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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, 1 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. 1 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.