Examination of Witnesses (Questions 780-799)
MR SAM
LAIDLAW, MR
IAN MARCHANT
AND MR
RUPERT STEELE
24 JUNE 2008
Q780 Mr Weir: You talked about the
amount that you traded—how do you trade that energy? Do
you trade it directly with small suppliers; is it traded into
a market?
Mr Marchant: It is generally traded
through brokers, through screen activities.
Q781 Mr Weir: Have you traded directly
with any of the small suppliers? Is there any bar to doing that?
Mr Marchant: There is no bar to
doing that. We would and do trade with them. It is relatively
small but we do trade with them. There are no counterparty restrictions
that we place on anybody, apart from on a credit basis.
Q782 Mr Weir: What restriction on
a credit basis? That was one of the complaints. If I understood
them correctly, they can only buy energy from the Big 6 suppliers
if they had some gold-plated credit rating.
Mr Marchant: You do not need a
gold-plated credit rating, but you do need to have a credit rating.
One of the biggest issues I have faced in my time as Chief Executive
was a large loss when TXU effectively went bust late in 2002.
That sharpened everybody's focus on credit in the traded markets.
The practices at energy are no different than in general financial
services. It is basically credit-rating dependent.
Mr Laidlaw: If I may just add
to that too. 40% of the generation capacity comes from independent
generators, so they do not have to buy from the Big 6 suppliers.
Q783 Mr Weir: One of the things being
put forward is that you should be forced to report more information
about where you make your profits—be it in supply or generation.
How do you feel about that? The argument being, the more transparency
there is then the easier it is for them to get into the market.
Do you agree with that?
Mr Marchant: I think there is
a higher level point. I feel at the moment ourselves and Centrica
have to disclose more than the other four because we are UK quoted
companies and have restrictions placed on us and demands of shareholders
that directly come to us, rather than the other four that are
subsidiary companies. The risk when you demand increased transparency
is it disproportionately affects two out of the six players. That
is the first point. The second point I would make is we do not
run our profit and loss account on a generation business and a
supply business. We run an integrated basis. I do not see monthly
splits of profits, so why should I create something that I do
not use for management purposes? We report to the City, as we
are required to, on the basis on which we run the business. You
will be creating an artificial construct between two businesses,
and that is not how we run it.
Q784 Mr Weir: The argument is, if
I understand it correctly, that the Big 6 because of the vertical
integration are cross-subsidising between generation and selling
to the public and undercutting independent suppliers. Do you accept
that is happening?
Mr Marchant: I seem to be accused
simultaneously of making too much money in supply and cross-subsidising
it in supply; so I am not quite certain what the crime is.
Q785 Mr Weir: They are not mutually
contradictory!
Mr Marchant: Actually I think
they are. If you are saying new suppliers cannot make enough profit
then I am, by definition, charging too little for supply. The
reality, sitting here today—that is exactly what is going
on. Supply is loss-making under any definition with the increase
in wholesale prices. At present for this period of time supply
is loss-making. If it was not for the fact that all of the six
are vertically integrated, prices to customers would already be
higher than they are now.
Q786 Mr Weir: I think the point we
were making was, there was a small proportion of potential switchers
that were being targeted with lower prices when particularly business
customers tried to switch away from the Big 6 to the smaller suppliers.
I take it you are denying that?
Mr Marchant: We have grown our
supply business by 90% over the last six and a half years, and
we have taken on every single customer we could find. Are we targeting
people who have not switched—absolutely.
Q787 Mr Weir: That is a separate
issue. What they were saying was, if they had a customer who was
coming from you to them then you would target the customer who
was leaving you with a lower price subsidised, if you like, on
the generation side to keep the customer.
Mr Marchant: If that is their
case they should produce the evidence to the regulator because
they have a prima facie case for predatory pricing. They should
put up or shut up. I do not mind if they try to put up!
Q788 Mr Weir: The other point being
put forward was the idea that the Big 6 generators should be forced
to trade a proportion of their electricity on the open market.
What do you think of that? What do you think the effect would
be if that was to happen?
Mr Marchant: We already do. We
do naturally.
Mr Steele: We trade three times
our generation volume on the open market. Mr Marchant has said
that he trades four times his generation volume on the open market.
What exactly is being asked for?
Q789 Mr Weir: What has been asked
for is that a proportion of all generation should be on the open
market; but you are saying you already do that?
Mr Steele: Yes.
Q790 Mr Weir: Do you accept Ofgem's
argument that you are making windfall gains from the free allocation
of allowances under the European Union's Emission Trading Scheme?
Mr Steele: No, very simply. There
are at least two reasons for that. The first reason is that it
is not enough simply to take the value of the allowances and multiply
it by the number of the allowances, because the allowances have
had a major effect on investment patterns because they encourage
people to make further investments in situations when otherwise
they would not happen. This effect was studied in a report written
for BERR as part of the Energy White Paper. That report concluded
that 90% of the benefit of the free allowances in Phase 3, if
there were any, would end up with consumers and not with generators,
because they would enhance investment and reduce power station
closures and, therefore, leave the market less tight. On that
basis we think that the windfall barely exists. In addition, such
income as remains from the free allowances is undoubtedly one
of the things that is enabling us to shield our customers from
the very substantial input cost rises we are currently facing.
Q791 Mr Weir: Your argument is that
you have used the money both for investment and to keep down prices
in the short-term. That again presupposes then if not the ETS,
we are looking at very large increases in the future. Is that
correct?
Mr Marchant: That is quite likely.
If there are no free allocations in 2013 I would expect you would
see a further adjustment upwards in retail electricity prices—absent
everything else that will be going on at that point in time, absolutely,
yes.
Q792 Mr Weir: You say that it has
not affected it, but each of the companies has shown fairly substantial
profit rises over the last few years. It is alleged that a lot
of that is due to ETS; you are saying that is not. How do you
explain, if you are keeping down prices, that you are still having
such rises in profits?
Mr Marchant: In the last five
years we have more than doubled our generation capacity; added
90% to our supply customers; and the reality is 2002 one of my
competitors, who you will be seeing in the next session, described
the generation market as "bust". The reality is generation
prices at that point were below cash cost; and we have seen a
recovery of generation profits; they are still below new entrant
levels; they are still below any assessment of what would be needed
to remunerate investment, but there has been a recovery. In our
case it is a basic rise in profits driven by two things: growth
in the business; and a recovery in generation profits. Actually
the supply margins have been in number of years negative, and
between 2002 and 2008 they are net down.
Mr Laidlaw: We have a slightly
different perspective on carbon allowances. Clearly our position
as a generator with gas and renewables is that we have much smaller
carbon allowances. We do think that they have actually created
some distortions in the market, and encouraged clearly coal-fired
generation; and also the opportunities, as we have heard, to cross-subsidise.
We have been consistently arguing for full auctioning; and we
would certainly, even in Phase 2, advocate that the Government
should take advantage of the opportunity to auction up to 10%
of the allowances rather than 7%, and use that money to assist
the vulnerable customers.
Q793 Roger Berry: We have had answers
to different questions, in a sense. The question was: have there
been windfall profits, as Ofgem has alleged? The answer has been:
maybe; or, it is not as big as that; or we used the money for
a good purpose. All of which are actually related. The straight
question: are you saying that Ofgem, the regulator, does not know
a windfall profit when they see it?
Mr Steele: We think that on this
particular issue they have not considered all the factors generally.
Q794 Roger Berry: Is it that there
has been no windfall profit, or it is not £9 billion?
Mr Steele: What we are saying
is that £9 billion is certainly the wrong number because
of these other factors that I have mentioned.
Q795 Roger Berry: There has been
a windfall profit but it is not £9 billion. What do you estimate
it at?
Mr Steele: It is very difficult
to estimate whether there is a windfall profit at all and, if
so, at what level it might be, because you are dealing with some
imponderables. It is very clear to us that the £9 billion
assessment, simply multiplying the value of the allowances by
the number of allowances, misses both the investment effect and
the impact on domestic prices.
Q796 Roger Berry: You are seriously
saying that the organisation that has this statutory responsibility
for regulating this industry cannot spot a windfall profit accurately,
and cannot estimate the value of that accurately? If they cannot
do that how on earth can they regulate the industry?
Mr Marchant: All I can say is,
for my company there has not been a windfall. I cannot comment
on other people's decisions. I particularly cannot comment on
generator-only companies, rather than generator and supply companies
because the question should be directed to them too. All I can
say is, for my company there has not been a windfall profit. Therefore
the £9 billion is wrong.
Chairman: We have had one or two of the
other companies in to whom we addressed this question in the past
as well. I think we will refresh our memories about their evidence
in that respect—bearing in mind something you have just
said. We have to move on because of time.
Q797 Mr Oaten: These are all massive
figures we have been talking about—can I home it right in
now to individual people and the suffering and difficulties they
are having at the moment, because as politicians that is what
we are here to represent, and particularly to focus on the issue
of prepaid meters. I wonder if you could try and explain to me
why it is that, on average, if you are on a prepaid meter you
are actually paying around £145 a year, 17% more, than if
you are a customer who is paying by direct debit. There does not
strike me as being a level playing field there.
Mr Laidlaw: Let me have a go at
that, and let me start by saying I think it has now been well
established and certainly Ofgem's statistics and the Government's
statistics are that only 20-25% of those people on prepayment
meters are in fuel poverty. Nevertheless we clearly need to do
everything we can to keep the costs down for everybody on prepayment
meters—which is one of the reasons that earlier this week
we actually announced a new tariff for internet prepayment customers
which will reduce their bills. The reason prepayment meters are
more expensive is that they are more expensive to serve. Typically
the average call volume on a prepayment meter—in other words,
the number of times a prepayment customer calls us in—is
about 70% higher than the average call volume that we get for
our normal cash, credit and direct debit customers. We also have
a large number of outlets across the country from which we have
to go and collect the cash and service; and British Gas has 35%
more outlets per customer than anybody else; so it is a very extensive
network that has to be supported. We also have a 24-hour call-out
capability, so that we can go on wind-on meters in emergency situations
and that has a cost. What we are doing is also working on a new
piece of technology called "the energy point technology"
where people through a phone modem will basically be able to add
money onto their meter. That energy point meter, we are rolling
out 10,000 of them this year, that will reduce costs and we have
separated out the prepayment business so that we can service those
customers better, reduce the costs of that business; and we very
much believe in a competitive market you have to have cost-reflected
pricing, so we expect over time that differential to come down.
Q798 Mr Oaten: I understand your
point about extra cost, but it is not a view which is shared entirely
by Ofgem. They say, yes, there are additional costs, but the costs
if you like would be around £85 difference; whereas the figures
are coming out at around £145 difference. Are you telling
me that the actual cost involved in managing the prepaid meters
are actually the total amounts taken up with the additional costs?
At the moment it is around 17% higher. Can you say absolutely
hand on heart that it is 17% more to actually administer these?
Mr Laidlaw: I am pleased to say
that what we are working on is actually reducing the costs and
also reducing the tariff differential.
Q799 Mr Oaten: It is at the moment
I am interested in. It is now. It is not where you may be heading,
it is now. Is it the case that it is 17% more for you to administer
a prepaid meter over a direct debit scheme, because that is the
additional amount you are charging? If it is not the case the
only conclusion I can draw is that you are making some additional
profit out of this.
Mr Laidlaw: It is not as simple
as that, because we have gas meters, we have electricity meters
and, do not forget, we also have a large number of prepayment
customers who are on our essentials tariff. We were the first
to launch a social tariff that actually equalises everybody so
there is no premium for them over not just cash and credit but
over the direct debit discount number. We have 350,000 customers;
we would like to have more customers; and we are hoping to target
more with the help of the DWP to actually increase that to 750,000.
You cannot just look at an average here; you actually need to
look at the individual components.
Mr Marchant: We have a slightly
different perspective. Our differential is lower than that and
Mr Steele will point out that his is lower still. Within the competitive
market the six suppliers have taken different attitudes to prepayment
meters. Scottish Power have abolished a surcharge for both gas
and power; I believe EDF have abolished it for electricity; the
other three have not. From our point of view, because we seek
for our tariffs to be as cost-reflective as we can make them,
we make less money on a prepayment meter customer—deliberately
less money on a prepayment meter customer—than a monthly
direct debit. Our differential of about 12% (just doing the maths
here) is less than what we believe the costs are. I am not saying
they would be 17%, but they are more than 12%.
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