Corporate Profit and Nuclear Safety: Strategy at Northeast Utilities in the 1990s

By Paul W. MacAvoy and Jean W. Rosenthal

Northeast Utilities Company adopted an ambitious new competitive strategy in the mid-1980s, seeking to become the low-cost supplier in New England electric power markets bracing for deregulation. Given its high-cost nuclear facilities, doing so required a corporate turnaround. For a decade Northeast faced increasing public and employee resistance to cost cutting at its nuclear plants. Though management achieved many of its goals, curtailing outlays on nuclear operations meant high risk that the Nuclear Regulatory Commission would close the plants because of frequent, prolonged outages. This is just what happened in 1996. Did management's deliberate cost-containment strategy take nuclear operations to an inevitable regulatory shutdown, and if so, why? Was it the pursuit of executive compensation tied to cost containment that caused undue risk of regulatory shutdown?


Paul MacAvoy and Jean Rosenthal describe ten years of corporate performance preceding the shutdown, detailing aggressive executive decisions, mounting regulatory actions in response to increasingly severe operational failures, and--at the same time--overall improvement in corporate earnings, stock prices, and executive pay packages. They relate the complexities of managing declining nuclear plant operations under ever more pressing budgetary targets. Their discussion of the increasing risk of outages raises the issue of the tradeoff of profit and conservative management of hazard operations.


All the more timely in light of the massive 2003 East Coast blackout, Corporate Profit and Nuclear Safety represents a powerful and cautionary commentary on industrial practices that goes to the heart of effective corporate governance.

• Language: English
• Publisher: Princeton University Press
• Release date: Jan 12, 2021
• ISBN: 9780691223827

Book preview

CORPORATE PROFIT AND NUCLEAR SAFETY

CORPORATE PROFIT AND

NUCLEAR SAFETY

STRATEGY AT NORTH EAST UTILITIES

IN THE 1990S

Paul W. MacAvoy and Jean W. Rosenthal

PRINCETON UNIVERSITY PRESS    PRINCETON AND OXFORD

Copyright © 2005 by Princeton University Press

Published by Princeton University Press, 41 William Street, Princeton, New Jersey 08540

In the United Kingdom: Princeton University Press, 3 Market Place, Woodstock, Oxfordshire OX20 1SY

All Rights Reserved

Library of Congress Cataloging-in-Publication Data

MacAvoy, Paul W.

Corporate profit and nuclear safety : strategy at Northeast Utilities in the 1990s/Paul W. MacAvoy and Jean W. Rosenthal.

p. cm.

Includes bibliographical references and index.

ISBN 0-691-11994-5 (cl. : alk. paper)

eISBN 978-0-691-22382-7

1. Nuclear industry—Northeastern States—Management—Case studies.

2. Nuclear industry—Deregulation—Northeastern States. 3. Nuclear industry—Northeastern States—Cost control. 4. Nuclear power plants—Northeastern States—Management—Case studies. 5. Nuclear power plants—Northeastern States—Cost of operation. 6. Nuclear power plants—Northeastern States—Safety measures. 7. Nuclear power plants—Northeastern States—Risk assessment. 8. Nuclear power plants—Environmental aspects—Northeastern States. I. Rosenthal, Jean W., 1945–II. Title.

HD9698.U53N965 2004

333.792'43'0974—dc22 2004045861

pup.princeton.edu

R0

Contents

List of Figures  vii

List of Tables  ix

Preface  xi

One

Strategic Challenge at Northeast Utilities  1

An Overview of Strategy and Performance at Northeast Utilities  2

Two

Northeast’s Competitive Strategy  7

Visions of a Changed Future  8

The Strategic Response  10

Financial Conditions at the Beginning of the New Competitive Strategy  13

Constraints: Price and Safety Regulation  18

Alternative Strategies: Other Electric Utilities Cope with Threats of Deregulation in the Mid-1980s  22

Comparative Nuclear Strategies: Pacific Gas and Electric  26

The Northeast Competitive Strategy in Context—Was It at Inception the Dominant Strategy?  27

Three

The Nuclear Power Context for the New Competitive Strategy  31

The Complexity of Nuclear Power Systems  31

Safety Regulation at the Nuclear Regulatory Commission  35

Self-Regulation in the Nuclear Industry  37

Safety Culture and Management Style  38

Cost Containment in the Context of Safety Regulation  41

A Conceptual Framework for Analyzing Responses to Regulation  45

Initial Results: The 1990–91 Millstone Nuclear Plant Shutdowns  48

Nuclear Regulatory Commission Early Warnings  53

The LRS Report and CT DPUC After-the-Fact Appraisal  57

Strategic Focus: Acquisition of Public Service of New Hampshire  57

Initial Results: Financial and Nuclear Plant Operating Performance  61

Four

Revisiting Competitive Strategy in the Mid-1990s  64

Northeast Strategy and the Competitive Threat  64

The PEP Process for Improving Nuclear Plant Performance  73

Operating Problems at Millstone in 1993  75

The Strategy of Northeast and the Board of Trustees  79

The Financial Success of Cost Containment  80

Strategy and Management Compensation  83

Another Look at Alternative Strategies  86

Five

Northeast Strategy and Regulatory Shutdown of the Millstone Plants  88

Failing Operations at Millstone  88

Shutdown at the Millstone Site  97

Increasing Public Concern  98

The Role of the Board in the Northeast Utilities Collapse  101

CODA: The End Game  105

Strategy as the Cause for Shutdown  108

Notes  113

Bibliography  135

Index  147

Figures

Tables

Preface

IN A MAJOR article on November 20, 2002, the New York Times stated that a confidential report to a nuclear power plant safety organization warned that electric utilities had switched strategies to focus on production over safety and had endangered the Davis-Besse nuclear plant in Ohio.¹ The trade-off in favor of reduced costs or increased running time, and against plant maintenance or downtime, could be a broader problem around the nation. The Times said that the Ohio plant operators had demonstrated excessive focus on meeting short-term production goals and a lack of sensitivity to nuclear safety. This was not the first such report; trade-offs leading to safety issues in plant operations had been noted in a number of companies, including Northeast Utilities during the first half of the 1990s.

Our greatest interest is not the technology of safety, but how that trade-off of management targets and safety may be part of corporate strategy. In the mid-1980s Northeast Utilities, the largest electricity generating and distribution company in Southern New England, adopted a new cost-containment strategy with the goal of becoming the low-cost power supplier in its soon-to-be competitive and deregulated power markets. For a decade it carried through that strategy in the face of increasing employee, regulatory, and public resistance to cost cutting at its nuclear power generating plants. Management achieved a significant measure of its strategic goals in that decade, including most if not all of its budgetary goals. But this implementation program involved cost-cutting in key areas of nuclear plant maintenance and equipment upgrades, which involved a trade-off that put the company’s three nuclear power plants at Millstone Point (on the Connecticut coast) at greater risk of operational problems and being shut down by the Nuclear Regulatory Commission.

This forced shutdown took place in 1996, when the Nuclear Regulatory Commission ordered the three plants, which were all out of service, not to restart. After the company spent many millions of dollars on renovating these facilities and retraining the staff, one plant was closed permanently and two were relicensed as if they were new startups. Northeast as a corporation admitted to criminal charges on certain high-risk operating practices. Subsequent to relicensing, the nuclear plants were auctioned off and ownership transferred to another generating company. New management now runs the remaining parts of Northeast as an electricity transmission and retail distribution utility.

What can we make of this competitive strategy? This could be just another case of corporate bad luck, caused by undertaking excessive risk, compounded by bad timing in plant accidents and equipment failure, resulting in the worst-case result. An alternative explanation is that management’s pursuit of cost-containment strategy, with its compensation targeted on lower plant costs, inevitably led to degraded reactor operations, even as the best-case result. According to this explanation, the competitive strategy of Northeast Utilities from the mid-1980s to the mid-1990s increased the risk of future plant failure as a favorable trade-off for more immediate corporate net income and executive compensation. Our inquiry is whether a competitive strategy to achieve target profit and compensation goals necessarily puts the company on the line for nuclear shutdown.

In the chapters that follow, we examine the month-to-month operations of the company through phases of development, implementation, and response to a new strategy at Northeast from the mid-1980s to the mid-1990s. We collect evidence for testing an ordinary explanation or hypothesis for undertaking such a strategy, by which the company took on a more promising plan for achieving growth in earnings, but with increasing risk that its nuclear plants would not operate to their previous high level of performance. This explanation holds that management in the 1980s had undertaken cost containment and achieved significant improvement in corporate financial performance, but by the early 1990s it perceived that cost containment had created a serious risk of forced outage in its nuclear operations and was working for reversal. The reaction of the Nuclear Regulatory Commission caused Northeast to take remedial steps to return the Millstone plants to the operational levels achieved in the early 1980s. Under this theory, an NRC-ordered shutdown in the mid-1990s was a premature accident of regulation.

We also collect evidence for an alternative explanation or hypothesis to the effect that management continued pursuing cost containment, at increasing risk of shutdown, to achieve more aggressive profit and compensation targets. This extended risk hypothesis has it that management, for its own advantage, carried out a strategy that was too risky to benefit the corporation. The fault lay with governance. Management was controlling, when it came to the determination and the evaluation of results from strategy, against the interests of investors, who would not have placed such a priority on current earnings and executive compensation. If there is evidence for this explanation, it is that management sustained and benefited from cost containment through the mid-1990s, even in the face of increased regulatory threat of shutdown, in order to produce those high earnings.

Our research cannot provide a definitive conclusion as to which explanation is exactly accurate. In describing performance, however, the ordinary explanation has it that management tried to return the company to safe operations, while the extended risk explanation is that management in its own interests took on numerous operational failures that involved an increasingly unacceptable risk of regulatory-imposed shutdown. Short of reading the minds of management, determining which explanation is more descriptive can be at least partially based on the corporate record on budget decisions, responses to changes in plant performance, and responses to regulatory findings of operating violations. The conclusion is the reader’s to make.

The story presented here will not have an impact on current Northeast Utilities management. The Millstone facilities and other Northeast nuclear sites, whether operational or permanently shut down, are in the hands of other owners. Current management of Northeast did not come on board until after the events described in this study. Management teams and boards of other nuclear-based power companies, and of other industries with hazardous operations, however, face strategic choices similar to those encountered by Northeast in the decade of 1986 to 1996. Illuminating the specifics of this series of events may provide a useful lesson, if not a cautionary tale.

An extensive search on our part in nonconfidential documentary materials of the Nuclear Regulatory Commission and the Connecticut Department of Public Utility Control provided the record on corporate decisions found in this book. Key documents on the company’s strategy were available from these sources, making it possible to develop a more-or-less complete narrative on performance in implementing strategy from 1986 to 1996.

The Nuclear Regulatory Commission (NRC) maintains records on official communications with management of companies with nuclear power plants. The commission requires multiple levels of reporting by these companies on their plant design and operations, from fact finding on unusual occurrences in operations, to worker complaints regarding hazardous conditions in plants. At the time of our search, the commission documents were available for public access in Washington, D.C., on its website, and on microfilm in libraries throughout the country. In particular, documents related to Millstone facilities were available in its Connecticut depository. (After September 11, 2001, some of those sources were restricted.)

In its role as state regulator of public utility company prices and service offerings, the Connecticut Department of Public Utility Control (DPUC) held extensive proceedings on what went wrong at the Millstone nuclear plants in the mid-1990s. In addition to its own decisions and reports, the Connecticut DPUC maintained copies of documents that the company had provided in response to DPUC data requests during those proceedings. Although some documents deemed confidential by the company were not available for public review, almost all those describing corporate strategy were available for inspection at the DPUC’s repository in New Britain, Connecticut. No confidential corporate documents were used in preparing this study.

Beyond these regulatory files, the problems at Northeast were aired in public, with legislative proceedings, newspaper reports, and media commentary. We first became familiar with the issues and the record after the 1996 regulatory shutdown, when preparing a report for the nonoperating owners of Millstone Three, on alleged malfeasance of Northeast Utilities in operating this facility. While the research literature on risk management in nuclear-plant operating strategies is limited, we used the website of SSRN (the Social Science Research Network) to source university and national laboratory studies that were relevant. We were introduced to the literature on hazard theory by Professor Li Gan of the University of Texas (Austin) and through many discussions of alternative hazard functions with Dmitry Shapiro, an econometrics graduate student in Yale’s Department of Economics.

In addition to documents directly related to Northeast Utilities, the public record contains information on the strategies of other utilities related to the management of profit and risk in nuclear reactors. We have called on this record to study the management of PG&E’s Diablo Canyon nuclear facility in California. Correspondence with faculty and staff at the University of California who were investigating nuclear operations and management practice at Diablo Canyon provided us with additional insights, for which we are grateful.

In spite of these efforts, our knowledge of the events and problems of diverse strategies at Northeast reached certain limits. We did not have access to confidential company directives on cost cutting in specific plants, nor did we have the opportunity to review company five-year plans during the first half of the 1990s. Given these limitations, information that would have completed our investigations of the two hypotheses was lacking. We leave the reader with the task of judging the evidence here as to how deliberate Northeast’s management plans, programs, and projects to contain costs in nuclear operations were in bringing Millstone plant operations to regulatory shutdown in 1996.

We have had the sustained financial support of the John M. Olin Foundation grant to the Yale School of Management for research in government-business relations. We note with regret and understanding its closing; the foundation was a powerful force in law and economics research in the last quarter of the twentieth century, and it will be missed.

Our colleague Dr. Nickolay Moshkin helped with database and regression analysis of corporate profits, as did Olin Foundation Research Fellow John Bodt. Dmitry A. Shapiro provided invaluable insight on hazard functions and statistical modeling. Professors Ivo Welch and Jonathan Feinstein of the Yale School of Management provided valuable comments during our presentation of an early draft to a Yale faculty workshop. Listed on the Social Science Research Network, the working paper version of this book was one of the ten leading downloads in its classification, and we received many email comments and suggestions, for which we are grateful.

Professors R. Preston McAfee of the University of Texas and Geoffrey Rothwell of Stanford University first provided editorial appraisals for Princeton University Press and then in subsequent rounds gave us substantive and detailed suggestions for improving the content and direction of the manuscript; we are grateful and even at points humbled by their analytical insights and erudition in hazard analysis as well as in corporate strategy.

We wish to thank Sharon Krischtschun and Jessica Lather for their word processing and management of project assistance throughout the five stages of development, which required not only patience but also real enthusiasm for what we were doing.

We dedicate this work to Kay MacAvoy and Erik Rosenthal, who did their best to sustain our effort, challenging as that has been, from beginning to end.

Paul W. MacAvoy

Jean W. Rosenthal

Yale School of Management

CORPORATE PROFIT AND NUCLEAR SAFETY

One

Strategic Challenge at Northeast Utilities

IN THE EARLY 1980s Northeast Utilities was one of the country’s leading electric generating and distributing companies, with a reputation not only for service but also for technological leadership at its nuclear plant operations, including those at the Millstone site. By 1996, Northeast’s Millstone nuclear facilities were shut down by the Nuclear Regulatory Commission, requiring the utility to incur extraordinary expenses for repairs, staff retraining, and replacement power. The state utility regulatory agency denied the company the opportunity to recover these costs from customers and, as a result, Northeast’s stock price collapsed. Its reputation as a technological leader in power generation was destroyed, as management pled guilty to twenty-five felony charges brought against its operations of the nuclear facilities. By the end of the 1990s, the company had its assets up for sale to independent wholesale power producers and other retail distributors, in effect seeking to disappear from the electric power scene.

What happened in ten short years to bring about the destruction of this company? There are conflicting answers, many of which were voiced in public hearings and court proceedings in the aftermath of the shutdown. The company’s defenders argued that it could not respond to abrupt and arbitrary changes in nuclear safety regulation at a time when it was responding to newly competitive markets for its products and services. Part of this explanation is that an unfortunate series of operational accidents in the nuclear plants contributed to its downfall. As its regulated markets were becoming subject to deregulation, costs of production would become a central issue in maintaining Northeast’s position in New England. The company cut costs, then stated it was surprised by plant accidents. This strategy’s increased risk, said to be limited, turned out to be realized not because of excessive cost cutting but just bad luck.

This explanation, however, is not the only answer to the question as to why the company collapsed. An opposing theory is that management, dedicated to a competitive strategy designed to deal with regulatory change, made decisions to contain costs that deliberately took on extreme risk of safety-related violations of nuclear regulatory standards. They did this to sustain implementation of a cost dominance strategy to achieve the company’s immediate targeted positions of substantial growth of revenues and earnings. This enhanced risk theory posits that the destruction of Northeast was strategic: cost containment necessarily interacted with nuclear plant operations to take on enhanced risk, including that of regulatory shutdown, which then occurred, but not before the goals had been achieved to enhance the earnings of those in charge.

Why did management depart from the company’s best interest in responding to such risk? When this trade-off is viewed from a management perspective, bonuses and stock awards tied to current earnings do not reflect potential additional costs in the future. The only current costs of the strategy to management were those associated with the increasing pressure inherent in complaints of the Nuclear Regulatory Commission. From the point of view of management if not

Reviews for Corporate Profit and Nuclear Safety

[miche11e_1 · Rating: 1 out of 5 stars]

My spouse read this book and has referred to it several times since. It describes the 10 years of mis-management which led to the shutdown of Millstone Power Plant in 1996. I found it a little too dry and boring to get through.