and distribution. Analysis of US data also seems to show that vertically integrated utilities have lower distribution costs than non-integrated utilities (see for example, Nillesen and Pollitt 2010).…”

Using stochastic frontier analysis to measure the impact of weather on the efficiency of electricity distribution businesses in developing economies

“…Among the studies that add environmental variables to the production function are Pollitt (1995), Estache et al (2004), Rossi (2007) and Jamasb et al (2012). By contrast, Mota (2004), Nillesen and Pollitt (2010) and Growitsch et al (2010) assume that the environment influences directly on 29 535 departments (Argentina), 5,562 municipalities, (Brazil), 342 communes (Chile), 1,833 districts (Peru). 30 We are aware of the aggregation issues that arise when only the average value of weather variables is taken to represent the effect of weather in a specific electricity firm (i.e.…”

“…Some find that weather does influence efficiency (Jamasb et al, 2012, Growitsch et al, 2010, Llorca et al, 2016, others find that weather does not produce any effect on efficiency (Nillesen and Pollitt, 2010;Korhonen and Syrjänen, 2003) and still others suggest that specific variables may act as proxies for the effect of weather on efficiency (Yu et. al, 2009a).…”