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Energy Procurement

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Description

Hospital energy procurement is undergoing a paradigm shift as data analytics create new opportunities for market savings and improved risk management. Data analytics also allow greater integration of market procurement and campus energy demand management.

  • Project Talking Points

    • Energy market deregulation and a new emphasis on energy efficiency and sustainability are creating new opportunities for savings in energy procurement.
    • Health care leaders responsible for procuring energy should understand that energy is a financial commodity, and that financial methods should drive the decisions they make about both traditional and sustainable energy.
    • New best practices emphasize alignment, aggregation, and analytics as important factors in driving energy savings.
  • Triple Bottom Line Benefits

    • Cost Benefits: Employing energy purchasing best practices can save money and avoid unwanted risks.
    • Environmental Benefits: Financial methods of purchasing energy allows hospitals access to a wide variety green, renewable, and cleaner fossil fuel-generated sources of electricity even if those sources are far distant from the campus.
    • Social Benefits: Effective management of energy encourages the continued development of sustainability strategies that benefit the hospital community and patients.
  • How-To

    1.  Understand Hospital Energy Markets

    • Hospitals buy retail energy, which refers to a contract to supply an end-use customer with electricity or natural gas service from a source point to a delivery point on the utility distribution system. Nearly all U.S. states allow retail competition for natural gas supply services, while 18 states, plus the District of Columbia, allow large energy users some form of access to the competitive electric market.
    • As the natural gas and electricity markets deregulated, most hospitals found they could reduce their costs by buying energy in the competitive market from retail suppliers. However, this exposed hospitals to market price risk. So, most hospitals traded some of their savings for budget stability by negotiating fixed rates with their suppliers.
    • Professional brokerage services were formed to offer an orderly process for managing the supplier selection process. The brokers’ use of a competitive supplier selection were designed to ensure that the hospital was achieving the lowest available fixed price for a fixed term of years. However, fully fixed-rate contracts do not allow hospitals to capture savings available from more active management in the wholesale market. In addition, fully fixed rate contracts can be a barrier to reducing campus demand or in adding on-campus energy generation, including renewables.
    • Financial management tools, driven by data analytics, allow hospitals to purchase lower-cost wholesale energy. In addition, data analytics make it possible for hospitals to actively risk manage changes in both market pricing and campus energy usage and power production.  The integration of supply and demand analysis can drive optimal savings

    2.  Implement Procurement Best Practices

    • Aggregation: Aggregations of individual buyers are attractive to suppliers and induce suppliers to provide access to the wholesale market and to better products and contract terms. Seek collaborative arrangements with peer institutions to obtain these benefits.
    • Alignment: Hospitals should form an energy committee that includes experienced in-house staff from the finance, procurement, and facilities departments. The committee’s job is to develop a consensus energy purchasing strategy that is consistent with the hospital’s long-term financial risk management strategy.
    • Analytics:  The energy committee should use financial analytics and risk management tools when determining the energy purchasing strategy. The energy committee should balance budget stability and cost savings. For short-term budget stability, a fixed rate may be best. If cost savings is the priority, a market index rate approach may be best. A blended approach offers some of the savings of the market index rate approach with less risk.

    3.  Choose an Energy Advisor

    • Many organizations need outside help to create a comprehensive energy investment portfolio and integrate procurement with demand management. The energy advisor’s role is often to:

    - Conduct a professional-quality supplier selection process, and recommend to the hospital a supplier that meets the highest industry standards and aligns with the hospital’s culture.

    - Conduct a professional-quality supplier selection process, and recommend to the hospital a supplier that meets the highest industry standards and aligns with the hospital’s culture.

    - Provide advice and analytics regarding the management of energy budget risk commensurate with the hospital’s corporate goals and governance.

    - Monitor the energy market and provide regular updates on market trends and appropriate timing of market purchases and pricing.

    - Verify results and adjust market strategy during the supply contract term.

    4.  Choose the Retail Energy Supplier

    • Suppliers should be evaluated using the following factors:
      • The financial strength of the supplier
      • The supplier’s ability to support the appropriate type of energy product
      • The contract language, including pass-through costs
      • The length of term of the contract
      • The time frame when pricing is fixed
      • The supplier’s ability to service the contract, such as making adjustments to quantities in response to market conditions.
      • Equal comparisons among suppliers.
    • 5.  Use Analytics for Better Decision Modeling
    • Energy is a financial market and the key to savings is financial analytics. Data analytics create transparency for buyers in the wholesale market and hospitals can use the same tools to improve how they make energy purchases. For example, statistical modeling helps hospitals identify and fix the best prices at intervals throughout the contract term. This approach carries a much higher probability of creating savings than picking a single price on one purchase date. The analytical approach also allows the hospital flexibility to make supply adjustments in response to changes in market conditions and campus facility operations.

    6.  Structure Contracts to Manage Risks

    • Over the past ten years, fixing the entire hospital budget at a single price on a single date has proven to be the highest cost approach to procurement. Instead, hospitals should consider using the wholesale block and index pricing methodology favored by energy suppliers and the financial firms that dominate the market. A block is a portion of the hospital’s energy load that is priced at a fixed wholesale rate. Energy that is not fixed by the block floats at the clearing price in the wholesale market. The benefit is that the hospital can create a portfolio of fixed prices chosen analytically, at optimal times, rather than all on one arbitrary date.  Data analytics identify the budget risks and help guide decision making. The contract can be fully fixed or a portion remains floating at the market index. The method also avoids the penalties imposed under fixed rate contracts when hospitals achieve large reductions in energy usage. 
  • Case Studies

    • WellSpan Health,York, PA
      • Created a multi-disciplinary energy committee, including finance, facilities and supply chain to manage spend across all campuses.
      • Joined a large hospital aggregation to reduce supplier margins by 50 percent.
      • Treasurer uses data analytics provided by third-party advisor to identify savings opportunities in forward markets, and layer long-term energy purchasing.
      • Managed market approach saved $2.1 million in 2015-16.
      • SSM Health, St.Louis, MO
        • Created a multi-disciplinary energy committee, including finance, facilities and supply chain to manage spend across all owned campuses and offered to affiliates.
        • Aligned the energy purchases of its hospitals to gain volume leverage, reduce supplier margins and gain consensus on strategy at every campus.
        • Treasurer uses data analytics provided by third-party advisor to identify savings opportunities in forward markets and layer long-term energy purchasing.
        • Saved $3 million in 2015-2016 and now uses a unified approach to energy in which finance and facilities collaborate.
  • PIM Descriptors

    Energy

    Level: No Rating

    Category List:

    • Contracted Services
    • ENERGY
    • Supply Strategies

    PIM Attributes:

    • Energy
    • Strategies/Projects

    Improvement Type:

    • Alternative Sources

    Department:

    • Engineering/Facilities Management
    • Purchasing/Materials Management/Supply Chain
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