Download Attachment 9.6B Retail Contracts - Which duration and what terms

Attachment 9.6 B
21st March 2014 (NSW)
Retail Contracts – Which duration and what terms?
Contract Duration
Two questions that often arise in discussion with Customer‟s are “When should I go to market?” and “How far
forward should I contract?” There are no hard and fast answers to these questions, but our experience at
Energy Action does provide some clear indicators as to the best practise approaches to procurement that
consistently deliver the most advantageous customer outcomes.
On market timing, leaving it to within six months from the end of your current contract doesn‟t always get the
best result. As the current contract expiry date draws nearer you have less time in which to make a decision,
and the retailer has less time in which to hedge your load. The result can be that prices offered towards the
end of your current contract aren‟t always as good as they could be. To be safer, aim to go to market whilst
your current contract has six months or more to go.
On the question of how far forward you should contract there are a number of things that we can say. Firstly,
one year is commonly believed to be too short. Customers find it disruptive to go through the purchasing
process annually. Also, for a Retailer one year doesn‟t go very far in building a future load book and
therefore short contracts typically do not generate the most competitive pricing offer.
Secondly, four years and over is commonly too long. Retailers can have difficulty sourcing generation four
years out which can result in either a reluctance to quote or the inclusion of a risk premium that makes the
deal unattractive. Nonetheless, if you were offered a four year deal you should examine it carefully, and if it
is at an attractive price over the whole term of the contract, it should be seriously considered.
That leaves two to four years as the most practical current contract lengths. Up until the introduction of the
Carbon Tax it was common to see contracts in the 2.5 to 4 year range. These met the needs of both
customers and retailers for a contract length that was neither too short nor too long. With introduction of the
Carbon Tax contracts shortened as uncertainty increased about how and when the Tax would end.
Since then the uncertainty surrounding the Carbon Tax has remained, but the means for managing that
uncertainty has improved substantially (see below). As a result we are seeing the retailers‟ appetites for 3
year contract lengths returning, so look out for good offers of around about this duration.
Carbon Pricing
The Carbon Tax is legislated under the Clean Energy Act which was passed in 2011. Since then both the
government and Labor Party have stated their determination to either abolish it or accelerate the transition
from a fixed price regime to a trading based scheme.
Because of the way that the Carbon Tax was created it can‟t be changed without passing a vote in both the
House of Representatives and in the Senate, and that‟s currently an unresolved issue given the balance of
power is different in each house. Given the ongoing uncertainty around Carbon Tax, mechanisms have
evolved that minimise the impact of carbon in electricity contracts.
For the last 8 months almost 100% of the businesses that have engaged via Energy Action for new energy
contracts have opted for carbon exclusive contracts. The option for carbon exclusive contracts became
available early in 2013. We believe this is true for the market as a whole, and we see no signs of it changing.
Under a carbon exclusive contract the customer pays the tax at the legislated rate, and knows that if the tax
is abolished then all of the reduction in price will flow through to them. This is the reason for the almost
exclusive use of carbon exclusive contracts that we see.
Whatever the customer‟s contracting strategy, uncertainty about carbon pricing should not be a concern as
carbon exclusive contracts act to remove this uncertainty.
Important Information. Electricity prices are volatile and can change frequently and significantly over time. As a customer of Energy Action you must
accept that Energy Action Pty Ltd („Energy Action‟) cannot predict the future direction of electricity prices with certainty. Where Energy Action provides
information on historical market data, Energy Action will provide details of the source of this data on request. Energy Action Pty Ltd is authorised to provide
financial product advice on electricity derivatives to wholesale clients under the Corporations Act 2001. AFSL No 362843. In providing information and
advice to you, we rely on the accuracy of information provided by you or your company. To the extent permitted by law, Energy Action is not liable to any
person or company that relies on the information provided in this document including any inaccuracies, omissions or other deficiencies contained within it.
Current Market Conditions
Recent press coverage has publicised a number of seemingly inconsistent views about the level of electricity
prices. On the one hand the government‟s long standing position is that electricity prices are too high and its
stance on abolition of the carbon tax is the most prominent policy response to this issue. Alternatively, the
generation sector is becoming increasingly vocal in stating that the prices that it earns are unsustainable,
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with Energy Australia claiming that half of the sector cannot cover its cash costs at current prices . To make
some sense of what is really happening let‟s look at each component of the typical electricity bill.
Network charges typically make up the largest component of the business customers‟ electricity bill
accounting for 50% - 70% of the total cost. Network costs have increased substantially over the last five
years and this has been the source of much of the increase in delivered electricity prices. Fortunately the
rate of increase for network costs is now slowing to typically the 1-2% per year level. These costs are
regulated and electricity consumers cannot negotiate the network component of their bill. As a result network
costs should not influence a customer‟s decision on when to go to market or on contract duration.
Energy costs typically account for 25% to 40% of the business customers‟ electricity bill. As the graph below
shows, in NSW these costs have declined steadily in real terms and are now at their lowest point for at least
eight years. Whilst the high prices evident in 2008 were largely a result of drought conditions affecting the
generation sector, the continuing fall in prices is a result of increased energy efficiency across the economy
as well as the contraction in manufacturing output which has resulted in overcapacity in the supply market.
The generation sector has responded to the fall in prices by withdrawing in excess of 3,000MW of plant
across the NEM over the last two years and this trend is expected to continue which will result in an
inevitable increase in pricing as the supply and demand ratio corrects. The fossil fired generators have also
called for a reduction in subsidies for renewable generation which the government is likely to deliver when it
completes the review of renewable subsidies later this year.
Source: Energy Action contracted calendar year rates for business customers.
The final components of the electricity bill are Carbon Tax, renewables charges and other fees. Of these the
Carbon Tax is by far the largest at 8% - 15% of the total. Most electricity contracts now contain carbon as a
pass through item which is likely to either dissappear or reduce very significantly by the end of June 2015.
Renewables and other market charges make up typically less than 8% of the bill
What this means for business consumers
The largest component of the electricity bill over which you have control is the energy component. With the
rate of decline in energy costs slowing in the last twelve months we consider this to be a sign that prices are
near their bottom and now is a good time to lock in your next electricity contract.
To make the most of the current low rates a contract term of around 3 years would be appropriate if rates
offered are relative across the terms of the contract.
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Political tinkering puts electricity market at `breaking point' The Australian 24/02/2014
Important Information. Electricity prices are volatile and can change frequently and significantly over time. As a customer of Energy Action you must
accept that Energy Action Pty Ltd („Energy Action‟) cannot predict the future direction of electricity prices with certainty. Where Energy Action provides
information on historical market data, Energy Action will provide details of the source of this data on request. Energy Action Pty Ltd is authorised to provide
financial product advice on electricity derivatives to wholesale clients under the Corporations Act 2001. AFSL No 362843. In providing information and
advice to you, we rely on the accuracy of information provided by you or your company. To the extent permitted by law, Energy Action is not liable to any
person or company that relies on the information provided in this document including any inaccuracies, omissions or other deficiencies contained within it.