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California Edison operates as a power generation and transmission company in southern California. In the late 1990 the company began reducing their power generation services, in part due to California regulations on fossil fuel power generation plants. The firm spent large amounts of capital on upgrading their power transmission in structure. The firm restructured, with their new role being a power transmission company. This move positioned Southern California Edison to be more profitable in the market, with their primary focus being buying and selling power for a profit.
The firm had a rather extensive results sharing program for all their employees and management. In addition to an executive compensation program that included bonus that was equal to a max of 200% of annual the salary for executives. This bonus consisted mainly of stock options to keep management’s focus on the long term goals of the firm.
In 1996 the governor of California deregulated the power industry in hopes that more companies would get involved in the market. This plan operated well until 2000, when it almost collapsed due to increasing demand for electricity in Southern California. The demand caused spot prices for wholesale electricity to rise drastically. This increase in cost impacted Southern California Edison significantly. As the prices rise the firm was buying power for almost five times what they could sell it for. The firm began legal action for governmental assistance as the crisis was continuing. During this time the firm made the decision to layoff seven hundred employees, and restructured their compensation plan. The firm withheld all payments for the results sharing program even though the previous year was a good year, this revenue was reserved to help weather the crisis. The executive bonus plan was restructured to be a retention plan rather than a performance bonus plan. With these changes and the successful recovery of over one billion dollars from their legislation efforts, Southern California Edison was able to survive the crisis. Unlike another Southern California power company that filed bankruptcy due to their inability for weather the storm.
The firm decision to sell several fossil fuel power plants and decommission others to avoid regulations was not a wise decision it put the firm in the position of being susceptible to the whims of the market. While their selling price could not be raised without legislation to allow it, the costs on the deregulated wholesale market could change for demand. Many firms began focusing on short term higher profit rather than long term objectives. The power produces became very myopic in their decision making processes.
The restructure of the firm’s bonus program at that time made sense, yet there should have been a minimum qualification to receive the minimum level of bonus for executives. With the soft economy at that time, it would have been very difficult for any of the executives to find another job if they left the firm. This bonus was paid at minimum levels to all the executive team for mealy staying with the firm. The new bonus program did focus on the long term objectives of the firm by being primarily stock options.
The firm should return to the original structure of the firm as a power producer and transmission company. The loss of so many of their power production facilities may have lowered costs, but it also made the firm very susceptible to market conditions beyond their control. They should only use the power market to cover gaps in their ability to produce, not the primary source of the energy they are selling. The executive bonus program needs to be addressed again, rewarding someone for not quitting is not a very effective bonus program. The program should be structured with performance objectives that the executives need to meet to be eligible. If the firm wants to use the executive bonus program as a retention program, they should take the performance based program and condition the payout that the executive needs to be with the firm on the payout date for the pervious performance evaluation period. Also include the condition the executive needs to be with the firm for the entire performance evaluation period to be eligible for the bonus. This would make executives think twice before leaving the firm.
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