1 With the compliments of EDF Energy Electricity Buying EDF Energy Limited Edition It's easier when you know how
2 Making a world of difference Choosing the right energy contract can make a world of difference to your business. On the other hand, so can cutting your energy use. To really make a difference, you need the best of both worlds. Providing a wide range of energy supply contracts for our customers has helped us grow to supply more power to British business than any other energy company*. As you ll see in this guide, wholesale electricity costs are highly volatile which makes the support we provide our business customers all the more important. One example is our Market Insight service providing daily reports and analysis of current wholesale energy costs to help our customers make more informed purchasing decisions. Log on at edfenergy.com/marketinsight. Perhaps that s one reason why EDF Energy is also rated number one for customer satisfaction by UK businesses**. Of course getting a good deal for your energy is only half the story. We also provide a great range of energy saving options that deliver long term cost savings and carbon emissions reductions. See how we can help your business save today to save tomorrow. *source: Datamonitor B2B market share data: ** source: Datamonitor Major Energy User Customer Satisfaction Survey: 2009
3 FOR DUMmIES By EDF Energy A John Wiley and Sons, Ltd, Publication
4 Electricity Buying For Dummies Published by John Wiley & Sons, Ltd The Atrium Southern Gate Chichester West Sussex PO19 8SQ England For details on how to create a custom For Dummies book for your business or organisation, contact For information about licensing the For Dummies brand for products or services, contact Visit our Home Page on Copyright 2010 by John Wiley & Sons Ltd, Chichester, West Sussex, England All Rights Reserved. No part of this publication may be reproduced, stored in a retrieval system or transmitted in any form or by any means, electronic, mechanical, photocopying, recording, scanning or otherwise, except under the terms of the Copyright, Designs and Patents Act 1988 or under the terms of a licence issued by the Copyright Licensing Agency Ltd, 90 Tottenham Court Road, London, W1T 4LP, UK, without the permission in writing of the Publisher. Requests to the Publisher for permission should be addressed to the Permissions Department, John Wiley & Sons, Ltd, The Atrium, Southern Gate, Chichester, West Sussex, PO19 8SQ, England, or ed to or faxed to (44) Trademarks: Wiley, the Wiley Publishing logo, For Dummies, the Dummies Man logo, A Reference for the Rest of Us!, The Dummies Way, Dummies Daily, The Fun and Easy Way, Dummies.com and related trade dress are trademarks or registered trademarks of John Wiley & Sons, Inc. and/or its affiliates in the United States and other countries, and may not be used without written permission. All other trademarks are the property of their respective owners. Wiley Publishing, Inc., is not associated with any product or vendor mentioned in this book. LIMIT OF LIABILITY/DISCLAIMER OF WARRANTY: THE PUBLISHER, THE AUTHOR, AND ANYONE ELSE INVOLVED IN PREPARING THIS WORK MAKE NO REPRESENTATIONS OR WAR- RANTIES WITH RESPECT TO THE ACCURACY OR COMPLETENESS OF THE CONTENTS OF THIS WORK AND SPECIFICALLY DISCLAIM ALL WARRANTIES, INCLUDING WITHOUT LIMITATION WARRANTIES OF FITNESS FOR A PARTICULAR PURPOSE. NO WARRANTY MAY BE CREATED OR EXTENDED BY SALES OR PROMOTIONAL MATERIALS. THE ADVICE AND STRATEGIES CON- TAINED HEREIN MAY NOT BE SUITABLE FOR EVERY SITUATION. THIS WORK IS SOLD WITH THE UNDERSTANDING THAT THE PUBLISHER IS NOT ENGAGED IN RENDERING LEGAL, ACCOUNTING, OR OTHER PROFESSIONAL SERVICES. IF PROFESSIONAL ASSISTANCE IS REQUIRED, THE SERVICES OF A COMPETENT PROFESSIONAL PERSON SHOULD BE SOUGHT. NEITHER THE PUBLISHER NOR THE AUTHOR SHALL BE LIABLE FOR DAMAGES ARISING HERE- FROM. THE FACT THAT AN ORGANIZATION OR WEBSITE IS REFERRED TO IN THIS WORK AS A CITATION AND/OR A POTENTIAL SOURCE OF FURTHER INFORMATION DOES NOT MEAN THAT THE AUTHOR OR THE PUBLISHER ENDORSES THE INFORMATION THE ORGANIZATION OR WEBSITE MAY PROVIDE OR RECOMMENDATIONS IT MAY MAKE. FURTHER, READERS SHOULD BE AWARE THAT INTERNET WEBSITES LISTED IN THIS WORK MAY HAVE CHANGED OR DISAPPEARED BETWEEN WHEN THIS WORK WAS WRITTEN AND WHEN IT IS READ. Wiley also publishes its books in a variety of electronic formats. Some content that appears in print may not be available in electronic books. ISBN: Printed and bound in Great Britain by Page Bros, Norwich
5 Introduction You may be new to electricity buying, or you may have been in the business for decades. Either way, you are likely to find the task to be a challenging one these days. Energy prices are more volatile than ever. Just when you think you ve seen everything, the market takes a dizzying new turn. How can you be sure you re getting the best deal for your company? How can you prepare your company for the market s wild fluctuations, making informed decisions so you re less likely to pay too much? About This Book Electricity Buying For Dummies is a handbook for those navigating these daunting waters. We ll take a look at how the business has changed, and why. We ll explore what s behind the pricing volatility that has caused untold indigestion among energy buyers in recent years. We ll outline some of the strategies for mastering the new reality. And we ll take a look at how carbon reduction schemes will impact energy buying. Foolish Assumptions In writing this book, we ve made some assumptions about you. We assume that:
6 2 You are an energy buyer, by choice or by default perhaps new to the role, maybe a veteran pining for the simpler days of yore (or not all that long ago). You re in need of some new strategies for making sure your company gets the best electricity deals, both today and tomorrow. You want to be sure your company is ready for the new challenges carbon trading will bring to energy buying. How This Book Is Organised Electricity Buying For Dummies is organised into seven distinct sections: Part I: Electricity Buying in Today s Market. We summarise how the energy business in the U.K. has changed in the past two decades, and examine how energy buying has been affected. Part II: A Menu of Electricity Contracts. We take a look at some of the contract options available to energy buyers. Part III: Risky Business. We detail the volatility common in today s energy market, and explore ways to reduce your company s risks. Part IV: Best Foot Forward. We discuss how to be the most attractive customer when you re seeking bids, and how to form a strong partnership with your supplier.
7 Part V: Counting Your Carbon. We look at the carbon emissions content of your power and discuss how carbon reduction targets and legislation will impact energy buying. Part VI: Ten Ways to Prosper in the New World of Electricity Buying. We share the secrets to succeeding in today s volatile environment. Part VII: Glossary. For those not completely fluent in the terminology of energy buying, we offer a helpful list of definitions. Icons Used in This Book To make navigating to particular information even easier, you ll find these handy icons highlighting key text: 3 Make a special note of these sentences, because they re particularly important (even if you skip some of the other paragraphs). This is a piece of advice that will help you understand the topic better and achieve more success in energy buying. You don t really have to understand these details, but they just might be of interest to you. Here s a caveat that might save you or your company some trouble or some money.
8 4 Where to Go from Here This is a short book, and you ought to be able to make your way through in no time. But we won t be offended if you don t. Feel free to skip around and find the parts that interest you the most, and use the headings to help you find what you need.
9 Part I Electricity Buying in Today s Market In This Chapter Understanding the evolution of electricity buying Learning the ropes as a buyer Negotiating the business of buying Linking up the electricity supply chain If you ve had a long career in the energy buying business, you ve witnessed a tremendous evolution in the way that power is bought and sold in the United Kingdom. It was only about two decades ago that the energy market was government-owned and highly regulated. Today, electricity is a commodity, traded in a manner not all that different from gold or oil. All home and business customers can choose their electricity supplier. U.K. companies may pick from seven major suppliers and a few smaller ones. There are some 170 power stat ions that are part of the wholesale market, and 43 medium-to-large power generators,
10 6 all plugged into a national grid that matches supply with demand. What Has Happened to the Electricity Industry? The market began its move toward today s structure around Before then, the government owned most of the country s generation plants, and government monopolies oversaw distribution as well. Customers could not negotiate the price of their electricity supply because they had no choice in providers. The price was relatively stable more so than today but the government felt it was too high and that efficiencies could be made in the market to benefit consumers. The road to privatisation Privatisation and transformation to a competitive market was seen as the answer. For the first decade, a wholesale market called The Pool facilitated the competition. Generators sold power into The Pool, competing on wholesale price, and suppliers purchased the power out of The Pool on behalf of their customers. Prices gradually declined through this competitive scheme. More restructuring came in 2001, driving prices even lower through the creation of greater competition among generators. The one-price-for-all system maintained by The Pool was replaced with a commodity market under the New Electricity Trading Arrangement. Not only did the change result in generators and buyers negotiating prices more directly, it
11 7 also brought new buyers into the market, including speculative traders who were not in the business of producing or supplying electricity. Volatility on the rise Though the 2001 restructuring was followed by more reductions in the wholesale price in power, the trend reversed only a few years later. Wholesale prices began to rise dramatically as supply-and-demand pressures brought new volatility and the price of electricity rose to reflect the increasing price of the gas often used to generate it. Between 2003 and 2006, wholesale gas prices rose by more than 250 per cent, and wholesale electricity prices jumped nearly as much, according to the research firm Heren Energy. In 2008, prices rose and fell by 80 per cent. These volatile market prices can be seen in Figure 1-1. /MWh Gas Electricity Jan Jul 2006 Jan 2006 Jul 2007 Jan 2007 Jul 2008 Jan 2008 Jul 2009 Jan 2009 Jul 2010 Jan Figure 1-1: UK wholesale electricity and gas prices
12 8 The Government s Role in the Energy Market The energy business in the U.K. is regulated by Ofgem, the Office of the Gas and Electricity Markets. The office is all about protecting consumers by promoting competition, but also providing appropriate regulation of the monopoly companies that operate the country s electricity and gas networks. Other governmental entities with a hand in the energy business include: The Department of Business, Innovation and Skills The Department of Environment, Food & Rural Affairs, the official protector of the environment. The Department of Energy & Climate Change, formed in 2008 to consolidate the energy responsibilities of the two previously listed departments. This volatility has driven the need for a more strategic approach to energy buying for business and making the roles of the energy buyer and energy manager all the more important. Nobody wants a price shock at the end of a contract! The Evolving Role of the Energy Buyer Oh, for the simpler days! The original focus of the energy buyer was price, which made it relatively
13 simple to discern the best deal. And as prices became ever-more competitive, with reductions across the market, price-focused energy buyers were overjoyed. These days, of course, price fluctuations are constant and sometimes dramatic, and the cost of electricity is determined by a combination of factors. It is more difficult than ever to predict the best time to go to market. Another new challenge for energy buyers, especially of large energy users, is ensuring that their company s energy consumption is not far off the amount of energy that was forecast they would use when they signed their supply contract. Those that stray significantly from their original forecast may incur additional charges as energy suppliers seek to recoup the costs of managing these variances in the wholesale markets. Tools of the trade The job may be more difficult than ever, but today s energy buyers have many tools at their disposal that enable cost-effective energy procurement. Different types of sites in their portfolios are metered differently. Larger sites have half-hourly metering (also known as HH) or if they re smaller users (normally less than 100 kilovolt-amps or kva) they may stick with non-half-hourly metering (that s NHH for short), whichever seems the most appropriate for the particular situation. HH meters are read electronically every half hour. Conventional NHH meters are read manually only once a month or once a quarter. However, these are being phased out to be replaced by Automated Meter Readers (AMR) that can function much like half hourly meters. 9
14 10 With energy now more of a commodity, buyers can examine more precisely the various components that make up their electricity bill, and take charge of those components. About three quarters of that final bill is typically the actual cost of the energy, while the remainder covers elements such as the cost of transporting the energy from the source to the point of use across both the national grid and local distribution network systems. Figure 1-2 illustrates this. Energy 75% Figure 1-2: Electricity Costs BSUOS 2% Renewable Obligation 5% Elexon 1% Hydro Levy 1% Shape & Volume Risk 1% Margin 2% Transmission Losses 1% Distribution Losses 3% Distribution Charges 4% Transmission Charges 5% A roadmap toward a new energy contract In this more complicated market, here are some of the first steps that you as an energy buyer must take to pursue a new contract:
15 Collate a full record of all sites that will be covered. 11 Divide those sites into two groups: HH and NHH sites. Your current supplier should be able to help identify your HH sites and provide annual HH data for all applicable sites. Total-up the consumption and cost for each group. Expect your supplier to talk about your credit worthiness and how this affects the payment terms you may be offered. Ask your current supplier for any materials that might help in understanding energy and procurement. Determine a realistic view of what you hope to achieve with regard to energy reduction and control. Check with your supplier to learn about other products that might help manage and reduce energy consumption. Look at the terms and conditions, service levels, and customer satisfaction price is not the only consideration. Determine your energy supplier options and consider approaching other suppliers. Learn more about the suppliers you re considering, including their commitment toward energy usage reduction and the ways they can assist.
16 12 Energetic Energy Supply Chain Electricity is something most people just take for granted you switch on a light and the bulb glows, you plug in a television and The X Factor fills the screen. Few people think about how that energy travels from its birthplace to the place where it s used. Fortunately for modern society, thousands upon thousands of people do think about the electricity supply chain 24 hours a day, every day of the year. What goes on behind the power socket is complicated. Start to finish The supply chain begins at the point of generation, power plants that typically are powered by nuclear, gas, coal, water or even wind. There are around 170 power stations across the U.K, though a large share of the generation takes place in the north, where most of the coal once came from. Power station operators are of course affected by the international commodity markets for their feed stocks, such as coal and gas. From the power plant the electricity moves onto the national grid. The national grid is a cross-country transmission network consisting of nearly 24,000 kilometres of transmission cables. From the national grid the power makes its way onto local distribution networks owned by DNOs, short for distribution network operators. The 14 DNOs are owned by seven companies, which maintain more than 665,000 kilometres of distribution cables. You will be connected to one of these cables.
17 13 At the end of this cable will be your meter. This meter has a unique registration number called an MPAN, (shown inf Figure 1-3) which identifies it among all the other meters in the U.K. To ensure that your meter does its job accurately you must appoint a meter operator (known as the MOP) to maintain and service your meter regularly. SProfile Class Meter Time Switch Code Line Loss Factor Host Rec MPAN Core Figure 1-3: Meter Point Administration Number Check Digit Also playing a role in managing your metering data is the data collector (the DC), which uses a telephone modem to read your meter every day and download your HH data that s 48 half-hourly readings. This information is then sent to the data aggregator (the DA), which makes sure the data is complete with no gaps or errors before passing it along to the supplier, from which you get your monthly bill. Even though you get just one bill from the supplier, the energy supply chain works with the help of a number of settlement processes that take care of all usage, including all regulated charges. These charges include the cost for using the national grid (you may see this called TUOS, short for the transmission use of system
18 14 charge) and the distribution system (the acronym here is DUOS, or distribution use of system). Your HH data works its way through the settlement system, and the supplier pays the NGC and DNO for the use of their systems. The supplier also has to pay for the energy it buys for you, so ultimately, the power stations get paid as well. And then, of course there are taxes, such as VAT and the Climate Change Levy. Meanwhile, metering costs are paid by you to the appropriate MOP (that s a meter operator, not a floor cleaning device). What s left? Not a whole lot, really. It s the supplier s margin, which tends to be quite low. The Business of Buying If energy buying were as simple as purchasing food at the market, there would be no need for a guide like this. Buying energy is more like buying other commodities, which seems simple enough how much is procured depends upon how much you need, when you re going to use it and for how long. In reality, even though energy is traded like a commodity, buying power can be a lot more complicated because electrical energy cannot be stored like other commodities. What s in your energy bill? That price displayed on the electric bill actually is the sum of many components. The great thing is, you can negotiate the price of some of those elements.
19 15 Let s go back to the market for a minute and imagine a can of beans on the grocery shelf. A large part of the price covers the beans themselves, but you also are paying for the preparation and packaging of the beans, the delivery of the can to the store, and the shopkeeper s overhead and profit. You pay one price to the cashier, and all of the players get their cut. The suppliers margin is essentially the label. With electricity, you pay the electric supplier that sends you an invoice, and that payment gets divided as it works its way backward through the supply chain. Delivery of that electricity makes up a significant part of the total charge. You re paying something to use and maintain the national grid as well as the local distribution network and the industry s shared systems. The price for all of this is regulated and fixed, and is thus non-negotiable. Though it s fixed, it does vary by area and location. For example, national grid costs may be higher if you re in the southwest, because most of the generation happens up north and thus the energy must be transported across a greater distance. Meanwhile, your supplier gets a cut of the bill, too, though it s relatively small as little as one or two per cent, depending on the size of the contract. Some may also go to pay your energy broker or consultant if you use one. The rest covers the commodity cost of the electricity you re buying. This is not only the majority of the bill it s also the most volatile component, causing the most potential trouble when it comes to trying to stay within budget.
20 16 High volume, low margin, high risk The delivered price of your energy is supported by having the suppliers lock in forward contracts that protect them against volatile market conditions. Such contracts are needed because energy is a featureless commodity, traded in large volumes but with high risks and low margins. If you re buying for a large site or multiple sites, you ll benefit from portfolio contracts with your suppliers. You ll need to engage with the suppliers to review your options, but the real key in getting the most appropriate price is your certainty in the level of consumption you ll have in the future. The less certain you are, the more risk there will be for the supplier, and that means a higher price. You ll be well-served by a good set of energy consumption forecasts. One thing you ll notice if you re buying for a variety of sites is that there are different price options and formats for each market and location. For example, there may be a different price for each HH site unless the HH site contracts are bundled. If you buy your energy through a flexible contract, you can negotiate with your supplier on management fees, calculate what the fixed costs will be, then devote your attention to managing the commodity cost of the electricity. This takes a solid understanding of the various factors that drive the commodity price of electricity, as well as how your contract is written.
21 17 Be ready to act quickly As you can see, there are a lot of pieces to the puzzle, and many of them come with fixed, non negotiable prices. The biggest chunk, though, is also the most volatile: the wholesale energy prices. Those are liable to change daily, and it s common for them to change periodically during the day, too. The wholesale price on the market can change on a daily basis, so there s no hanging around. To get the price you want, you must be ready to accept an offer quickly, in some cases, within a few hours.
22 Part II A Menu of Electricity Contracts In This Chapter Fixing the price Choosing flexibility Making choices Seeking expert assistance Dining out wouldn t be much fun if you couldn t choose a meal that s right for you. You want a menu that s broad enough to satisfy everyone in your party. Likewise, when you re buying energy you wouldn t be well-served by a one-size-fits-all approach. You need a menu with options that fit your budget as well as your appetite in this case for risk. Fortunately, you have choices, plenty of them. You can decide to fix your price for the duration of the contract some people sleep better at night with that kind of predictability. Or you can choose any of a number of flexible contract options. Given the wealth of choices, there is plenty of temptation to move your portfolio when it s contract time. Just be sure to consider the
23 19 costs of moving. Check your incumbent supplier provides you with correct data, and that your new supplier can register you on time. Ordering Prix Fixe A little surprise now and then can make life interesting, but when it comes to money matters, surprise is not always welcome. And let s face it owners of small to mid-size businesses have enough to worry about without having to think about their power rates spiking. Smaller energy diets Fixed price contracts are for these kinds of customers. They re exactly what the name implies: contracts that allow customers to fix the price for electricity and then stick with it for a predetermined period of time, typically anywhere from six to 42 months. These kinds of contracts are especially suited for (but are in no way limited to) customers who don t use large volumes of electricity generally less than 10 gigawatt-hours (GWh) a year. How much power is that? Well, a small supermarket will use roughly 1 GWh a year, while a large department store on London s Oxford Street could consume around 5 GWh annually. Fixed price contracts are geared for buyers who have a low appetite for risk, companies that want to fix their budgets and costs. This also includes many very large energy users, such as water utilities and train operators.
24 20 Energy suppliers are willing to enter into these deals ensuring a good price for a longer term because it helps them plan too. They know you ll be a customer for that period of time, and can forecast the amount of electricity you ll need (normally based on how much you used last year), so they can line up sources for your energy well in advance. They receive benefits for doing so, and they can pass those benefits on to you, the customer. Your business is probably used to using as much or as little electricity as it so desires with little consequence. In future using a significantly different amount of energy to what was originally forecast in your energy supply contract could prove expensive. That s because managing these unplanned swings in energy consumption can be costly for energy suppliers and many are now beginning to recoup these unforeseen costs from those customers. Don t neglect the details When you re considering a fixed price contract be sure to check what s included in the price so you won t be surprised. Also, read the fine print to understand the terms and conditions, including the details about when the prices can be changed. And make certain you understand the termination obligations, as well as how the contract can be renewed if you so choose. Comprehending all of these details is important not only for your long-term satisfaction as a customer, but also is critical when you re evaluating bids from a
25 21 number of suppliers. If one supplier has prices that seem quite a bit lower than others, there may be some exclusions that account for the difference. One important thing to consider that almost goes without saying: You ll be happiest with your fixed price contract if the price you fix is a good one. Do what you can to sign on when the market is low and fix the price at the low rate. The Flexible Approach We ve already discussed how volatile energy costs have become in recent years and that for companies that count energy as a big part of overhead, the volatility can be a significant risk. You can think of it like the stock market, but in fact the stock market tends to be more stable than the wholesale price of electricity. One study found that an organisation consuming 240 GWh of electricity in 2005 might have paid anywhere from 4.5m to 10.2m, depending upon the timing of their purchases. Clearly, that can make quite a difference in a company s financial situation. Flexible (aka floating) contracts can spread electricity purchases according to a price risk management strategy. This helps manage market volatility risk and keep energy buying in line with budgets. However, flexible contracts do not guarantee savings and speculative energy buying should be avoided! Basically, flexible contracts provide you the ability to make your own decisions regarding when to buy your electricity, and how much, depending on the prevailing market price.
26 22 It sounds simple but it isn t, really. It takes a lot of experience and technical expertise to manage these kinds of contracts well, which makes it important to do business with a provider that can offer such expertise and explain the contracts in a way that helps you prepare for this kind of energy purchasing. You need to have access to market data and the right information at the right time and be prepared to make decisions quickly so you can react accordingly to changes in the market. There are a couple of primary purchasing strategies designed to make the most of a flexible contract and keep your energy costs to a minimum. One is to make your purchases according to a pre-defined schedule, and the other is to base your decisions on certain market triggers. For example, you may choose to make purchases on a monthly basis, buying your electricity as a purchasing deadline approaches each month. This is known as the rolling monthly lock-in, and it s an alternative to simply buying all of your energy at the beginning of the contract year for the price that s available then. A variation on this strategy is a progressively hedged rolling monthly lock-in, where your monthly purchases are made in several blocks to hedge the price of each block against future price rises. Strategies tied to market triggers include a stop-loss plan, where your company sets an upper limit on the price. If the price hits that limit you lock the price for the remainder of
27 23 the month or season to protect against even higher rates. Companies with more appetite for risk may try a strategy known as lock/ unlock per block, which aims to benefit from market volatility. At its best, this concept allows you to lock-in blocks of electricity when rates are low, unlock and sell the blocks back to the market when rates are high, and then buy them back when the market drops again one hopes below the original price of the blocks. However, there s always the risk you may lock-in too high and then the rate drops. More Choices to Make Both fixed-price customers and those lining up flexible contracts may choose deals that are fully inclusive, with a set price that builds in all of the costs that go into getting electricity to your meter. Or there may be variations, such as an energy-only contract that fixes the cost of the energy which is the bulk of what you pay but passes through the distribution and transmission costs. Depending upon the type of meters you have and the amount of energy you use, you might arrange a contract with a single fixed rate, or it might establish two rates that are in effect at different times, such as day and night. Your contract may include seasonal time of day rates- known as STOD, which have high winter peak rates. If you are able to cut your usage during these winter peak times, you may save yourself some money. Any of these options are possible provided your company uses half-hourly metering.