The Future Direction of Energy Management

Friday 4th November 2016

Electricity procurement in the next five years or so is going to see significant change from the model that most businesses are used to. Whereas the fluctuation of the wholesale power market has been the key driver in determining the pence per kilowatt hour (p/kWh) paid for electricity since deregulation, other factors are becoming more and more important and now outweigh the actual commodity being purchased. Overall for 2015/16, wholesale will count for approximately 50% of total p/kWh; by 2019/20, this is predicted to be closer to 35%. So what are these other non-commodity charges that will make up a massive 65% of the electricity price we will pay?

There are three key areas:

  • Network
  • Environmental
  • Generation & System

The network charges make up the most significant part of the cost. These are Transmission and Distribution. Transmission is charged by National Grid and is the cost of moving electricity around the UK pylon network from power stations. The larger Transmission network feeds into the local Distribution network, maintained by local Distributors (UK Power Networks, Western Power, etc.). This cost base covers the maintenance and renewal of ageing infrastructure as well as other factors such as Line Losses. These charges have always been payable, but are increasing as the cost of maintaining the network rises, and the challenge of bringing power from more varied sources (e.g. off-shore wind).

 As the UK honours international commitments on climate change, environmental charges have increased. The Climate Change Levy (CCL) is the environmental charge that most companies are aware of but this is not the predominant green charge now. Renewables Obligation (RO) is a charge associated with the conversion of dirty, carbon intensive generation to cleaner low carbon solutions. Although the RO scheme is now closed to new participants, its costs will remain passed onto end users for several years to come. RO is being replaced by Contracts for Difference (CfD) which again encourages environmentally friendly generation.

The Feed in Tariff (FiT) is another environmental charge that makes up a large part of the additional cost. This is the payment made to small scale generators for the power they provide the grid. There is a premium paid for this power so as to incentivise participants in the scheme, and suppliers pass on the cost premium to end users. Both FiT and RO charges also cover the support for Energy Intensive Industries (EIIs – the steel industry, for example), thus supporting the large consumers in UK manufacturing.

Approximately 20% of the UK’s electricity generation has closed since 2010 with a further 35% to go by 2030. CfD is crucial in encouraging more electricity generation in the country. Essentially, as our nuclear fleet comes to the end of its working life and coal-fired stations are taken off line to reduce carbon emissions, the so called generation gap needs to be filled. Another cost element of generation is the new Capacity Market (CM) – this guarantees a price for generators should the grid be tight and eases the risk of fluctuations and shortfalls in power. CM again comes at a cost that is passed onto the end user, but is crucial to the system. Other associated systems charges come from increased Balancing Services cost: balancing the system is becoming more and more difficult as more erratic generation comes on line (in a nutshell, it is harder to balance a system fed by solar and wind generation rather than predicable sources such as nuclear or even tidal power).

Wholesale costs are still the key element with regard to gas. Other than transportation, the only real associated cost is CCL. CCL is due to increase on gas in April ’19, but the direction of wholesale is fundamental to this energy cost. Whilst the oil market remains relatively weak and shale technologies improve, gas could remain at its current rate for some time to come.

So non-commodity costs are now more important than ever in the future of energy management for end users. Whilst the additional charges are unwelcome, they do actually come with more predictability than the caprices of the wholesale market. Indeed, wholesale itself is predicted to stay pretty flat in the next few years as measures such as CM should mitigate against sudden market movements. However, overall cost of commodity and non-commodity will rise from circa £95/MWh in 2016 to perhaps £115/MWh by 2020. It is thus crucial to manage this power better than ever before. It goes without saying that an overall cut in consumption lowers cost. However, a lot of the non-commodity is time specific and can thus be actively be targeted to make greater savings still: Transmission and CM are charged in weekday winter evenings; the highest Distribution costs occur typically 16:00-19:00 Monday to Friday throughout the year. Hence businesses that introduce targeted volume reductions at these times can achieve tangible savings. There is then a knock on benefit that the business’s consumption profile ‘shape’ is smoother which equates to better prices year on year.

For more information on how E2 can support you with targeted volume reduction please contact us.