Memorandum submitted by International
Power plc
SUMMARY
1. International Power plc (IPR) is a UK-based
FTSE-100 company with experience of operating and trading generation
assets in a range of markets across the world—in the UK
it controls a diverse independent portfolio of assets amounting
to 7% of GB installed capacity.
2. IPR believes that that the GB wholesale
energy markets are viable, competitive and relatively attractive
to investors. The company has demonstrated its long term commitment
to the market, and is an active trading participant.
3. It is concerned however with the potential
increase in regulatory risk to its investments, as a result of
the plethora of market reviews, investigations, and impact of
EU proposals. We anticipate some change, evolution and ongoing
scrutiny of markets, however, ongoing uncertainty over market
design is unwelcome.
4. Although the market is in good health,
we do believe that any additional consolidation amongst the six
major vertically-integrated companies could be detrimental to
competition and threaten liquidity.
CAPABILITY STATEMENT
AND PERSPECTIVE
5. IPR is a fast-growing FTSE 100 company
based in London, with interests in 40 power stations in 20 countries
amounting to a net ownership of 18,824 MW of generating capacity
worldwide.
6. In conjunction with its partner, Mitsui
& Co. Ltd., it owns and operates a diverse generation portfolio
in Great Britain, representing 7% of installed capacity.[279]
7. IPR's growth strategy targets key regions
around the world (Europe, Australia, Middle East, South-east Asia,
and the USA).
8. It has built up extensive knowledge and
experience in a range of market environments, typically as an
independent market participant, competing with utility incumbents.
In the GB market:
9. The company sells its output through
the wholesale power market, and manages its fuel and carbon requirements
through trading in the gas, coal, oil and emissions markets. It
relies on sound liquidity, and transparency to support its business
model and its remit is straightforward: it seeks to optimise its
profits from these generation assets through active participation
in the wholesale energy markets.
10. It has a substantial presence in the
generation market, but its UK business remains much smaller than
the main six vertically-integrated players. Without the diversity
that having a significant supply business would bring, IPR is
sensitive to the potential for large vertically-integrated players
to influence wholesale prices such that they could undervalue
generation costs, thereby cross-subsidising retail businesses.
11. Given that our experience and expertise
in the UK is limited to the wholesale markets, this is where we
focus our comments.
INVESTMENT CRITERIA
12. IPR's global portfolio is geographically
diverse, and spread between merchant style markets, and those
that offer long term power purchase agreements. The company's
strategy is to seek profitable, and sustainable growth in power
generation and associated markets. This means that its investments
in merchant environments are considered very carefully against
the company's rigorous investment criteria, and political and
regulatory risks clearly form part of that assessment.
13. These investments are made for the long
term, and IPR therefore seeks stability, predictability and transparency
in market arrangements. It recognises that market design will
evolve, and also that energy policy and security of supply remain
highly political issues, but bases its investment on the assumption
that this will not materially alter the fundamental economics
of the opportunity.
OBSERVATIONS ON
THE GB MARKETS
General
14. The GB energy markets have developed
rapidly over the past 20 years, both in structure and in market
design. The nature of electricity in particular (eg that it cannot
be stored in large quantities) means that whilst commodity style
markets can and have been allowed to form, some central controls
are required to enable the market to balance and supplies to be
delivered to the customer instantaneously. This is the basis of
the NETA/BETTA market.
15. In general, there is much to be positive
about with respect to the UK's energy markets. In comparison with
other national energy markets, in the EU, retail competition is
well advanced and market concentration is low. In the generation
market levels of market concentration are even lower. Many of
the continental markets are typified by one or two dominant firms,
with few independents (in either retail or generation.) Market
shares in the GB market are reasonably well spread between at
least six players.
16. These views are supported by the government's
own analysis, which concludes that the UK energy markets are the
most competitive in the EU.[280]
17. However, as with all markets, there
are imperfections and potential problems (eg inconsistent liquidity,
volatility.) We are not convinced that these are material, and
in any case, do not justify major market investigation and overhaul.
This leads onto the next point:
Regulatory Risk
18. As a UK-based independent player with
a diverse portfolio of global investments, we are increasingly
concerned about the sheer volume of market change proposals, policy
announcements, and major industry reviews (eg Transmission Access
Review, Cashout Pricing Review, Industry Governance Review etc)
that appear to be running in parallel in the UK.
19. Furthermore, the lack of uncertainty
regarding the future shape of the EU Emissions Trading Scheme
and the adoption of the EU Renewables Targets creates longer term
price uncertainty in the power and carbon markets and threatens
timely and efficient new investment in the industry.
20. These factors necessarily affect our
willingness to invest, pushing up risk premia, and serving to
deter potential new entrants that could deliver valuable competition
to the incumbent players.
21. Therefore from our perspective, we perceive
the issue of regulatory risk to be a much more serious issue for
competition, and ultimately consumers, than any market imperfections.
22. We very much hope that this inquiry,
and the separate inquiry into retail markets being undertaken
by Ofgem, do not lead to significant market reforms. This would
damage investor confidence.
Price levels
23. It is important to note that increases
in wholesale prices seen in recent years do not necessarily indicate
a more attractive market to independent generators such as IPR.
Market value to generators is actually driven by the available
spreads between price and fuel costs. Since the introduction of
the New Electricity Trading Arrangements in 2001, IPM has not
seen spreads sustained at levels where it would be prepared to
invest in new build projects—high fuel costs have reduced
margins available to wholesale generators. However, the company
has pursued such projects in a range of other markets across the
world where margins have been more attractive.
24. We therefore do not believe that any
analysis of the wholesale market undertaken by the BERR committee
could conclude that prices are "too high".
25. In any case, if higher prices were coupled
with higher generator margins, this should, from time to time,
be a natural feature of the market cycle, encouraging new investment
when it is needed, and allowing operators to recover (material)
capital costs. Any regulatory actions designed to suppress prices
at these critical times are likely to be detrimental to customers
in the longer term.
Liquidity
26. Liquidity in gas and carbon emissions
is strong and does not warrant examination. However liquidity
in the power market is less consistent. Under the NETA market
when it was launched in 2001, traded volumes were slow to build,
largely due the impact of the collapse of Enron (and subsequently
British Energy amongst others) and the associated credit concerns.
27. In our view, despite improved confidence
in trading since then, power market liquidity has not recovered
to the levels that it would be expected to reach. This is in no
small part due to the increased levels of vertical integration
in the market—meaning that many trading opportunities are
now internalised within vertically-integrated organisations. The
design of the market is based on the external trading of a net
position, quickly incentivising consolidation in order to reduce
risk.
28. This does tend to limit strategic bilateral
trading opportunities for standalone generators such as ourselves—increasing
reliance on liquidity in uncertain, short term markets.
29. However, we do have confidence in the
power market as it stands to deliver sufficient liquidity for
our portfolio. We would become more concerned if market concentration
was allowed to increase further, through potential M&A activity
(eg EdF and Iberdrola.) between the large vertically-integrated
players. This could start to seriously marginalise independents
to the point where new entry would not occur.
CONCLUSIONS
30. IPR believes the GB wholesale energy
markets are fundamentally sound, and the sector is one of the
most competitive and liberalised in the world.
31. Regulators need to be wary of the threat
of any increased consolidation amongst the main vertically-integrated
players, to this position.
32. Regulatory risk is a growing concern
in the UK to potential investors such as International Power.
Regulators and politicians should be aware of the impact of unnecessary
market upheaval on competition and ultimately consumers
March 2008
279 The portfolio includes the 1,000 MW coal-fired
station in Rugeley, Staffordshire, a 500 MW gas-fired CCGT station
in Deeside, North Wales, a 1,200 MW cogeneration plant at Saltend,
Hull, a 140 MW oil-fired plant at Indian Queens, Cornwall, and
2,088 MW of hydro-electric pumped storage capacity at the Dinorwig
and Ffestiniog power stations in Snowdonia. Back
280
Energy Market Competition in the EU and G7: Preliminary 2006 Rankings,
by Oxera for BERR. Back
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