Select Committee on Business and Enterprise Minutes of Evidence


Examination of Witnesses (Questions 828-839)

MR ANDREW DUFF, MR VINCENT DE RIVAZ AND DR PAUL GOLBY

24 JUNE 2008

  Q828 Chairman: Gentlemen, we are running just a little later than I had hoped so we will need to crack straight on. Can I begin by thanking you for coming to the Committee and thanking you for your written evidence. Can I ask you to introduce yourselves, perhaps starting with you, Mr Duff.

  Mr Duff: My name is Andrew Duff. I am Chief Executive of RWE npower.

  Mr de Rivaz: My name is Vincent de Rivaz. I am Chief Executive of EDF Energy.

  Dr Golby: Paul Golby, Chief Executive of E.ON UK.

  Q829  Chairman: Gentlemen, I am going to begin with a question I asked our last witnesses, I do not expect to get a very different answer from the answer I got last time. To be honest, I rather expected their answers. What is going to happen to energy prices for the rest of the year, here and in Europe? Apart from the fact they are going to go up, can you be more specific?

  Dr Golby: Let me start—I think it is very difficult to be more specific. We are facing a seismic shift quite frankly, I think, in commodity prices. Since I came into this industry in 1998-9 we have had a 14-fold increase in the oil price; it has doubled over the last 12 months. We have seen other commodity prices—oil, gas and coal—increase by about 60% over the last four months. So it is not difficult to see that the pressure is upwards. I think what will happen will very much depend on what happens to the forward price over the next weeks and months. I do not think I can be more specific than that.

  Chairman: I think this Committee accepts, as we all do, that energy prices are rising. We cannot deny that reality and one of the fundamental reasons for it is other markets in the world, particularly in places like India and China. We understand that. Our concern is to make sure that the different sectors of the market are getting the best possible deal they can in the circumstance—domestic customers, particularly those in fuel poverty, small and medium sized business and the large industrial users, because there are different issues for each of them—to sustain a standard and quality of life or sustain your business and sustain competitors in the UK. We understand that. I think it is probably best we move on to the one of the key determinants of that issue—the wholesale gas market,

  Q830  Mr Hoyle: There was a report done by the DTI back in 2005 and it suggested that 70% of the physical volume in the UK is sold on long-term contracts. There are other arguments that say it is 40%. It tells us that most of it is done on secretive long-term contracts. To what extent do you buy your gas on contract, as opposed to by the open market?

  Mr Duff: The physical gas market in the UK two or three years out is very liquid, and trades at about ten times the underlying size of the physical market. My company purchases about 30% of its total gas requirements through long-term contracts. There are commercially confidential aspects of that, but not really very much. There is not much that is not known about long-term contracts, because most of them were negotiated in the expansion of gas production in the North Sea back in the 1980s; and many of them have been in the public domain as companies have divested assets and divested contracts in the years since. We buy a small proportion of the gas, and my company is very comfortable living for the vast majority of its requirements in the open wholesale markets. They are very liquid; delivery is secure; and there is a rich diversity of major upstream suppliers from which we can procure.

  Mr de Rivaz: I confirm that as far as EDF Energy is concerned we are buying nearly all of our gas on the open market.

  Q831  Mr Hoyle: That is 99%?

  Mr de Rivaz: Yes, it is important for the committee to recognise the simple fact that, since the beginning of 2007, the gas price on the wholesale market has increased by 270%. It is a real challenge for companies like ours to mitigate the impact of these costs on our customers, which we are trying to do.

  Q832  Mr Hoyle: So you have no long-term contracts in reality?

  Mr de Rivaz: No.

  Dr Golby: In the situation of E.ON, we purchase about 70% of our gas requirements from the market at market related prices; the balance of 30% do come from fixed-price long-term contracts; and those long-term contracts have a combination of factors inflating the prices: RPI; gas oil; heavy fuel oil; crude or electricity prices. The long-term contracts which are clearly a diminishing proportion of our portfolio are linked to a whole series of indexes in terms of their prices; but 70% comes from the short-term market.

  Q833  Mr Hoyle: It is interesting—and I do not know what you would like to make of this—Allan Asher, Chief Executive of energywatch, told us that in his opinion it was 70% of all gas coming from mysterious contracts and he would regard them as highly anti-competitive and needing to be exposed and broken up. What would you like to say to that?

  Dr Golby: I am not sure where he gets that information. It is certainly not something that he has shared with me. Certainly from my point of view the majority of our gas is bought in the market at market prices. I think Allan Asher actually identified that the current levels of churn in the market at ten times physical actually is an indication of a very liquid market. I think that market is working.

  Mr de Rivaz: We would not agree with the idea that the wholesale gas market or the electricity market in the UK are "opaque" as some say. It is clear there are some ways to improve their liquidity. I think the industry is working on that on the electricity side, which is slightly less liquid than the gas market. It is certainly not possible for us to accept the idea that these markets are opaque and there are some secretive deals which are made—this is not the reality.

  Q834  Mr Hoyle: I just wonder whether you will be able to agree that gas producers are the same for the UK operations as they are for the European operations and why they do not purchase gas on the open forward market. Have you any views on that? If you look at the UK operations and the European operations, how does that work? Is there a differential between the two, between the UK and European in the way the gas is bought?

  Dr Golby: Take my sister company in Europe, we probably buy more of our gas through international sources from Russia, for example, and those contracts I think again are reasonably transparent. They are linked to crude oil prices, but so are the majority of Russian gas prices; and increasingly the nationalised gas companies around the world link their gas prices to crude oil; it is a fact of life, I am afraid.

  Q835  Mr Hoyle: Do you think it should be broken?

  Dr Golby: I do not know how it could be broken, because increasingly it is the oil companies or the gas companies owned by sovereign states. Whilst we might try to persuade them that that is not any longer valid, I think it is very difficult for us to say to the Russians, for example, "You must change the way in which you decide to sell your gas". I would like to see it but I do not think it is very credible.

  Q836  Mr Hoyle: So it is there to stay?

  Dr Golby: I think so.

  Mr Duff: I think it is important to say that in the UK we are actually very fortunate in terms of the diversity of access to gas that we do have. It feels uncomfortable at the moment because as an importing nation we are vulnerable to global price effects in a way that we have not been for many years. The UK North Sea still produces over 60% of the gas that we need. The Norwegian sector of the North Sea produces 40% of the gas that we need in the UK. Pipeline capacity coming into the UK is another 80%-odd. By this winter we should have 30-35% capacity for LNG imports into the UK. None of that protects us from price affects, which I think you are referring to; but it does ensure that we have some negotiating leverage in our ability to source gas from a variety of sources.

  Q837  Mr Hoyle: What about storage capacity?

  Mr Duff: Storage capacity is something that needs to be increased ideally. It is not as simple as a matter of comparing UK storage capacity with, for example, European storage capacity. We have a number of things that make the UK more robust. For example, the amount of gas that comes from the North Sea which is a flexible sort of source, through contracts which in many cases, and particularly our own, give flexibility that allow us to capitalise on the supply flexibility as a virtual kind of storage. One of the things that would help a lot in the UK would be greater transparency of production, not just from our own sector in the North Sea but the Norwegian side and pipeline transports. There have been times in previous years, and particularly last year, when for example supplies through the Norwegian pipelines were very hard to predict and had quite a significant impact on prices in the UK.

  Q838  Mr Hoyle: It would be fair to say that UK customers are the losers by not having more capacity. Presumably at peak times we are vulnerable and we are paying the spike on the market; yet some are exporting North Sea gas which could go into storage in Europe and then be exported back to us at a higher profit. Does that not seem ridiculous?

  Dr Golby: Let me pick that up. Firstly, historically we have not needed storage because of the North Sea. I echo the points made about transparency if production is important. I think at the moment we have about 15 days' storage in the UK. I think that certainly has to double. My company is currently investing up to a billion pounds into gas storage facilities. One has started in Cheshire, and one we hope to see planning consent for in East Yorkshire, but these take time to bring on-stream. I might just add, it is very pertinent at the moment that one billion cubic metres of storage has already been turned down at the planning stage; so it is not so easy to get planning permission for gas storage. In terms of your question about storage of gas in Europe, I do not want to be provocative but that actually is a market that is working; because 50% of the gas fields in the North Sea are associated fields; and that means that they produce oil and gas. At the time the oil companies are trying to produce maximum oil—which I think we all would like them to do at the moment—they are producing gas during the summer, which currently we cannot store in the UK and yet that is sold to Europe and the European companies sell it back at higher prices in the winter. That I am afraid, whether you like it or not, is a competitive market that is working.

  Q839  Mr Hoyle: At the disadvantage of UK customers where they see something they believe is sovereign being exported and then being ripped-off when they buy it at a higher price because companies have not invested in storage and they have let down the people of the United Kingdom?

  Dr Golby: Firstly, of course, the gas is sold by the oil companies, so in that regard it is not sovereign. The market did not respond to the gas storage situation as quickly as I think any of us would have liked. The pricing signals were not there, and that is where improved transparency of production would be helpful. I think that investment is going in now, but we do need to see the planning consents coming through so we can get ahead and build that storage.


 
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