Dominion Resources is the latest utility to announce a major plan for negawatt investment. Negawatts are basically saved megawatts; that’s investment made to enhance conservation and save power companies from having to build new megawatt capacity. One negawatt equals one saved megawatt.

Dominion’s plan is designed to save its Virginia customers up to $1 billion in higher rates over the next 15 years by eliminating the need to build two power plants and delaying two other projects. The key element, as is the case with the other negawatt plans announced to date, is installing advanced meters that allow much better control over power flows.

The steps, which include a wide range of new incentives for consumers and businesses, must be approved by Virginia regulators and will cost an estimated $600 million for the meters alone. Winning approval of that investment and recovering it are no sure thing in any state.

Virginia, however, passed legislation last year that set a goal of conserving 10 percent of projected power needs by 2022, a considerable challenge considering the rapid growth in demand of recent years in the northern part of the state. Regulatory relations have also been historically strong, and the company enjoys a statutory rate of return that’s among the highest in the country, as part of Virginia’s re-regulation law.

As a result, the company should have a far easier road to travel recovering its negawatt investment than, for example, New York’s Consolidated Edison is having. Odds are enhanced by the plan’s environmental benefits—particularly reducing carbon emissions—that are proving to be popular this election season.

Dominion is simultaneously asking for an 18 percent rate increase to cover fuel costs for its power plants. Here, its odds are good as well. But the case has attracted the scrutiny of one of the state’s US senators, Jim Webb, who wrote a letter to the State Corp Commission stating: "In this time of economic uncertainty, an increase in energy costs could compel individuals and families to choose between putting food on their table and paying their energy bill.”

Those are powerful words that should get the attention of every utility investor. Dominion itself is entitled by law to recover its costs. Provided the company has made its filing correctly—a fair bet—it’s nearly certain to recover the amount for which it files. It may increase the portion of the increase that it intends to defer, but the company will be made whole.

The sentiment conveyed by Webb’s letter, however, goes deeper than one rate case. Rather, it’s a clear sign that, in an environment where consumers are strapped, rate increases aren’t going to go down easy, no matter how justified.

History shows what “soak the utility” actions by regulators always backfire in the long run, as they lessen investment in system reliability by weakening companies’ financial health. Also, not allowing real cost increases to go into rates discourages conservation, keeping demand that much more strained.

On the other hand, as I pointed out in last week’s Utility & Income, these are tough times for many utility customers. Sen. Webb’s point is hardly radical in that context, and no doubt there are many utility regulators who agree. Moreover, utilities, too, have much to lose by raising rates too quickly, if they precipitate ill will and more unpaid bills. And if people in a relatively wealthy state like Virginia are suffering, there are many other areas of the country where things are far worse.

The key advantage utilities have in tough times is they provide an essential service. No matter how the economy is running, consumers and businesses have to buy electricity. That means steady cash flow, even as other businesses are pulling in their horns.

The flip side is that utilities are very visible companies. Consumers may not be able to track where their automobile was made. But they certainly know to whom they write their check for the power bill.

And just as utilities are vilified when storms knock out power for inordinate periods of time, rising rates are also sure to provoke outrage. That’s not only dangerous to utilities’ public image, but it’s potentially threatening to their ability to recover investment as well, no matter how needed it is.

Utilities’ public relations challenges are currently paltry to those of the Super Oils. Big Oil has always been viewed with extreme suspicion by large segments of the US public.

And the record profits of companies such as ExxonMobil at a time when prices at the pump have hit $4 and higher haven’t helped. Companies such as BP have come under intense scrutiny, both for sky-high gasoline prices and for the recent string of accidents at its facilities in this country.

You won’t find many people who will agree with this. But ironically, the price at the pump for gasoline should actually be much higher than it is now. Refiners have been unable to pass through the full increase in crude oil prices into the price of gasoline because of weakness in the North American economy. In fact, refining profit margins have basically collapsed in recent months.

Second, what’s going on in the oil market is almost wholly beyond Big Oil’s control. That certainly wasn’t always the case. In 1950, virtually all oil consumed in the US was produced here as well, and the seven sisters spun off from the old Standard Oil dominated. That started to change with a vengeance with the rise of the suburbs and growing dominance of gas guzzlers on the newly constructed roadways, which exploded demand to the upside.

At the same time, the rich, cheap reserves that the country had run on for its entire history—and proved invaluable winning two world wars—began to tap out, leaving only higher cost, harder-to-get resources. And a series of spills heightened public awareness to the environmental costs of oil production, leading to the strict limits set on offshore production and more-remote, environmentally sensitive areas. That took a large quantity of proven reserves off the market.

Big Oil’s logical response was to start going overseas to meet the American public’s voracious thirst for black gold, despite the lingering bitter taste from Mexico’s nationalization of their assets there in the 1930s. Political risk was accepted because resources were far cheaper and more profitable to pump than available domestic sources of energy. The tradeoff, however, was that Big Oil had to traverse ever-greater distances to go to less politically secure places to tap into ever-more difficult places.

By the ’70s oil crunch, most US oil was flowing from overseas, with a large chunk from the Middle East. The skyrocketing prices then were more a function of political control of oil supplies by sometimes hostile nations. But they demonstrated clearly that Big Oil was no longer in control of global oil production or setting its price. And the situation grew worse, as rising resource nationalism around the world shut off even more possibilities.

The pendulum did swing back to Big Oil’s favor later that decade, as the discovery of the vast deposits under the North Sea temporarily shifted the balance of resource ownership away from the Middle East. That was a major factor that ultimately broke oil’s price down by the mid-’80s, as Saudi Arabia abandoned its role as “swing” producer. And most of the Big Oil companies got more than their share.

US dependence on imported oil outside Big Oil’s hands, however, soon began growing again. The North Sea reached peak output in the ’90s and has been in decline since. Meanwhile, Russia has become more assertive in its resource rights, largely kicking out Royal Dutch Shell and making life miserable for BP. And Venezuela—to the extreme detriment of its own industry—has effectively booted many of its former Big Oil partners, including ExxonMobil.

Today, the US imports more than 80 percent of the oil we use. Less than 10 percent is from reserves run by Big Oil. And despite some promising projects by certain companies off the coast of West Africa and in the former Soviet Union, that share continues to slip.

Big Oil, of course, still has its hands on the downstream side of the business, such as refinery, petrochemicals and distribution. That’s not worth what it used to be, however.

The US is still the world’s most important market for oil. But unlike in previous cycles, upturns and downturns in the US economy don’t have nearly the same impact on the price of oil.

Mainly, in the second half of last year, as energy prices were beginning their historic run, US and European demand for oil was dead flat. In previous times, that would have meant flat demand for oil and, with the North American economy slowing down, falling prices. This time, however, demand from other nations, notably China, more than picked up the slack. And the trend has accelerated this year.

The upshot: The price of oil is no longer set in the US. Rather, the major factor going forward will be demand from the developing world, notably China. And with the Chinese consuming less than 10 percent per capita what the average US consumer does, they’ve still got a lot of room to grow.

Higher demand from China means that the price of oil will increasingly depend on how that economy performs. If it does slow meaningfully in coming months, it could take oil prices lower. But if it doesn’t, oil is certain to stay at high levels, even if the US economy does sink into a deep recession.

All of this puts Big Oil—now more accurately dubbed Super Oils after the recent wave of mergers—in a very difficult place. On the one hand, companies are making record profits and are sitting on record hoards of cash. On the other hand, they have no control over the price of oil, limited opportunities to expand production and the growing enmity of a public that doesn’t fully understand the position they’re in.

Add to that the still growing unpopularity of the current US president—who is closely associated with them—and it’s no wonder the Super Oils have become the whipping boys of American politicians everywhere. A proposed tax on Super Oils’ alleged “windfall profits” looks dead for now. But it’s almost certain to be resurrected in the Congress that will come to power in 2009, with oil prices still at very lofty levels and after a winter that promises to come with record home-heating prices.

Super Oils do have two aces up their collective sleeves. First, they’ve become truly global companies, making it very difficult to impose any kind of truly punitive tax on their overall operations. And any attempt to do so will no doubt be met with shifting funds to more hospitable climes.

Second, as popular as socking it to the oil companies may be, politicians are even more scared by what would happen if they were seriously weakened. The Super Oils may not have any real control over either global oil supplies or global demand for energy. But the piles of cash they control do represent the best chance to invest in America’s energy future.

Rather than chase them out with punitive measures, it’s far more likely Super Oils will see more of a carrot-and-stick approach in coming years. That is, companies will see incentives to invest in technologies and processes that increase America’s power in the energy market as a consumer nation.

Some companies are already moving aggressively. Chevron Corp, for example, is spearheading development of utility-size solar power facilities in a partnership with Google and Goldman Sachs. It’s also a leader in developing biofuels, though the bulk of effort in coming years will be in a series of projects around the planet to increase conventional fuel production.

That’s the kind of innovation that ultimately will shift the balance of market power from the producer nations to consumer nations again, where it was from the mid-’90s until early this decade. As the aftermath of the US windfall profits tax on energy in the ’70s showed, punitive measures don’t do much to bring down energy prices or even to slow the oil companies other than the domestic producers that could be hit with it.

As for demand, if such a tax were used to put money back into consumers’ pockets, it could ease some of the pain being felt now by many. Unfortunately, it would also send a potentially disastrous signal to consumers: that today’s high oil prices are the result of Enron-like greed in Super Oil management, not epic, long-building shifts in supply and demand.

To be sure, there’s plenty of greed to go around in American boardrooms, and not everyone is on the up and up. But a mindset that blames everything on Super Oils will only be more resistant to the kind of changes in behavior needed to really change consumption habits. And that’s the only thing that really breaks the back of commodity bull markets like this one.

The key for investors is, of course, how increasingly hostile public relations can impact profitability of energy utilities and producers. For Super Oils, it may be a few cents off the bottom line or, in any case, a drop in the bucket compared to the impact of volatile energy prices.

The bottom line is it doesn’t really matter what the government does on the taxation front. As long as energy is in a bull market, Super Oils are going to profit richly. And if prices do back off in the interim, they’ll get their chance to invest.

The vulnerability of regulated electricity companies, on the other hand, is considerably greater. Power companies’ operations are generally confined to certain geographic areas. That means states they operate in have control over how much they earn.

One of the key reasons utilities have performed so well over the past five plus years is that regulation has been generally favorable. That’s even true in states that have historically kept utility rates artificially low and companies financially weak, such as Nevada.

At this point, the industry is as strong as it’s been since the ’60s. Companies have been able to jack up dividends at the same time they’re improving credit quality, by cutting debt and operating risk.

That could change in a hurry in states where regulation turns harsh. Again, crippling the utility in the name of higher rates is a self-defeating proposition, as weakened service providers have higher financing costs and a tougher time paying for needed capital spending. And with $1.5 trillion in needed expenditures for the US power industry by 2030, it’s a formula for disaster.

Most politicians, however, have a history of not looking past the next election cycle. Others almost seem to be habitually anti-big company and relish the idea of punishing a “greedy,” big, visible corporation on camera. That makes for mischief. And utilities and their investors who get in the way will suffer the consequences.

At this point, we really haven’t seen a lot of carnage outside a few states. New York, for example, has reverted to its bad old days of utility regulation. Both the commission staff and an administrative law judge is recommending the full regulatory commission reject Iberdrola’s bid for local wires and pipes company EnergyEast.

That’s despite a pledge by the Spanish giant to invest more than $2 billion in renewable energy in the state. Like many northeastern states, New York is heavily reliant on traditional sources of energy such as coal and natural gas, and it’s projected to see rapidly narrowing reserve margins in coming years.

Nonetheless, the staff and the judge are still trying to extract more, including sharply lower rates. And if the commission goes along with them, Iberdrola will walk away, leaving the state with an independent utility but no new investment. In fact, it’s certain most power companies will take the rejection—combined with Consolidated Edison’s sudden inability to win needed rate increases to encourage conservation and efficiency—as a reason to shun the state entirely.

New York attorney general Andrew Cuomo is also opposing Entergy Corp’s plan to spin out its unregulated nuclear power plants into a separate, 50-percent-owned entity. The company’s existing shareholders will get the rest of the company, as well as holding their shares of the four-state Mid-South power utility.

The state has limited jurisdiction over the deal, which is still likely to close in the third quarter. But the signal is crystal clear: The Empire State is no longer friendly ground for utilities. In fact, with little clear policy agenda besides apparently keeping down customer rates, it has the potential to become downright hostile.

The good news is the contentiousness still apparently hasn’t spread outside New York. But watching the states is increasingly the key to success in this industry.

Speaking Engagements

“The coldest winter I ever spent was a summer in San Francisco,” a saying that’s almost a San Francisco cliche, turns out to be an invention of unknown origin, the coolest thing Mark Twain never said.

The natural setting is, however, among the most exciting in the US. Venture west for the San Francisco Money Show Aug. 7-10, 2008, and conduct your own field study.

Neil George, Elliott Gue and I will discuss infrastructure, partnerships, utilities, resources and energy, and tell you what to buy and what to sell in 2008.

Click here or call 800-970-4355 and refer to priority code 011362 to attend as our guest.

I also have a special invitation for readers to join me and my colleagues Elliott Gue, Gregg Early and Neil George aboard an exciting 11-day investment cruise Dec. 1-12 through the Caribbean and Panama Canal.

This will be a unique opportunity to step away from your daily routines, relax in one of the most beautiful parts of the world and share analysts’ knowledge and passion for the markets. During the sail, you’ll not only explore the cerulean splendor of the Caribbean, but you’ll also delve deep into current markets in search of the most profitable opportunities for your portfolios. You’ll also have the rare chance to sail through one of the world’s engineering marvels, the Panama Canal.

It’s always a special treat to meet and talk with subscribers in person, and we couldn’t have picked a better setting than aboard the six-star Crystal Serenity. This is sure to be an especially memorable experience. We hope you’ll join us.

For more information, please call 800-832-2330.