27 Date: 30 th June 2016 Subject: Report of: Energy Company for Greater Manchester Tony Lloyd, GM Interim Mayor and Steve Rumbelow, Lead Chief Executive for Environment PURPOSE OF REPORT Further to the paper presented at the December 2015 GMCA meeting, this report provides an update on investigating the potential for a GM Energy Company. Further `Commercial In confidence details of the work undertaken to date is included in a Part B report on the agenda due to the inclusion of information relating to the business affairs of other energy suppliers. RECOMMENDATIONS It is recommended that the GMCA: Note the content of the report and, in particular, the increasingly competitive nature of the UK energy supply market which impacts on the ability of GM to launch a viable supply business on a go it alone basis; Agree that further work should be focussed on the potential for GM to enter into a joint venture (JV) arrangement, in particular evaluating what the benefits and risks of such an arrangement would be. Agree that a further report should be presented to the GMCA in September. CONTACT OFFICERS: Julian Packer GMCA (j.packer@manchester.gov.uk)
BACKGROUND PAPERS: Energy Company for Greater Manchester GMCA:18 December 2015 TRACKING/PROCESS Does this report relate to a Key Decision, as set out in the Yes / No GMCA Constitution or in the process agreed by the AGMA Executive Board EXEMPTION FROM CALL IN Are there any aspects in this report which means it should be considered to be exempt from call in by the AGMA Scrutiny Pool on the grounds of urgency? AGMA Commission TfGMC Scrutiny Pool 2
1. BACKGROUND 1.1 Cornwall Energy (CE) was commissioned in July 2015 to deliver an options review for the establishment of a Greater Manchester Energy Company (GMEC). The options to be considered were:- a White Label (WL) company; a Fully Licensed energy supply company (FLSC); a hybrid approach with WL initially to be followed by a FLSC 1.2 The report was delivered in December 2015 and recommended that GM should establish a FLSC and that it could be created either on a go it alone basis (GIA) or via a joint venture (JV) with a licensed supplier which held aligned aims and objectives to those of GM. 1.3 Given the high level nature of the Cornwall Energy (CE) report, meetings with potential partner businesses, existing energy suppliers and other public sector bodies active in this area have been held to test the key assumptions made in that report, and to gauge the level of appetite in the market for a partner to support GM in setting up a new venture. 1.4 Work has also been carried out to investigate the performance of recent new entrants to the market and to understand the current levels of market competition. 2. KEY ASSUMPTIONS - MARKET TESTING A) Set-up Costs 2.1 The CE report set out estimated costs of establishing a FLSC including the collateral/credit line that a FLSC is obliged to have. 2.2 From the discussions held with fully licensed supply companies it appears that these costs, given recent market changes, in practice could be significantly higher. 2.3 GM would therefore have to make available and put at risk a very significant amount of collateral/funding to pursue the fully licensed supply company option. B) Local Authority Supplies 2.4 A key assumption made in the Cornwall Energy report was that all of the GMCA estate s requirement would transition to be supplied by the GMEC. 3
2.5 Given the significance of the total energy spend, the GM estate accounted for the majority of the assumed customer volumes in the first 3 years and this, in turn, reduced the length of the initial loss-making period once the GMEC was established. 2.6 However, all of the local authorities competitively procure their energy contracts and typically price accounts for the majority of the tender evaluation. This requirement would only fall away if the GMEC was 100% public sector owned, but in any case, the GMEC would have to represent good value for money in an increasingly competitive market (see section 3). 2.7 In light of the above, the customer volume assumptions made in the report now appear aggressive and crucially there would be no guarantee the GM estate contracts would be secured if the GMEC were to be established. C) Reputational Risks 2.8 Discussions with other suppliers also highlighted the reputational risk associated with an energy company, something that was not within the scope of the CE report. 2.9 GM would have to be very careful about the price promises made by the GMEC, particularly given the ambition to support social tariffs and reduce fuel poverty. 2.10 Similarly, significant work would be required to ensure the quality of service provided by the GMEC and any delivery partners, in terms of customer services and billing, was of the highest quality. 3. MARKET COMPETITION 3.1 Whilst a key stated aim of a GM energy enterprise was to provide competition to incumbent suppliers, the market is already undergoing significant changes with large number of independent suppliers coming to the market. At the beginning of 2012 there were 7 independents and by the end of 2016 over 50 are projected to be operating. The market share of the independents has increased from less than 3% in 2013 to over 17% by May 2016 and CE acknowledged in their report that the UK energy supply markets are at their most competitive ever. 3.2 Such an increase in the level of competition is putting pressure on the tariffs and profit margins of energy suppliers such that it is increasingly difficult to acquire sufficient customers to reach a critical volume. 3.3 The data gathered shows that whilst these companies are gaining market share and growing their customer base, they have required significant levels of investment to enter the market and acquire customers and short to medium term losses are common. 4
3.4 Given the losses these businesses are now understood to have incurred, and the amount of investment support they have required, it brings into question GM s ability to launch a viable FLSC business for the level of cost that had initially been assumed. More fundamentally, there is no guarantee that a GMEC could compete with these operators and offer the cheapest deals on the market. The offer would therefore have to be something other than the lowest price. 4. POTENTIAL PARTNERSHIP ARRANGEMENT 4.1 As part of the work undertaken following the CE report, meetings have also been held with public sector FLSCs. These have aims which are closely aligned with those of GM and they do offer the potential for some form of partnership arrangement with GM. 4.2 It is thought likely this would take the form of a white label arrangement however the potential for a partnership arrangement to facilitate the entry into Power Purchase Agreements with local generators would be a key facet of any joint working arrangement and, if possible, include the flexibility to bolt on additional services as future opportunities arise. 4.3 Significant work and diligence would need to be undertaken prior to any such investment; however this could represent a cheaper and lower risk entry route for GM at this time. 5. SUMMARY & RECOMMENDATIONS 5.1 Given the challenges to some of the key assumptions that underpinned the CE recommendation to establish a FLSC, particularly the level of financial risk involved and the current market conditions, it is recommended that the go it alone FLSC model is no longer appropriate. 5.2 Moving away from a 100% owned FLSC, the other options are to form a JV with another energy supplier with closely aligned aims, or enter into an enhanced white label arrangement which meets GM s aims. 5.3 As noted above, there may be an opportunity to enter into a partnership arrangement with an aligned FLSC which has already incurred the time and costs associated with establishing an energy company from a standing start has satisfied regulatory requirements and are operationally proven in that they have commenced supplying customers. More importantly, their aims and motivations would likely be closely aligned to those of GM (essentially improving the welfare of local residents and businesses) compared to a private sector supplier which is operating primarily for commercial (shareholder) return. 5
5.4 However, the benefits of such an arrangement need to be more fully explored and the costs and risks assessed. In addition, detailed proposals are yet to be received so there is currently limited certainty around this being a viable and deliverable proposition. 5.5 We are expecting more detailed proposals from a number of such parties by the end of July and a further report will be presented to the CA in September. 6