Diversification Strategy in Electric Utilities: Who Wins? Who Loses?

By Froelich, Karen A.; McLagan, John Ramsey, II | Academy of Strategic Management Journal, Annual 2008 | Go to article overview

Diversification Strategy in Electric Utilities: Who Wins? Who Loses?


Froelich, Karen A., McLagan, John Ramsey, II, Academy of Strategic Management Journal


ABSTRACT

Diversification is a prominent strategy for pursuing organizational growth, yet performance outcomes have been notoriously disappointing, especially for unrelated diversification via acquisition. While firms in most industries have thus constrained their diversification strategies, electric utility firms are increasingly pursuing diversification by purchasing businesses outside their fields of expertise to cope with bleak growth prospects and deregulation uncertainties. Considering that a utility company is generally a sole provider of essential service within a geographic territory, many stakeholders are justifiably concerned about increasing levels of electric utility diversification and potential performance outcomes.

This exploratory study examines diversification within the electric utility industry in four upper-Midwestern states. All ten investor-owned utilities (IOUs) and five of the largest rural electric cooperatives (RECs) in each of the four states are included in the study. Annual report data are analyzed to identify each company's diversification strategy and performance outcomes. Results indicate that IOUs are more diversified than RECs, and intended strategies are not always realized. Reasons for the varied strategies and outcomes are explored, and the differential impact on specific stakeholder groups is examined. The study concludes with recommendations for diversification strategy in the electric utility industry, and suggestions for improving future research through data refinements.

INTRODUCTION

Utilities, particularly electric utilities, are presently operating in an environment characterized by an awkward combination of tight regulation and impending but uncertain change. The highly regulated electric service operations provide profit but restricted growth, while looming deregulation spawns defensive forays into new business arenas. Following industry calamities including the 2000-2001 California brownouts, the 2003 power blackouts in the Eastern U.S. and parts of Canada, and corporate scandals such as that of Enron, there is heightened concern about business practices and their potential impact on energy reliability and cost. Various stakeholders --regulators, community leaders, investors and consumers--are uneasy about corporate strategies, mergers and acquisitions, accounting practices, and possible bankruptcies. So while many utility companies appear to be supplying energy reliably and affordably, aggressive growth and increasing diversification is viewed warily by the diverse set of observers.

Considering the generally poor track record of diversification in other industries, particularly unrelated diversification via acquisition that is prominent as utilities buy instant entry into new lines of business, skepticism about the long-term value of many diversification moves is well placed. Further, considering the role of utility companies in providing affordable essential services, questions arise about whether growth and profit should be primary objectives of these firms anyway. Is diversification a viable strategy for electric utility companies? Is the strategy broadly beneficial for stakeholders? Such basic questions warrant study in the electric utility industry.

Accordingly, this exploratory study examines diversification in electric utilities. First we explain relevant features of the electric utility industry, and review diversification literature pertinent to this inquiry. Then we describe the study's methodology, including sample selection and data sources. Results of the study reveal that diversification is generally less extensive than expected, with publicly traded electric providers being more diversified than rural electric cooperatives. The varied performance outcomes are interpreted in light of current diversification theory and the utility industry context. The study concludes with recommendations for diversification strategy in the electric utility industry, and suggestions for advancing future research through data refinements. …

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