The end of fixed term energy contracts?

EIC expands on recent comments from industry professionals concerning the viability of fixed term energy contracts in an uncertain future.

The floodgates open

The impact of COVID-19 has been felt at all levels of commerce, whether it be the radical transition to remote working or exposing the fragility of the fossil fuel sector.

Many organisations have recognised the opportunity that remote communications technology like Zoom and Skype have presented. Building costs account for a huge portion of the average firms outgoings and by reducing the need for space, these costs can shrink as well.

‘The new normal’ it seems could be a boon for all businesses in terms of operation costs, not to mention time saved for their employees. However, as with any paradigm shift, this transition has a great deal of uncertainty attached to it.

A major challenge facing energy suppliers will be in predicting consumption patterns as more people start to work from home. Unpredictable fluctuation will make it more difficult for suppliers to mitigate risk on fixed term contracts. As a result, they will become greatly exposed to imbalance charges and ‘Take-or-pay’ penalties embedded in most standard fixed contracts.

Fixed vs flexible contracts

As a means to protect against these volatile shifts in the country’s energy demand, energy suppliers will increase the price of fixed energy contracts. Doing so will protect against uncertain consumption patterns. Suppliers may also begin to leverage the terms within those contracts to the cost of the firms they are supplying.

Chris Hurcombe, CEO of Catalyst Commercial Services, believes fixed-price contracts may ultimately disappear as suppliers struggle to predict consumption patterns and attempt to insulate themselves from risk.

Post-Covid, there are too many unknowns for suppliers to price them accurately, so they are doing everything possible to de-risk contracts. Credit requirements are going up and some suppliers are not pricing for certain industries without an upfront deposit or a significant price premium…”

-Chris Hurcombe, CEO of Catalyst Commercial Services

Currently, fixed-price contracts levy a 10% price premium compared to their flexible counterparts. Additionally, Hurcombe has predicted a 15-17% rise in 2021,  continuing to 20% the following year.

Non-commodity costs, expected to climb in the near future, now represent the lion’s share of energy bills. As such, they represent the largest risk factor for end-users/client procurement budgets. These ‘fixed’ contracts, which allow suppliers to pass through additional energy charges, may hold a costly surprise for the firms taking part.

Help on the inside

Fortunately, flexible contracts, which EIC specialises in procuring, offer means to reduce or avoid some of these charges. They also afford adaptability in a changing commercial landscape. As volume consumption forecast becomes difficult and budget certainty key for the survival of companies, flexibility will become crucial.

The UK commercial and industrial sectors consume 185TWh annually, approximately £27bn worth, so the potential savings here are gargantuan. Savings of such magnitude can’t be ignored in an economy approaching its deepest recession since 2008’s financial-crisis.

EIC can secure you a flexible energy contract to take advantage of these savings. The key markers that EIC looks for when engaging suppliers include contract features and functionality, transparency around price fixing mechanism and competitiveness of the supplier’s account management fee.

Using these criteria means EIC can effectively guide your market position despite the fluctuations that a post-COVID future promises.

Existing EIC clients were collectively under budget to the tune of £65.7m between 2014 and 2018 for electricity and gas. One pharmaceutical client enjoyed 78% in annual savings over a 36 month period.

Further information on how to recruit EIC’s expertise into your negotiations can be found at the EIC solutions page.

 

Ofgem publish update to Targeted Charging Review proposals

In the meantime, the regulator has released a letter detailing guidelines on residual charging proposals and renewables modelling.

Residual charging proposals

In the ‘minded-to’ consultation, published in November 2018, Ofgem proposed two leading options for reform for residual electricity network charges. The options were; a fixed charge, or an agreed capacity charge. Ofgem indicated that they preferred a fixed residual charge.

Most respondents to the consultation also expressed support for the fixed charge. However, there was some disagreement with the structure of the proposal, predominantly with user segments associated with this pricing option.

Some respondents expressed that the fixed charges should take more account of the diversity of non-domestic users, pointing out that individual bands could contain a wide range of different user sizes. It was also highlighted that Ofgem’s proposed basis for segments could be seen as arbitrary.

In light of this feedback, Ofgem’s refined proposal for non-domestic customer segmentation is that:

  • total allowed residual revenue would first be apportioned between voltage levels, on the basis of net volumes, as set out in the November 2018 minded-to consultation;
  • non-domestic segment boundaries would be set in terms of agreed capacity levels for users at higher voltages where this data is widely available, and net volume levels at Low Voltage (LV). This is in place of segmenting these users on the basis of the line-loss factor classes (as set out in the November minded-to consultation).

Ofgem has identified five national level charging bands for Low Voltage non-domestic users and five each for High Voltage (HV) / Extra High Voltage (EHV) non-domestic users. The banding is the same for HV and EHV customers, but their share of the residual charges is calculated at voltage level resulting in fifteen charges in total.

The refined band thresholds would be applied on a consistent basis across the country. Users would be allocated on a historic basis and updated in line with price controls. Incentives are expected to be reduced in a bid to change behaviour in response to residual changes.

The option for agreed capacity has been left open by Ofgem. The regulator has stated that where more users collect agreed capacity data there could be the opportunity to transition charges to an agreed capacity or more appropriate basis.

The Targeted Charging Review

EIC has a more detailed breakdown of the Targeted Charging Review that can be read here.

6 things to consider negotiating a flexible energy supply contract

In our latest blog we outline some key factors you need to consider when opting for a flexible energy supply contract.

  1. Contract Duration

    The duration of your flexible energy supply contract is often driven by market liquidity. The trading windows cover 4 seasons (24 months) for power and 6 seasons (36 months) for gas but it’s always beneficial to put a longer term contract in place so seasons can be traded as soon as they become liquid. Longer duration flexible energy contracts provide optimum trading opportunities to manage prices over time. It is also worth ensuring a supply contract is in place to cover any duration that requires a budget to be set.

  2. Non-Commodity Charges

    It’s important to think carefully about your non-commodity costs when securing your flexible energy supply contract. There are many options available. These range from fully fixing all or some non-commodity charges, to having all charges fully passed through at cost. Having all, or at least some, of the demand related charges passed through will reduce premiums. As a result you can reduce costs by load shifting or load shedding. This will however increase the complexity of invoices as the non-commodity charges will be transparent on your invoices with some subject to reconciliations. Non-commodity costs will make up around 67% of your overall costs by 2025. So it’s vital to consider your wider energy strategy as fixing non-commodity costs could limit the potential gains from being more proactive.

  3. Trading Flexibility

    Although the commodity element of your costs now makes up a smaller portion of overall spend, this is the element we can influence the most through active trading. Access to supplier trading desks, the ability to refloat volume and the size of tradeable clips are some of the things that should be considered to maximise trading flexibility. Some suppliers will also charge trading transaction fees which can result in additional costs over the duration of the contract so these should be factored into supply contract negotiations. Your preferred trading strategy should also be considered to ensure you’re your contract offers you the required level of flexibility.

  4. Volumes

    When tendering a flexible energy supply contract, including accurate volume forecasts will enable a supplier to provide the most suitable contract offer. Some suppliers will apply a volume tolerance to a supply contract and set limits on reforecasting. So if there are any planned or known volume changes due occur in the future it is important to consider these. Having accurate trading volumes in place from the start also enables effective buying strategies to be implement from a trading and budgeting point of view.

  5. Administration

    When choosing a supplier to renew with it is important to consider your requirements relating to payment terms, invoicing and data access. Some suppliers can be more flexible than others regarding invoicing and payment terms, and certain factors such as credit can impact on the options available. There are also variations in what a supplier can offer in terms of data access. Whether this is access to consumption data or invoices via a dedicated contact or via an online portal.

  6. Negotiation & Analysis

    Suppliers will charge specific fees for managing a contract and offer different premiums for renewable energy for example. Therefore it’s vital to analyse supplier offers on a like-for-like basis to ensure you secure the most competitive contract available. Tender negotiations should consider all aspects of a supply contract to achieve the best contract terms in line with your requirements. The main aim is to procure a competitive contract with a supplier that meets all of your day to day needs whilst offering trading flexibility to suit your strategy.

 

Click here to find out how our Flexible Energy Procurement solutions can transform your electricity and gas buying strategies.

5 ways to proactively manage your non-commodity costs

Taking proactive control of your consumption is as crucial as buying at the right time. There are a variety of options to help manage and mitigate the impact of these charges to your business. Here we explore our top 5 tips to better manage your non-commodity charges.

  1. Choose your energy contract wisely
    It’s important to think carefully about your non-commodity costs when securing your energy supply contract. There are many options available ranging from fully fixed to pass-through. It is important to make sure you’re comparing apples with apples when assessing contract offers and that you ensure you know which option best suits your business before committing to a contract. It’s vital to consider your wider energy strategy, a fully fixed contract could limit the potential gains from being more proactive.
  2. Better understand your energy data
    Unlock the true potential of your energy usage. Gathering data is one thing, translating and interpreting it is another. An Intelligent Bureau uses clever analytics, algorithms, and artificial intelligence programming to unearth serious business insights that turn your site into an intelligent building, delivering powerful savings, and uncovering new and previously unexplored opportunities for additional revenue. Practical solutions could include a kVa capacity review or reactive power analysis to undercover the need for power factor correction equipment.
  3.  Install the right technology to future proof your business
    Transform your data into real-time insights; saving carbon, energy, and other operational costs. Intelligent Building Controls can potentially deliver 20% savings on your operating costs with an ROI under 12 months. Plus additional infrastructure such as wind, solar, battery storage and LED lighting can also help to reduce your usage, cut costs and support net zero carbon targets.
  4.  Start to load shift and load shed
    Reduce inefficiencies in performance by managing out of hours’ consumption and shifting or shedding consumption when prices are greatest at certain times each day. Around 10,000 UK firms could make around £20,000 a year in cost savings or revenue by moving or curtailing power use at peak times, according to 2017 analysis by SmartestEnergy.
  5.  Take advantage of Demand Side Response (DSR) opportunities
    You can get paid if you’re able to reduce consumption from the electricity grid at busy times when the national demand for energy is at its peak or to help National Grid manage system frequency. There are plenty of schemes on offer so you’ll need to decide which is the right fit for your organisation and how best you can react when you need to manage your demand levels. It’s easier if you have Intelligent Building Controls and back-up generation or storage to support your strategy.