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Runs out of juice

Published: 30 November 2016
Sector: Energy

GB energy runs out of juice

Over the weekend, Preston-based energy supplier GB Energy Supply Limited (“GB Energy”) announced that it was going into administration. Its c160,000 customers have been assured by Ofgem that their energy supplies will not be cut off, and that their accounts will be transferred to a new supplier (a Supplier of Last Resort or “SoLR”) once GB Energy’s supply licence is revoked (the so called “safety net” or “lifeboat”). In this case it has been announced that the SoLR will be Co-Operative Energy.

Customers’ existing pricing arrangements, along with the rest of their supply contracts, will not continue. Whilst any existing credit balances will transfer across for domestic consumers, the same does not apply for business customers, who will rank as unsecured creditors. On the plus side, post-transfer those customers will be allowed to shop around to secure the best deal from the market, and will not be caught by exit fees.

John Chandler explores the implications of an administration in the UKs changing energy market.

Some would argue that this first supplier insolvency to occur since 2008 is the inevitable result of the government’s push to have an increasing number of “challenger” suppliers enter the market to take market share from the Big Six, to boost competition. Those efforts have certainly borne fruit, with the number of suppliers now competing with the Big Six numbering over 30.

And on the face of it, those small suppliers have an inherent advantage, since any supplier with less than 250,000 customers is free of the administrative hassle associated with delivering some of the government’s social and environmental policies such as the Energy Companies Obligation (ECO) and the Warm Home Discount.

This means that start-ups can stay lean and mean, and by keeping their cost base low can undercut their larger competitors.

But their problem is that they typically don’t have easy access to wholesale markets to forward buy their customer’s consumption profiles, leaving them at the mercy of the half hourly imbalance charges administered by the central wholesale trading market. And unlike the Big Six, they typically lack a generation asset base which can provide a natural hedge when those charges rise.

Wholesale prices are now on an upward curve after recent lows, and changes last year to the methodology for calculating imbalance charges have provided sharper incentives on market participants to ensure contract cover for their physical positions.

Against this backdrop of potential price volatility on the wholesale supply side, the well worn path to market entry of offering cheap fixed price deals to the public was arguably always going to lead to trouble at some point. 

Perhaps no surprise then that GB Energy has been pushed over the edge, although it was already making losses – its 2015 accounts show a loss of £630,018.

Fortuitously Ofgem has very recently (October 2016) beefed up its procedures for dealing with insolvent energy suppliers; this is the first time these updated procedures are being put into practice.

Each electricity supplier agrees as part to its licence conditions, if requested by Ofgem, to take over responsibility for a failed supplier’s customers (i.e. to be a SoLR) once the failed supplier’s licence has been revoked.

Ofgem needs to be satisfied before doing so that the SoLR can supply the additional customers without significantly prejudicing its ability to continue to supply its existing customers and to fulfil its contractual obligations for the supply of gas or electricity.

It does this by asking both the failed supplier about its customer base and the other suppliers how they would deal with being a SoLR, supplying high-level aggregated information about the failed supplier’s portfolio. Ofgem also seeks information on the potential SoLR’s proposed deemed contract rate (i.e. the tariff that will apply by default to customers post-switch, until they sign a new supply contract), which can reflect no more than the reasonable costs of supply together with a reasonable profit. The provision of all this information is a regulatory obligation and can lead to enforcement action if a proper response is not received within the set timeframe.

Ofgem seeks out a volunteer SoLR, but if no suitable supplier wants to be a SoLR, Ofgem can direct a supplier to become one without its consent. It acknowledges that becoming a SoLR represents a significant logistical challenge with increased administrative costs. However, it argues that being a SoLR brings with it potentially valuable commercial benefits. It will not have the normal acquisition costs (such as paying commission to price comparison websites for winning new customers) and has the opportunity to convert onto its standard tariffs the customers it acquires as a SoLR.

Electricity and gas suppliers’ licences permit them to make a claim for otherwise unrecoverable costs that they incur in being a SoLR, which are paid for by a levy on gas transporters’ and electricity distributors’ Distribution Use of System (DUoS) charges.

Ofgem would however “prefer a SoLR not be make a claim via these arrangements for costs”, and will favour as SoLR appointees those who waive their right. Following the appointment of a SoLR that has not waived its right to make a claim, Ofgem decides on a case-by-case basis whether it would be appropriate for the SoLR to make a claim on the levy and whether the claim is reasonable. Presumably Ofgem will refuse to pay out if the claims are excessive.

Through increased DUoS charges the Big Six could be forgiven for being a bit disgruntled at having to bail out the the smaller competitors who have been taking the Big Six’s customer base from under their noses. And all the more so if and when those new customers jump ship at the earliest opportunity to another small supplier willing to chance its arm in a volatile market. Commentators might be forgiven for sensing a structural market weakness here.

The Competition and Markets Authority’s recent report on the state of the retail energy market included a State of the Market ‘remedy’, whereby Ofgem will publish an annual State of the Market Report that uses analysis to provide an effective assessment of the cumulative impacts of policy on the GB energy markets. The intention is to inform public debate and improve future policymaking.

However, it has to be doubtful whether Ofgem would want to use this very public platform to get involved in trying to regulate the wholesale trading positions of suppliers, assuming retail price controls are a thing of the past, of course. In any event, it is surely appropriate that suppliers – big or small - who make poor trading decisions should suffer the consequences.

Ofgem no doubt takes the view that in cases such as this its role is limited to ensuring there is protection in place to protect consumers, which arguably it has done through implementing the SoLR regime.

This may not be the last small supplier to cease trading in the current environment, although Ofgem has apparently said it is not aware of any similar cases. The fate of GB Energy’s customers will be watched closely to see how they fare through the SoLR process, and protagonists on either side of the fence will no doubt be marshalling their arguments to put continued pressure on Ofgem to level what continues to be perceived as an uneven playing field.
 

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