EXHIBIT 99.513
CITY OF LOS ANGELES
DEPARTMENT OF WATER AND POWER
END OF ENGAGEMENT REPORT
PREPARED BY
PSC ENERGY CORPORATION
FEBRUARY 4, 1997
EXECUTIVE SUMMARY
Los Angeles Department of Water and Power February 4, 1997
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Introduction
PSC Energy Corporation is pleased to present this End of Engagement report as
the final deliverable of our two-year contract, during which PSC Energy has
worked in partnership with the Department of Water and Power to initiate a
comprehensive business transformation of the Department. It was recognized that
this objective would not be accomplished in two years, but would be well
underway as part of a longer term business transformation.
This report will document the success of the PSC Energy/Department team over
the past two years in accomplishing the objectives set out in the contract with
the Department:
o To modernize the Department's operations and organizational structure in
order to create competitive advantage for the Department in meeting the
changing requirements of an increasingly market-based industry;
o To transform the Department's current internal working business culture to
one which is commercially driven and customer oriented;
o To enhance the services that the Department already provides to its
customers;
o To identify and offer new products and services to the Department's
customers; and
o To increase Department revenues and net operating income (NOI).
The most dramatic immediate impacts of the PSC Energy/Department team's efforts,
as documented in this report, are hundreds of million of dollars in tangible
financial benefits to the Department -- and its stakeholders, the taxpayers of
Los Angeles. These benefits include one-time savings and avoided costs, annual
recurring savings, enhanced capabilities and generation of identified and
potential future revenues.
The measure of the PSC Energy/Department team's success in designing and
implementing initiatives to achieve these goals can be seen in reviewing the
situation facing the Department just prior to PSC Energy's engagement compared
to today:
o In 1995, the Department was suffering from the effects of a sharp drop in
Net Operating Income (NOI) which began in FY 1991/92 and had not recovered.
Today, the Department's NOI is up, having increased from $59.9 million in FY
1994/95 to $132.7 million in FY 1995/96.
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Los Angeles Department of Water and Power February 4, 1997
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o The Department's debt load was increasing in the years immediately prior to
1995. In FY 1997/96 the Department incurred no new debt and saw the beginning
of a new mindset that looked to cost-cutting and revenue enhancement rather
than to borrowing.
o In 1995, the Department offered no service guarantees to customers. Today,
the Los Angeles Department of Water and Power is the first municipal utility
in the country to offer such guarantees.
o The business culture of the Department in 1995 was one of a traditional,
monopoly municipal -- non-competitive and without a customer service
orientation or even a marketing department. In 1997, the business culture of
the Department has begun to shift to customer-service, led by a functioning
marketing department charged with developing products and services customers
demand and implementation strategies to respond to consumer needs.
o By 1995, the Department's cost structure was substantially higher than those
of investor-owned utilities because of high overhead, non-competitive
business practices and overstaffing. By 1997, the first steps had been taken
to reduce operating costs to a competitive level. In the interim, competitive
business practices had generated hundreds of millions of dollars in one-time
savings and avoided costs, annual recurring savings, enhanced capabilities
and generation of identified and potential future revenues for the Department
and its stakeholders, the people of Los Angeles.
o In 1995, the Department staffing level was 10,713. By September of 1996, the
workforce had been reduced to 8,889 -- producing a recurring savings of more
than $100 million per year.
o In 1995, the lingering effects of labor strife still affected the Department,
with little cooperative effort between management and the unions which
represent a large percentage of the Department's personnel. By 1997, despite
substantial workforce reductions, labor and management were working together
in joint teams to improve previously strained labor/management relations. For
the first time in Department history, a new International Brotherhood of
Electrical Workers (IBEW) contract was signed before the expiration of the
previous contract.
o Facing the possibility of utility industry deregulation, the Department in
1995 had no business plan to deal with the impending deregulation and no
strategy to function in that new unregulated environment in a way which would
protect the Department's stakeholders -- especially the taxpayers of Los
Angeles -- from the potential negative impacts of deregulation, including
possible default on the Department's debt resulting in bankruptcy for the
City. Today, the Department has a comprehensive Strategic Business plan with
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Los Angeles Department of Water and Power February 4, 1997
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strategies to maximize opportunities for success and reduce exposure to risks
in that new environment.
PSC Energy is proud to have participated with the Department in the business
transformation process of the past two years. We are pleased that
implementation of initiatives and action plans during our engagement have
positioned the Department to streamline operations, reduce costs, increase net
operating income, identify strategies for dealing with the debt load and start
the process which can give the Department its best opportunity to remain viable
in the new unregulated market environment by forming strategic alliances with
industry experts. We believe the past two years represent a good beginning to
the process. As we have made clear, however, there is still a great deal to do.
The PSC Energy/Department team has created a blueprint for necessary action.
It is clear that failure to become competitive could lead to dramatic financial
consequences for the Department, the City and its taxpayers.
Starting with implementation of the recommendations outlined in the Strategic
Business Plan, these actions are essential if the Department is to have future
success in competitive, unregulated free market. The Department cannot remain a
viable entity with an operating cost structure that far exceeds those of other
providers in the market and a business culture and governance structure that
cannot respond to the demands of the open market.
Seizing these opportunities will protect the Department's ratepayers -- and
ultimately, all the taxpayers of the City of Los Angeles -- from the
potentially disastrous economic impacts which would flow from a Department
unable to change and compete. These negative impacts could include:
o an exodus of industrial and commercial customers to self-generation or to
providers better able to compete in terms of products, service and price
o spiraling rate increases for remaining customers, or taxpayer subsidiaries
to the Department in order to keep rates artificially low for those
ratepayers remaining
o in the end, potential insolvency of a Department unable to compete in the
unregulated market, stranding more than $4 billion of the Department's
current $8 billion debt; the stranded debt would become the obligation of
the City of Los Angeles and its citizens.
PSC Energy's efforts over the past two years have been designed to help the
Department transform its operations and position itself to seize opportunities
to prevent these potential negative impacts on the Department, its customers,
the city and its taxpayers.
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Los Angeles Department of Water and Power February 4, 1997
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Additionally, strategies implemented by the PSC Energy/Department team have
produced tangible, immediate savings -- as quantified in this report -- as well
as enhance capabilities and generation of identified, potential future revenues.
The positive changes accomplished by the PSC Energy/Department team have been
substantial, particularly when viewed from the perspective of the Department's
history. These business transformation initiatives, however -- no matter how
successful -- are incremental. Alone, they are not adequate to solve the
Department's current non-competitive position. Long-term success will require
completion and continuation of the transformation process through sustained
efforts on the part of the Department.
PSC Energy during its engagement, as part of the business strategy deliverable,
has worked closely with Department personnel in to design and document specific
strategies and action plans for the future which can help the Department
complete and sustain the business transformation process.
The two years of PSC Energy's involvement in the effort to transform the
Department have only been a start. Much more to be accomplished, as described
in the Strategic Business Plan presented to the Board on January 21, 1997, to
ensure a Department which can make a positive contribution to the City of Los
Angeles' economic health.
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End of Engagement Report 4 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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ORGANIZATION OF REPORT
This report is comprised of an Executive Summary, which outlines the key results
of PSC Energy's work with the Department during the past two years.
Following the Executive Summary, the full report includes:
o A short narrative of the background of PSC Energy's involvement in the
business transformation process
o A description of the scope of work and objectives
o Major accomplishments
o Accomplishments in specific focus areas including:
o Business Strategy/Third Party Alliance
o Market Focus
o Customer Service Delivery
o Central Services Organization
o Transformation Mobilization and Communications
o Recommendations for the challenges ahead
o Conclusion
o Appendices
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End of Engagement Report 5 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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BACKGROUND
In 1995, the Los Angeles Department of Water and Power focused on the need to
implement actions necessary to transform the Department in a way that would
assure survival in a changing and increasingly competitive energy market. The
challenges inherent in this process had been highlighted in a number of previous
studies, including the Decennial Audit and the Barrington-Wellesley Group study.
While these documents were helpful in defining the challenges facing the
Department, they produced recommendations rather than action steps to implement
changes necessary to resolve the growing problems they identified. Moreover,
these studies reviewed the Department's performance against historical utility
standards in a non-competitive environment, rather than by the standards
required in an unregulated and competitive market.
The Department recognized the need to formulate a strategic plan that looked to
the future and the new unregulated environment, in order to create a strong
business foundation that could maximize the organization's chances for success
in a competitive market. The Department also recognized the need for an
action-oriented approach, rather than creation of further studies.
To meet these needs, the Department contracted in February 1995 with PSC Energy
Corporation to work with Department personnel not only to develop a Business
Transformation Plan, but also to begin the process of implementing the changes
necessary to restructure the Department. Such a business transformation was
mandatory in order to provide a firm business foundation for the organization
to compete and survive. It was also essential that the Department's
transformation begin immediately -- and that the changes include not only
business practices, but also a new philosophy of doing business.
As PSC Energy began its contract in 1995, many of the Department's potential
competitors had already embraced the new business environment. They recognized
that, in the future, the emphasis would no longer be on commodity electric
service provided to a captive market. Prices in California could no longer be
50 percent higher than in the rest of the United States. More important, the
new environment would no longer ensure regulated rates which guaranteed total
recovery of operating costs. These potential competitors understood that the
deregulated environment would likely belong to open-market providers meeting
customer expectations of increased offerings of products and services as well
as low-cost commodity energy.
Beyond the new challenges presented by deregulation, the Department also
recognized the need for a restructuring of the way is conducted business. A
dramatic indication of the changing utility market was the Department's $1
billion in cumulative revenue losses to cogeneration over the six years prior
to PSC energy's engagement -- nearly 10 percent of the Department's base
revenues.
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End of Engagement Report 6 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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PSC Energy and the Department agreed that the organization, which has been
providing reliable service for more than half a century in a stable monopoly
environment, must adapt to market changes and improve its business practices in
order to survive. The Department faced the necessity of transforming itself to
meet the challenges of the changing market while under fire from competitors.
Even with the recognition of the need for a dramatically new approach, the
Department was nearly a decade behind California investor owned utilities in
responding to expected changes in the industry and in taking steps to
restructure itself to meet the challenges those changes presented. Moreover,
those investor owned utilities were continuing their own restructuring to meet
the demands of the changing market.
The challenges facing PSC Energy in helping the Department achieve a complete
business transformation were great:
o an internal culture with limited experience in competitive business practices
o a governance structure that works against the type of timely business
decisions necessary in a competitive environment
o overstaffing in many key areas
o a labor force governed by both non-competitive collective bargaining
agreements and civil service regulations
o an environment in which many of the functions currently performed by the
Department will become obsolete with new technological approaches, new
products and services expected and required by customers
o the Department's extraordinarily high level of debt
o an excess of generation capacity and related high level of fixed costs
o a cost structure substantially higher than comparable investor owned- and
publicly-owned utilities
o the probability that the Department may lose customers worth at least $150
million in revenues at the outset of deregulation, suggested by experience
in other utility industry deregulations
o the most "at-risk" customers contribute 25% of the Department's total
revenues and share a disproportionate rate burden
o as higher prices drive customers to alternative energy suppliers, even
higher rates for customers remaining will result
o market trend models indicating that as much as 40% of the Department's
energy supply business may be at risk by the end of the deregulation
transition period in 2003.
As PSC began its contract in early 1995, the Department's own business trends
also indicated the immediate need for a new approach to an evolving business
climate.
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End of Engagement Report 7 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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Between FY 1985/86 and FY 1995/96 the Department experienced a gradual but
consistent deterioration in its financial position. Operating expenses
increased by 56%. During the same period, the Department's revenues increased
by 43%, even through rates had been increased. Debt servicing costs more than
tripled, with nearly 30% of each revenue dollar needed to service debt, both
on- and off-balance sheet. Asa result, net operating income declined by nearly
31% from FY 1985/86 to FY 1995/96.
LOS ANGELES DEPARTMENT OF WATER AND POWER
POWER BUSINESS REVENUE, NET OPERATING INCOME AND
OPERATING EXPENSES COMPARISON
[GRAPH]
The Department had accumulated approximately $8 billion in on- and off-balance
sheet debt, nearly $4 billion of which a joint PSC Energy/Price Waterhouse, LLP
study (the "Stranded Investment Study" or S.I.S.) subsequently described as
out-of-market or stranded from recovery in an open market.
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End of Engagement Report 8 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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SCOPE OF WORK
Objectives and Approach
In the Department/PSC contract, effective as of February 17, 1995, the
Department asked PSC Energy to pursue five key objectives during its two year
engagement. The goal of the management was to have PSC Energy assist the
Department in beginning the process of making the Department competitive in the
coming deregulated market and providing a platform for successful business
transformation.
o To modernize the Department's operations and organizational structure in
order to create competitive advantage for the Department in meeting the
changing requirements of an increasingly market-based industry;
o To transform the Department's current internal working business culture to
one which is commercially driven and customer oriented;
o To enhance the services that the Department already provides to its
customers;
o To identify and offer new products and services to the Department's
customers; and
o To increase Department revenues and net operating income (NOI).
To meet these objectives, the PSC Energy/Department team personnel designed and
implemented more than 120 business transformation initiatives during the
two-year engagement period.
The scope of work agreed to by PSC Energy Corporation in meeting the five
contractual objectives outlined above encompassed:
The Business Transformation Program
The goal of the Department in working with PSC Energy was to transform
itself into "a competitive, responsive and profitable organization under
changing conditions, including the new climate of competition and
deregulation". The first step in this transformation process began with
PSC Energy's two-year engagement to outline and assist in the initial
stages of a program which would provide the Department its best
opportunity to become competitive in the new deregulated market. It was
recognized that completion and continued success of the transformation
process is dependent upon the Department sustaining these efforts after
the end of PSC Energy's engagement.
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End of Engagement Report 9 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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Assignment of a Core Project Team (CPT)
The scope of work described in the Department/PSC Energy contract was
intended to be a cooperative effort between the Department and PSC Energy.
The Department agreed to commit resources to complement PSC Energy
personnel in completing the work outlined for the Core Project Team.
The PSC Energy CPT members were assigned to work closely with Department
personnel in all areas covered by the contract, functioning as part of a
Joint Project Team with Department managers and staff drawn from
appropriate areas of the organization. The close working relationship
resulted in a knowledge transfer to Department personnel which will
benefit the Department far beyond the term of PSC Energy's engagement.
In response to the objectives outlined in the Department/PSC Energy
contract, the CPT included experts wit the diverse applicable skills and
experience necessary to analyze the external, changing market environment
as well as the internal business culture of the Department, then design
and implement strategies to adapt the Department's business culture to the
new unregulated market environment.
Among the CPT members were recognized industry leaders in the areas of
generation, transmission, distribution, support operations, information
technology, finance, telecommunications, labor relations, natural gas
supply, marketing and customer service.
The Joint Project Team was reconstituted a number of times during the
engagement as specific initiatives were identified, completed and new
projects begun. CPT members assigned by PSC Energy during the second year
of its engagement included financial analysts, financial modelers,
economic analysts and others representing disciplines which should be --
but are not currently -- included among Department personnel. Again, the
working relationship among members of the Joint Project Team ensured a
knowledge transfer in these areas of expertise to Department personnel
working as part of the Team.
Over the course of the engagement, PSC Energy augmented the CPT as
necessary with additional expert skills, experience and talent needed to
backfill the Department's resource shortfall. The contract called for a
commitment by PSC Energy of 24.75 CPT full-time equivalents (FTEs) over
the term of the engagement. Through December 1996, the commitment was
exceeded by 17 percent, representing an uncompensated PSC investment of
approximately $4.3 million.
During certain periods of the engagement, PSC Energy was providing as many
as 39 FTEs, more than 50% above the required commitment of personnel.
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End of Engagement Report 10 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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Included in these efforts, PSC Energy exercised a number of business
alliances to meet the Department's business requirements. These alliances
included contributions from partnerships with Minority and Women Owned
Business Enterprises (MBE/WBE), represented by:
o OAO Corporation
o RCA & Associates
o Kosmont & Associates
o GEM Communications Group
o PS Enterprises
o Reyes and Associates
Additional business partners, complementing PSC's strengths and bringing
key skills and experience to these efforts, were:
o Marathon Communications
o Latham & Watkins
o Camp Dresser and McKee
o Goldman Sachs
Deliverables for Year One and Year Two
The Department/PSC Energy contract set forth a number of targeted
deliverables for Year One and Year Two. The deliverables were modified
during the course of the engagement, at the direction of the General
Manager and the Board, to meet agreed upon prioritization of work efforts
and strategies. As of the end of engagement on February 17, 1997, all
contractually required deliverables as described above will have been
provided to the Department.
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End of Engagement Report 11 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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ACCOMPLISHMENTS
Implementation of action plans developed by PSC Energy and Department
personnel during the past two years resulted in immediate savings and cost
reductions, as described in this report. However, the Department's cost
structure remains at least $400 million per year higher than a comparable
investor owned utility.
To address this issue the October 31, 1996, PSC Energy/Price Waterhouse, LLP
Stranded Investment Study confirmed the need for dramatic changes in service
and delivery, governance structure and debt structure, as had the previously
noted Decennial Audit and Barrington-Wellesley studies, in order to realize
necessary future savings and generate future revenue in the competitive market.
The S.I.S. validated PSC Energy's original analysis. As a result, the Strategic
Business Plan includes recommendations for the following changes:
o further reducing staff by at least 1,500 positions
o selling or retiring excess generation assets
o incurring no new debt
o raising rates to market levels
o reducing costs and overhead, and
o implementing an aggressive debt reduction plan
These corrective actions are addressed in the Strategic Business Plan presented
to the Board on January 21, 1997.
Without these changes, PSC Energy has warned that the Department could become a
last-resort provider of high-cost services to that small core of customers with
no alternative. Or, in a worst-case scenario, the Department might cease to
cover its debt service, resulting in a default on its $8 billion in debt, the
bulk of which would become the obligation of the taxpayers of the City of Los
Angeles.
PSC Energy's strategic recommendations are designed to maximize opportunities
for the Department to avoid these negative outcomes and emerge from the
transition period with a reasonable chance of long-term success in the new
unregulated and competitive free market.
The result would be a radically changed Department dramatically different from
today: operating on sound business principles; flexible and capable of quick
response in a changing business environment; customer service oriented; ready
to provide the products and services demanded at a competitive price; and with
a streamlined workforce possessing the experience and skills to match the needs
of a changing market.
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End of Engagement Report 12 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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Over the short-term these management and marketing strategies and action plans,
may of which are described in this report, have provided significant, positive,
tangible and intangible impacts on the Department's organization and
performance -- an immediate result not typical of consultant deliverables.
The changes which have occurred during the past two years stand on their own as
quantifiable benefits to the Department and its stakeholders, but could not have
accomplished without the close cooperation and assistance of the Department.
These benefits include one-time savings and avoided costs, annual recurring
savings, enhanced capabilities and generation of identified and potential
future revenues.
We are pleased that implementation of the PSC Energy/Department team's
transformation initiative, developed in cooperation with Department personnel,
provided $231 million in one-time savings and $66 million in recurring annual
savings.
These savings during the term of PSC's Energy's engagement represent value to
the Department, its ratepayers and taxpayers in the Los Angeles totaling more
than 11 times the cost of PSC Energy's two-year contract.
LOS ANGELES DEPARTMENT OF WATER AND POWER
PSC ENERGY/DEPARTMENT SAVINGS
COMPARED TO CONTRACT EXPENSE
[GRAPH]
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End of Engagement Report 13 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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During the same period of PSC Energy's engagement the Department realized $172
million savings attributable to the Focused Separation Program, as well as $185
million in actual and potential future revenues identified by the PSC
Energy/Department team.
Additional PSC Energy recommendations for future actions are contained in the
Strategic Business Plan, presented to the Board on January 21, 1997. These
recommendations, if fully implemented and sustained, could result in hundreds
of millions of dollars in future annual recurring savings and avoided costs, as
described in the Strategic Business Plan.
During the second year of PSC's engagement, Net Operating Income for the
Department also took a dramatic upward turn, after a precipitous drop in FY
1993/94.
LOS ANGELES DEPARTMENT OF WATER AND POWER
POWER BUSINESS NET OPERATING INCOME
[GRAPH]
The PSC Energy/Department team also undertook a number of initiatives which
resulted in significant, if less tangible, benefits. These included creation of
eight joint labor/management teams, as well as twenty subcommittees, with the
IBEW to improve previously strained labor/management relations. The
accomplishments achieved during PSC Energy's two year contract have been the
result of the unique working relationship formed between Department management,
labor unions representing Department personnel and the PSC Energy project team.
Throughout the engagement PSC Energy team members participated jointly with
Department personnel to identify, evaluate and implement strategies and
initiatives. Over the course of PSC's
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Los Angeles Department of Water and Power February 4, 1997
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two-year engagement, more than 1,000 Department personnel participated in
approximately 150 of these joint efforts -- giving a significant proportion of
the Department's work force a personal, hands-on stake in the development and
success of the Department's Business Transformation Program.
Even more significantly, this interaction has provided a creative spark for
development of specific strategies and initiatives in the areas of marketing,
customer service, federal and state energy regulation and continuing operations.
Continuing these cooperative efforts will be essential to create a unity of
purpose across the Department as it changes its mode of operation to one which
is customer oriented and cost conscious.
Although the Department faces the need to further reduce its workforce
significantly, PSC Energy has served as a facilitator in helping to improve
labor relations despite the pending force reductions. This positive outcome is
virtually unheard of in the industry under these conditions. The success of the
business transformation program to this point is due, in no small part, to the
active and cooperative involvement of Department management and union
leadership.
In addition to the efforts and strategies which produced immediate benefits,
the long-term business transformation approach developed by PSC
Energy/Department team is presented in detail in the Strategic Business Plan.
The Strategic Business Plan presents strategic options and recommendations, as
well as action plans for the future, which would maximize the Department's
ability to compete. Just as important, the Plan outlines action plans which
would protect the Department's ratepayers and the taxpayers of Los Angeles from
a potential insolvency or default that could cost more than $4 billion -- a
burden of more than $1,300 for each man, woman and child living in the City.
That represents ten years worth of energy for the average Department customer.
The successful efforts of the PSC Energy/Department partnership to accomplish
the stated contract objectives include:
o formation of a Marketing and Customer Service organization focused directly
on customer service and satisfaction; a special emphasis on development of
marketing expertise was required, because the Department had not previously
included a marketing organization, per se
o creation of a Central Services Organization and a Chief Administrative
Officer position and supporting organization to coordinate and streamline
responsibility for all Department support services
o identification and development of market, debt and financial strategies to
guide the Department through the transition to a new role as a provider in an
unregulated market environment
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Los Angeles Department of Water and Power February 4, 1997
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o exploration of third party business alliances to assist the Department in
maximizing its invested resources through creation of a wholesale energy
trading service; marketing of excess generation; restructuring existing
contracts; providing new services and products for retail customers in
competitive markets; development of strategies to explore new revenue
opportunities; and, finally
o development and completion of a Strategic Business Plan which, if
implemented, can transform the Department into a successful, low-cost,
customer service oriented company.
The positive financial impacts of these efforts have been substantial,
including, during the first year alone:
o $161 million in one-time savings and avoided costs;
o $4 million per year in recurring savings
o $86 million per year in recurring savings from the Focused Separation
Program, which PSC Energy assisted the Department in perfecting and
implementing
o $166 million in identified future revenue opportunities
During the second year of the PSC Energy/Department partnership, addition
financial benefits resulting from implemented initiatives:
o $10 million per year in operational improvements
o $1.5 million per year in savings through renegotiation of telephone
suppliers' contracts
o $1.3 million per year in savings through reduction of IT software costs
o $86 million in sustained improvements from the FSP implemented the prior year
Additional savings were initiated or realized during the second year of PSC
Energy's engagement:
o $43 million over five years in avoided costs for the in-basin generation
capital program;
o $27 million over five years in avoided costs through a new utility pole
replacement process;
o $4 million in other recurring benefits from strategies implemented during
the prior year
New revenues identified in PSC Energy's second contract year included:
o $19 million realized during this year from a new $25 million "dark fiber"
contract.
o $500,000 in contracts signed for providing support services outside the
Department, with an additional $4 million in proposals submitted and
awaiting responses.
Finally, a number of recurring annual savings were initiated during PSC Energy's
engagement:
o $13 million per year in recurring savings from operational improvements in
in-basin generation, achieved through joint labor/management/PSC Energy
working groups
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Los Angeles Department of Water and Power February 4, 1997
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o $4.25 million per year in recurring year over year reduction of accounts
receivable write-off from $27 million to $22.75 million, assuming this level
of improvement is maintained
o $28 million per year in additional staff savings not associated with FSP
The savings, avoided costs and revenue generated during PSC Energy's engagement
total $231 million in one-time savings, $66 million in annual savings, $185
million in actual and potential new revenues and $172 million in savings from
the Focused Separation Program.
In addition, $120 million in potential annual recurring savings has been
identified through efforts being conducted to re-negotiate fuel and purchased
power contracts, as well as improved utilization of generation assets.
The Department's first full fiscal year of PSC Energy's engagement saw net
operating income increase 169% (from $59.9 million in FY 1994/95 to $132.7
million in FY 1995.96). This improved financial performance occurred even
though the Department also took accelerated write-offs of $28.7 million in
preparation for the new competitive market environment.
The positive financial performance for FY 1995/96 also reversed the trend of
recent years during which the Department has incurred its $8 billion of debt.
In FY 1995/96, the Department was a net repayer of debt, rather than a borrower.
These efforts represent even more substantial financial benefits in the years
to come if cost saving programs are maintained, with accumulated savings of
hundreds of millions of dollars per year.
ACCOMPLISHMENTS IN SPECIFIC FOCUS AREAS
Through Year 2 of the Department/PSC Energy contract, the Core Project Team
identified five key focus areas. The five areas are independent, and efforts
in each area created results beyond the boundaries of the area itself.
Business Strategy/Third Party Alliance
It is clear that incremental improvements in Department business practices
cannot alone bring the Department to long-term financial viability. For
that reason, PSC Energy explored ways to cut costs dramatically, increase
revenues and exploit assets in order to lower the Department's cost
structure from its current level 20 percent higher than a comparable
investor-owned utility.
The Department has at least $200 million in excess annual operation and
maintenance costs. The Department is also burdened with a physical and
information technology infrastructure which is technologically non-competitive,
poorly maintained and will require some $300 million in investment over the
next 3-5 years. The Department does
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End of Engagement Report 17 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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not currently possess the amount of skill and expertise necessary to bring
these infrastructures up to competitive levels.
PSC Energy suggested that a dramatic response was necessary to deal with
these financial challenges and to avoid potential insolvency. PSC Energy
recommends that the Department look beyond its internal resources as an
avenue to dealing with debt, underperforming assets, existing high-cost
energy purchase contracts, excess capacity and non-competitive cost
structure.
Specifically, PSC Energy recommended that the Department consider a
strategic alliance with a partner who could assist in these arenas:
o Creating wholesale energy trading service
o Active marketing of excess generation
o Restructuring of contracts
o Providing new products and services for retail customers
By the end of 1996, detailed proposals had been made by interested
candidates for such strategic alliances. Those proposals were analyzed by
the Department and recommendations have been made in an effort to begin
operations during the first quarter of 1997.
PSC Energy also worked with Department personnel to design and implement
strategies which would help the Department maximize value from its
Generation and Transmission assets. The PSC Energy/Department team's
achievements in this area include:
o A proposal and action plan for the Department to divest itself of
surplus generation assets.
o The start of negotiations with Montana Power to end the take-or-pay
Colstrip contract. The cost for power purchased under that contract is
more than twice market price and this output is not needed to meet current
demand. Potential savings of up to $36 million per year have been
identified and are being pursued.
o The possible sale of Mohave capacity rights. Annual capital and fixed
expense savings resulting from divestiture of Mohave are expected to
exceed $30 million per year. Mohave requires potential large capacity
outlays for water supply and environmental modifications.
o The effort to restructure the Intermountain Power Project (IPP), in
which Utah municipals have call rights to 25% of the output of the plant
and control the Board but are not required to take any output or pay any
expenses. The Department has notified the Utah municipals that the current
arrangement is no longer acceptable and they must assume their share of
the $5 billion in debt or renounce all rights. The negotiating process is
expected to take at least a year before resolution.
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End of Engagement Report 18 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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PSC Energy and Department personnel have also development business and
financial models to allow strategic assessments for the disposition of
Department assets. Models developed include:
o IPP and Colstrip operations and contractual commitment ($31 million in
savings per year)
o Gas supply contracts ($20 million in savings per year)
o In-basin generating station ($30 million in savings per year)
o Mohave generating station ($30 million in savings per year)
o Navajo generating station ($35 million in savings per year)
Markets Focus
The new competitive market requires the Department, along with other
suppliers, to focus on and meet customers' needs. From the Department's
perspective, large commercial and industrial customers are the most
art-risk in a competitive environment, representing a potential of
$150-350 million in lost revenue from energy sales. Residential rates
would need to rise by 25%-58% to make up for such losses.
PSC Energy's initiatives on these issues focused on account management,
service development, pricing and market forecasting:
o Initial segmentation of the customer base and assignment of
responsibility for servicing each group to a specific team within the
Marketing organization. The current access to customer information is
inadequate and is a significant impediment in the competitive
marketplace.
o Department and implementation of an account planning and management process
to focus large commercial and industrial business account efforts
o Development of a preliminary Pricing Rates strategy, providing compliance
with the need to unbundle generation, transmission and distribution
services and costs.
o Development, implementation and service of a Product Development process,
to develop and deliver new products necessary in the competitive market.
o Enhancement of the forecasting process to reflect discrete market sector
trends.
o Conclusion of long-term contracts with UCLA, Ultramar, Bank of American
and Kaiser who otherwise were considering suppliers in the current
market. These customers represented $15 million in revenue for FY 1995/96.
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End of Engagement Report 19 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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Customer Service Delivery
Implementation of the PSC Energy/Department team's strategies for customer
service improvements has led to tangible results, including a new bill
format for easier customer understanding, improved collections, service
guarantees, a more efficient claims resolution process and an action plan
for a remodel of the Customer Information System.
Accomplishments in the Customer Service area include:
o Waiting times for customers to reach a service representative in the
customer call center were reduced from an average of 180 seconds in 1995
to a current average of 105 seconds. The improvement was achieved with
no addition in staff, but an improvement in morale and performance by
existing staff. The customer call center is the key interface group for
the Department's 1.3 million electric and 600,000 water customers,
dealing with more than 3 million customer calls per year and arranging
more than 14,000 Field Service Orders per week.
o Reduction in the Department's write-off of "uncollectible" Accounts
Receivable from $27 million per year to $23 million per year. In
addition, ongoing efforts are actively seeking further improvements.
o A program to reduce Accounts Receivable write-offs from master-metered
water accounts. These accounts represent only 7% of the customer base
but are responsible for 40% of Accounts Receivable written off in recent
years. PSC Energy and the Department have worked with other interested
City agencies in developing policies for dealing with this problem.
Those policies have been approved by the Board of Water and Power
Commissioners.
o Introduction of a simplified bill to increase customer understanding of
rates and charges, as a result of customer studies (and more than 1
million customer calls per year -- more than one-third of the total
calls received by the call center -- requiring an increasing number of
staff to respond) which showed the customers were confused by the
previous bill format.
o Development of service guarantees to external customers making the
Department the first municipal utility in the country to offer such
customer service guarantees.
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CUSTOMER SERVICE GUARANTEES
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End of Engagement Report 20 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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-----------------------------------------------------------------------
1. WE GUARANTEE TO RESPOND TO YOUR REPORT OF A SERVICE OUTAGE AS SOON
AS POSSIBLE
2. WE GUARANTEE TO ARRIVE ON TIME FOR SCHEDULE APPOINTMENTS.
3. WE GUARANTEE TO NOTIFY YOU AT LEAST 2 BUSINESS DAYS IN ADVANCE OF
PLANNED SERVICE OUTAGES LONGER THAN 2 HOURS.
4. WE GUARANTEE TO COMPLETE, ON AN AGREED DATE, ROUTINE SERVICE
TURN-ON.
5. WE GUARANTEE TO RESPOND TO TEMPORARY SHUT OFF REQUESTS AS SOON AS
POSSIBLE.
6. WE GUARANTEE TO FIX IT IF WE BREAK IT.
-----------------------------------------------------------------------
Central Services Organization
The PSC Energy/Department team formed the Central Services Organization
(CSO) in January of 1996. This allowed the Department to streamline and
reduce costs in contrast to the earlier, inefficient structure of
fragmented responsibility for human resources, fleet, internal
communications, shops, procurement and facilities management.
Responsibility and accountability for all these functions have now been
consolidated and assigned to a single Chief Administrative Officer (CAO).
The CSO leadership, with the support of PSC Energy, is developing a
Business Plan which reduces the present $200 million annual cost of
providing support services to the Department. This plan will ensure that
functions whose costs are above market are either re-engineered to be
competitive or eliminated.
Accomplishments of the Central Services Organization include:
o Improvement in the quality of services to internal customers through
the development and introduction of service guarantees for each support
services group. This change in management and employee focus to
identifying and filling customer needs was a necessary first step in
changing the business culture across the Department to one that is
focused on identifying and serving the needs of external customers.
o Redesign of the procurement process, development by a joint PSC
Energy/Department team. Formal contract processing time has been
reduced by 40 percent, permitting a potential $5 million reduction in
inventory and a reduction in inventory carrying costs of $1 million per
year.
o Development of Strategic Procurement Partnerships, which have the
potential to reduce the delivered cost of materials of supplies by $40
million annually.
o Implementation of a variety of process changes and cost reduction
initiatives which are on track to reduce annual costs by $10 million in
FY 1996/97 and beyond.
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End of Engagement Report 21 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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Transformation Mobilization and Communications
During Year 1 of the PSC Energy contract, transformation efforts helped
realign the Department into manageable, focused and accountable business
units. Because Units for Generation, Transmission and Distribution were
formed, and a Marketing and Customer Service Organization was created, The
General Manager's office was streamlined and a number of other
administrative functions were made more efficient and accountable,
including the creation of the Central Services Organization through
consolidation of a number of disparate organizations within the Department.
Year 2 efforts extended these efforts to address organizational structures
and cultural issues. These include potential expansion of exempt positions
to bring key skills and expertise into the Department and possible Charter
revisions to revise the governance structure in a way that will allow the
Department to respond quickly to a changing business environment. The level
at which these changes are sustained and extended will determine the future
success of the Department.
Communications tasks have centered on developing and implementing
strategies and action plans for internal and external communications
processes to enable and support transformation, improving labor/management
relations and designing a revised organization which can conduct business
after the departure of some 17% of the workforce over the past two years.
The workforce reduction has continued through PSC Energy's two year
engagement, from 10,713 Department personnel on March 1, 1995, to 9,133
after FSP, to 9,016 by March 1, 1996 and to 8,889 on September 1, 1996.
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End of Engagement Report 22 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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LOS ANGELES DEPARTMENT OF WATER AND POWER
DEPARTMENT PERSONNEL
[CHART]
The Barrington-Wellesley Group (BWG) study in 1990 recommended a Department
force reduction to 8,700 people within five years. While that number is now
within reach, the BWG numbers were based on a traditional monopoly utility
model. PSC has advised the Department that the 8,700 number remains
significantly too high to be competitive in the new unregulated marketplace
and has suggested strategies to reduce overstaffing.
Nevertheless, the reduction to current levels has resulted in savings of
$86 million annually from FSP reductions and an additional $28 million from
further attrition.
Savings and efficiencies have been augmented through the redeployment of
employees from surplus areas to critically needed functions and roles with
the Department.
A significant element in the success of the transformation effort to date
has been the active and cooperative involvement of Department management,
IBEW leadership and employees in the Department. PSC Energy has served as a
facilitator in helping the Department and the IBEW to build strong and
improved labor relations in the face of reducing the workforce -- a result
almost unprecedented in the industry.
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End of Engagement Report 23 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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Additional accomplishments of the PSC Energy/Department team in the
Transformation Mobilization and Communications area include:
o Creation of an integrated Marketing and Customer Service Department to
better focus on customers' needs and product/service development. An
Assistant General Manager has been appointed to lead these efforts.
o Formation of eight cross-functional joint labor/management teams and
twenty subcommittees labor/management subcommittees to address all
aspects of the business transformation program.
o Creation of more than 150 joint teams with participation by more than
1,000 Department personnel in the effort to identify, evaluate and
implement initiatives for business transformation across the Department.
o Institutionalization of joint committees and processes across the
Department to create ownership of initiatives and serve as the
foundation for future cooperative efforts.
o Creation of joint labor/management committees to foster a cooperative
environment and improve previously strained labor/management relations
in anticipation of the need for cooperative efforts in the
implementation of the Business Transformation Program.
o Improvement in labor/management communications which led, for the first
time in Department history, to the signing of a new IBEW contract
before the expiration of the previous contract.
o Utilization of the 11 service guarantees already approved by the Board
as evidence and a key element of the business culture transformation of
the Department.
o The use of service guarantees as a means of focusing on internal
customer satisfaction and providing a tool for accountability in
delivering that satisfaction. These guarantees and the associated
support infrastructure empower front-line employees to take ownership
of customer satisfaction.
o Identification of $27 million in potential avoided costs through the
Service Reliability and Maintenance Guarantees Joint Labor/Management
Committee, which identified an alternative to replacing distribution
poles at a cost of $1,000 per pole rather than $10,000 per pole. This
alternative will be applicable to approximately 3,000 poles over a
5-year period.
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End of Engagement Report 24 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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o Identification by the In-Basin Generation Joint Labor Management
Committee of $43 million in potential avoided costs for capital
investment over 5 years by cancellation of planned but unneeded
expenditures for in-basin plants. The Joint Committee has also achieved
operational savings of some $13 million per year, including $3.5 million
per year from revised opening procedures in the Haynes Generating
Station.
o Development of a Management Appraisal and Assessment process. This
process can be used to link incentive compensation, based on setting
goals and targets, to subsequent measurement of managers' achievements
against these targets. Further, the process can help identify management
skills and expertise lacking in the Department as it faces the future.
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End of Engagement Report 25 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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THE CHALLENGES AHEAD AND RECOMMENDATIONS
Significant work remains to be done in order to assure the continuing success
of the Department's Business Transformation Program. Even more significant than
past hurdles are the challenges facing the Department as it enters the new
world of increasing competition. Decisions on strategic issues must be made to
ensure that even a transformed organization can survive in a dynamic energy
industry.
Without these sustained efforts, the Department will likely be unable to
continue its historic role as a valuable asset to the City of Los Angeles.
The new world of competition and deregulation has created challenges which
municipal utilities, the Department included, are ill-prepared to meet. A
cumbersome and time-consuming governance structure limits the Department's
capability to respond to changing needs, restricts the Department's ability to
succeed versus competitors with more streamlined, business-oriented governance
mechanisms and exposes the City and its taxpayers to unacceptable levels of
risk. The City Charter, for example, inhibits the Department's range and speed
of implementation in taking swift action on essential business decisions in the
areas of supplying customer needs outside its franchise area, meeting market
needs by providing new products and services quickly and acquiring badly-needed
commercial skills and experience to meet specific challenges.
The positive changes which have been implemented through the business
transformation strategies of the PSC Energy/Department team have been
substantial, particularly when viewed from the perspective of the Department's
history. However, these incremental changes, by themselves, are not adequate to
solve the Department's current non-competitive position.
It has been the mission of PSC Energy during its engagement, as part of the
business strategy deliverable, to work closely with Department personnel in
designing and documenting specific strategies and action plans for the future
which can best prepare the Department to stave off these negative outcomes.
Further, these strategies and action plans are designed to create a platform
which, if sustained, would provide the Department its best opportunity become a
viable energy provider and remain a valuable asset to the City of Los Angeles
and its taxpayers.
SPECIFIC CHALLENGES
As outlined in the Strategic Business Plan, the challenges ahead include:
o Managing nearly $8 billion of tax exempt debt, including a maximum of $4
billion in stranded debt. Debt service on this stranded debt converts to
approximately $300 million per year in non-competitive operating costs.
o IRS rules which constrain the use of tax-exempt public debt for private use
or commerce.
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End of Engagement Report 26 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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o California Assembly Bill 890, which defines the deregulation process,
provides for a one-time opportunity for recovery of stranded investments but
limits the time frame for that recovery. With an enormous stranded investment
liability, the Department must cut costs and raise rates immediately to
allow future price reductions comparable to California investor owned
utilities by the end of their deregulation period December 31, 2002.
o The timing and impact of customer direct access in impossible to predict,
but the Department should prepare for direct access beginning in January of
1998. The actual start date, the phase-in time and the impact on the
Department will be dependent upon its preparedness, both logistically and
financially, regulator rulings, customer options and likely other variables.
o Addressing the Department's high operating costs. Benchmarking studies and a
review of Department activities indicate a minimum of $200 million per year
in excess staff, uneconomical non-core activities, inefficient work rules
and excess generating capacity.
o Adding the excess operations and maintenance expanse to the excess debt
burden puts the Department's revenue requirements $500 million per year, or
25 percent, above a comparable "low-cost utility." With burden, in the
deregulated energy market, it will be extremely difficult to accelerate debt
repayment after the transition period.
o The inability to react quickly to market forces because of the Department's
governance structure as a department of the City, civil service personnel
selection rules and inefficient work practices codified in labor agreements.
o An outdated information and technology, infrastructure, and power
infrastructure, both of which will require significant capital investment to
insure competitive levels of reliability and service. An example is the
"millennium problem", which will require reprogramming of Department
computers and billing systems to deal with the date change of the year 2000,
a task which the Department's current technology infrastructure and staff
skills are unprepared to accomplish.
o A mis-match of management and staff skills against those required to operate
successfully in the competitive arena. The inability to bring commercial,
management and specialized technical management skills results in a heavy
dependence upon consultants that is not as effective an approach as having
the correct mix of internal resources.
STRATEGIC RECOMMENDATIONS
In light of the Department's objectives, as stated in the Department/PSC Energy
contract, and in order to meet the challenges outlined above, PSC Energy has
made a number of strategic recommendations for future action to the Department.
These recommendations are contained in the detailed Strategic Business Plan
recently presented to the Board by PSC Energy. The highlights include:
o Transition of Generation Business, through continuing efforts to reduce
fixed costs by selling and/or closing down existing excess capacity, improved
work processes and reduction of staff.
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End of Engagement Report 27 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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o Transition of Transmission Business, through transfer of control of
transmission assets to the California ISO in January 1998.
o Modernize and Improve the Distribution Business, through streamlining of the
remaining business by improving work practices and dramatically cutting
overheads.
o Create a Service Delivery Business by investing in critical elements of
service delivery infrastructure or by developing appropriate alliances with
industry experts. This would enable the business of providing service to
customers to be performed successfully in a deregulated market.
o Elimination of Uneconomic Activities, by removing all internal functions and
related costs that are uneconomic.
These strategic recommendations are described in detail in PSC Energy's
Strategic Business Plan for the Department.
STRATEGIC ACTIONS
To implement the strategic recommendations contained in the Strategic Business
Plan, PSC Energy has suggested the following actions:
o Generation -- Sell 500 MW of excess generation assets and close down 2
in-basin units totaling 600 MW before 1998;
o Transmission -- File a joint tariff with the IOUs to the FERC and join the
ISO in January 1998
o Distribution -- Consolidate operations and maintenance functions and
implement changes to working practices in the distribution system
o Service Delivery -- Implement essential changes to the metering, billing and
account management functions to allow introduction of Direct Access to
customers
o External Alliances -- Complete negotiations and sign an agreement with a
strategic alliance partner in January 1997 and implement that agreement
The Strategic Business Plan also recommends a number of supporting actions which
are required if the Department is to address its financial, labor,
organizational and communications goals. These actions include:
o Implement ordinances immediately to restructure rates, raise residential and
small business rates in line with Edison's expected rates in 1998, providing
up to $250 million per year for early debt repayment.
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End of Engagement Report 28 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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o Set an agreed method for reviewing current stakeholder benefits such as
rates, transfer and other subsidies and investigate new transfer mechanisms.
o Implement ordinances and conduct public hearings to phase in Direct Access
beginning in January 1998, including immediate implementation of a
competitive transition charge (CTC).
o Implement voluntary incentive programs immediately to downsize current staff
numbers by at least 1,500 focused in non-core, non-essential and overhead
functions in two phases beginning March 1997 and ending July 1998.
o Reorganization of the Department's management and workforce structure to
maximize and coordinate skills of internal and external talent pools, align
the skills available with the future business structure and integrate
alliance partner functions during 1997.
o Select a technology partner to manage and implement critical information
technology (IT) projects to support restructuring, including new financial,
management information, metering and billing systems. The partner must also
assist in design and implementation of appropriate reeducation and
reorganization of Department personnel to realize these IT goals.
o Communicate the strategy and vision to all employees and stakeholders
through an established communications plan with clear goals and strategies
to attain them. This process has begun through joint initiatives involving
the Mayor, the Board and the Council with the assistance of the public
relations firm of Hill & Knowlton.
o Establish business unit accountabilities for achieving the Strategic
Business Plan and measure performance against goals using performance
targets and metrics.
Implementation of these actions, which are discussed in detail in the Strategic
Business Plan, in a timely manner will require coordinated effort on the part of
Department management, the Board and the City Council of Los Angeles.
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End of Engagement Report 29 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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CONCLUSION
The PSC Energy/Department team has begun the business transformation process.
The efforts of the past two years have changed how the Department operates. The
process has streamlined Department operations, helped reduce costs, increased
net operating income significantly and identified strategies for dealing with
the debt load. These actions represent a good start in moving the Department to
a competitive footing that will allow it to function in an unregulated market
environment.
PSC Energy is also pleased to have played a major role in designing the next
level of action which must be taken after our engagement with the Department
ends in February, 1997. This blueprint can serve as a firm foundation for the
continued business transformation of the Department.
Working cooperatively with the Department, we have accomplished what we agreed
to do:
o To modernize the Department's operations and organizational structure in
order to create competitive advantage for the Department in meeting the
changing requirements of an increasingly market-based industry;
o To transform the Department's current internal working business culture to
one which is commercially driven and customer oriented;
o To enhance the services that the Department already provides to its
customers;
o To identify and offer new products and services to the Department's
customers; and
o To increase Department revenues and net operating income (NOI).
At the same time, as documented in this report, the PSC Energy/Department team
has saved the Department -- and its stakeholders, the taxpayers of Los Angeles
- -- hundreds of millions of dollars in one-time savings and avoided costs,
annual recurring savings, enhanced capabilities and generation of identified
and potential future revenues.
Much remains to be done for the longer term, starting with implementation of
the recommendations outlined in the Strategic Business Plan. These actions are
essential if the Department is to succeed in the competitive, unregulated, free
market.
With regard to the future, PSC Energy has made its recommendations for action
as part of the Strategic Business Plan. The decisions regarding those
recommendations are now the province of the Board and the City Council, with
implementation is in the hands of Department management
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End of Engagement Report 30 PSC ENERGY
Los Angeles Department of Water and Power February 4, 1997
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and personnel. Success in the new environment can be achieved only through
creation of a coalition of interests that can take necessary action in a timely
manner.
All concerned realize that the stakes are enormous. Failure to adapt to the
changing market could lead to abandonment of the system by those customers able
to switch to more competitive providers with lower rates and higher levels of
service, which in turn would require substantially higher rates for those
customers remaining, prompting more of the remaining customers to leave.
PSC Energy's long-term strategic recommendations, contained in the Strategic
Business Plan, mark a path towards the goal of maximizing the Department's
opportunity to emerge from the deregulation transition period stronger and more
capable of competing in an unregulated market.
Such a capability may well spell the difference between a vital and viable --
if dramatically different -- Department enterprise and an organization stripped
of its customer base and unable to meet its debt service, leaving the taxpayers
of Los Angeles to pay the price of a potential default.
Seizing the opportunity represented by the Strategic Business Plan provides the
best opportunity to protect the Department's ratepayers -- and ultimately, the
taxpayers of the City of Los Angeles.
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End of Engagement Report 31 PSC ENERGY