Utilities market turbulence
The collapse of GB Energy Supply over the weekend reveals the inherent dangers for smaller entrants into the UK’s highly-competitive utilities market and has left the Company’s customers in a precarious position.
To engender confidence in the market, Ofgem has moved quickly to reassure domestic customers stating that:
- They will not be cut off;
- That credit balances will be protected;
- That they will be switched to a new supplier.
While GB Energy Supply customers will get their credit balances back – thanks to an Ofgem process instigated one month ago – an immediate issue is that customers will be put on “deemed rates”.
Deemed rates apply when customers don’t have an active contract with a supplier for the energy supplied.
These are potentially even higher than Standard Variable Rates (SVR), so much higher than the cheapest tariffs available.
What about small businesses?
Small business customers are much more vulnerable as their credit balances aren’t protected in the same way.
They should therefore investigate switching to a more competitive rate as soon as possible.
Given that wholesale prices have been rising this year, unfortunately it’s likely to be at a higher rate than their GB Energy Supply price.
What does this say about the UK’s utilities’ market?
There have been prolonged rumours of supplier weakness in the market for some time.
Dynamic and fast-growing new entrants typically enter the market when wholesale prices fall and existing suppliers have hedged at higher prices.
When wholesale prices rise, as has been the case since January, this cost advantage is eroded and smaller suppliers struggle.
It’s not just wholesale prices that have been rising. We have also seen higher and “spikier” balancing prices exacerbated by the closure of coal generation.
These markets are less liquid, and it is difficult for small retailers to manage these risks financially, and they lack generation assets to manage them physically.
Have increased switching rates impacted supplier hedging strategies?
With smaller suppliers now taking 15% of the domestic market, established suppliers have less certainty of the volumes they need to buy forward.
If this has reduced their forward purchasing, profits at some larger suppliers may also be hit by the rise in prices. Trading strategies may become an important differentiator, and larger suppliers are better placed to invest in the people, data and systems required to manage their wholesale risk.
Furthermore, they are also better able to manage their balancing risk by increasing flexible generation to meet demand. New suppliers are not vertically integrated in the same way as the “Big Six”.
At their simplest, the new energy retailers manage the billing relationship between their customers and Distribution Networks, National Grid and the Government, while ensuring that they purchase energy on the wholesale and balancing markets to meet their customers’ consumption.
Because future consumption is uncertain, they have to charge a premium to bear the risk of any difference between their purchases and actual consumption.
When prices were falling, new suppliers benefitted from not buying in advance, and ended up paying lower market prices. This approach does not work in a rising market, and heightens the risks of volatile prices.
Will this have an impact on switching?
GB Energy Supply offered the lowest prices on the market. They were lean and modern. But clearly they did not charge enough to cover the risks that they faced.
With other suppliers offering low prices to attract new customers, the possibility of a similar situation repeating itself cannot be discounted.
While energy is considered a commodity, price should not be the only factor in choosing a supplier. Customers should consider service, billing, financial stability and increasingly product innovation.
The value of flexibility is increasing, and suppliers without flexible generation may struggle. Retailers and consumers can work together to provide flexibility by controlling demand or investing in battery storage.
New suppliers have an important role in bringing new ideas and innovation to the energy market, and consumers should not be put off from switching.
However, low prices will not be enough for new entrants to succeed – product and technological innovation can bring a different approach to help them to manage their risks, and in doing so can help to transform the energy market.