Energy and Climate Change CommitteeWritten evidence submitted by E.ON
Summary
i. We still believe a competitive market is the most effective structure to ensure customers pay no more than they have to for their energy. However we are supportive of appropriate intervention to help make the market work better for customers and particularly to increase customer trust. Our Reset programme has led us to a simple but innovative presentation of our tariffs through a new online tool and supported by customer communications and advertising, encouraging customers to check that they are on the best deal for their circumstances. This is underpinned by our strategy focused on making sure that all of our customers get a fair deal. Since we launched our customer communication and advertising campaign towards the end of last year, over 300,000 customers have already switched to one of our new products.
ii. We are actively taking steps to deepen engagement with our customers, providing information to explain why energy bills are changing and to be transparent about the profitability of our activities. Having an open and honest conversation with the public will, in our view, help to regain public trust. This must be supported by other groups who influence customers’ trust in energy companies. We would like to see greater use of companies’ segmental reports and the market indicators report in commentary.
iii. The report by Professor Hills on the nature of fuel poverty is timely. We support his view that the fundamental cause of fuel poverty is low energy efficiency and that attention should therefore be focused on addressing the causes of this.
iv. The introduction of the Energy Company Obligation (ECO) is a welcome step forward with greater emphasis on ensuring more efficient and effective heating systems for customers on low incomes and hard to treat homes. However the current structure of ECO should be reviewed to minimise cost to the customer. The Government, however, must give clear guidance to local authorities and social housing providers to apply a consistent and positive approach to solid wall insulation under planning regulations. Without this the costs of ECO will be higher and some schemes beneficial to fuel poor customers may be deferred.
Prices
What factors determine energy prices (wholesale prices, company operating costs, green levies, company profits etc)? What contribution do these factors currently make towards a typical household energy bill and how might this change over time?
1. The key drivers of energy prices include the cost of purchasing energy in the wholesale market, regulated network charges, the cost of meeting government environmental and social obligations and taxation policy. This is illustrated in Figure 1.
Figure 1
THE COMPONENTS OF AN AVERAGE WEIGHTED E.ON DUAL FUEL BILL
2. We expect the cost of meeting environmental and social obligations to rise during this decade. For example, the cost of the Government’s social schemes, which often focus on providing subsidised or free insulation, have more than doubled in the last twelve months. In addition, the introduction of a carbon price floor will impact bills from April 2013. There is also a need to upgrade the network infrastructure to connect new generation particularly in Scotland, Wales and parts of England in addition to new offshore requirements which will drive up regulated transportation charges. Network costs are now more than 10% higher than last year and are expected to climb higher still in 2013.
To what extent (if at all) should the Government or the regulator intervene in the market to affect the prices customers (or certain groups of customers) pay for their energy? Should any changes be made to the Government’s current approach?
3. It should be clear what Ofgem and Government are each trying to achieve. For Ofgem this means a vision of how the market is expected to work later this decade; for Government it means clarity over its role and the regulator’s. Without this clarity, innovation and new entry might be inhibited and there will be doubts over the stability of UK regulation.
4. A competitive market is the most effective structure to ensure customers pay no more than they have to for their energy. Ofgem should intervene only if action is needed to help make the market work better for customers. Examples include the steps Ofgem are taking to increase transparency over suppliers’ cheapest tariffs and to ensure clear and consistent presentation of tariffs. We support these steps, although Ofgem needs to ensure that the changes they make will actually make the market work better.
5. If, however, there are remaining concerns, the industry should be referred to the Competition Commission for an in-depth analysis of how the market is operating. Government also has an important role to play to deliver objectives that are broader than competition, for example introducing policies that are targeted at a particular group of customers, such as with the Warm Home Discount (WHD). Where intervention has been deemed appropriate, it is important that successor policies are developed so that there is a settled regime before the existing policies end, which in the case of the WHD is little more than two years away.
How effective is Ofgem in ensuring customers get a fair deal? Are there any areas for improvement?
6. Our Reset programme has led us to a simple but innovative presentation of our tariffs through a new online tool and supported by customer communications and advertising, encouraging customers to check that they are on the best deal for their circumstances. This is underpinned by our strategy focused on making sure that all of our customers get a fair deal. Since we launched our customer communication and advertising campaign towards the end of last year, over 300,000 customers have already switched to one of our new products. Whilst we do not agree with all of the RMR proposals, we wholeheartedly support the overall objective of increasing customer trust in the market.
7. We have also called on Ofgem to have a vision of the market later this decade. This vision should reflect Ofgem’s view of what competition and customer choice should look like, the potential for innovation and Ofgem’s role in the market. We believe Ofgem should be confident in its ability to manage principles based regulation whilst avoiding the restriction and risk of detailed regulation to ensure customers get a fair deal in the market.
Could it be possible to benchmark energy prices to provide greater certainty about whether customers are getting a fair deal? If so, how might this be achieved in practice?
8. In principle a pre-tax comparison with other EU countries will give reassurance that the GB market is delivering a fair deal for customers. We would suggest that DECC commission such a study. This would need to separately identify differences arising from geography, such as wholesale gas costs, from those associated with competition, such as operating costs, or regulation, such as networks charges.
9. Within the GB market, customers should be able to benchmark themselves through clearly comparable prices. Then, if they are aware of other prices and hence price differences, they are presumably comfortable with them. Ofgem’s change in direction from a uniform standing charge and national unit rates, as set out in the initial RMR proposals envisaged in 2011, to a tariff cap and a Tariff Comparison Rate (TCR) will make this much more difficult for customers. We have urged Ofgem to look again at their original proposal of a uniform standing charge (set by the regulator) and national unit rate which we believe will easily comparable for customers.
Could any other measures be put in place to ensure customers are paying fair prices for energy and to provide customers with greater confidence in this?
10. Ofgem could do more to promote customer awareness of cheaper deals. Government have encouraged this transparency through the voluntary agreement to signpost cheaper tariffs on bills. We would expect Ofgem to develop this lead through requiring:
a cheapest tariff presentation on annual statements;
prompt communication to online account managed customers of new offers; and
transparency on supplier websites of lower priced deals, including regional variations.
11. We would also expect Ofgem to ensure customers go on to the cheapest tariff whenever this can be done in a way that is consistent with their known preferences. In particular, at renewal, customers should go to the cheapest tariff of the same type, which could mean rollover to another, identically structured, fixed price contract. This is in customers’ interest, allowing them to stay on their preferred tariff type with least effort.
12. Government should legislate to bring third party intermediaries (TPIs) within the regulatory framework. Confidence in TPIs, and the energy savings shown by TPIs, will be essential for the energy market to evolve to a more customer led engagement. Licensing of TPIs would allow Ofgem to require investment in the residential sector, with the benefit of simpler and more helpful presentations which increase customer trust, and to raise standards in the small business sector.
13. These measures, when combined with strengthening Ofgem’s powers to require redress, will make the framework in energy as robust as in financial services and telephony.
Profits
Many customers believe that energy company profits are the reason the energy bills have been going up in recent years. Is this perception fair?
14. No. Looking at last year, we reduced prices in February, and then held back from increasing our prices for as long as we possibly could whilst at the same time have worked hard to reduce our own costs as a business so that our customers can get the best price possible. We believe our profit levels are fair. Last year our domestic profit margin was less than 2%, and in the previous year, was below 1%. However, some 16 months after our last price increase, and almost a year since we actually cut our electricity prices, we recently had to make the difficult decision to increase our prices because the other costs which make up energy bills are rising:
The wholesale price is higher than it was and this year the Government’s Carbon Price Floor will add another charge to electricity bills which we regard as simply a tax.
Network costs are rising too, to finance much needed investment to upgrade the system, and are expected to continue to rise over the coming years.
The cost of the Government’s social schemes, which often focus on providing subsidised or free insulation and bill rebates through the Warm Home Discount scheme, have more than doubled in the last twelve months and is expected to increase further over the next few years.
Finally, the cost of increasing the amount of energy we secure from renewable sources is rising as deployment increases as is required to comply with the EU 2020 legally binding targets. As with the other costs mentioned above, this is expected to continue to rise over this decade.
Why is there so much uncertainty about the level of profits the large, vertically integrated energy companies are making? What could be done to improve clarity?
15. Although E.ON has interests in both generation and supply, we are set up to run these activities as separate profitable entities, and hence operate in practice as a vertically disintegrated company. We have reported generation and supply in our accounts for many years and also support Ofgem’s segmental reporting requirements.
16. We support no cross-subsidy between entities and non-discrimination. To underpin this, we propose amending the Electricity Generation Licence Condition 17A and the Electricity Supply and Gas Supply Licence Conditions 19B so that there is a clear and consistent prohibition of cross-subsidy between the generation and supply activities that are within the same group. Furthermore we believe there is merit in re-introducing some form of a self supply restriction, based on a traded volume obligation. These two measures will help to provide more clarity.
How useful are Ofgem’s electricity and gas supply market indicators in monitoring the level of profits made by energy companies? Could they be improved?
17. The indicators used by Ofgem are able to monitor underlying trends in the profitability of supply and generation. Such information is likely to be of some assistance to potential new entrants. We would also highlight that our own accounts provide segmented cost and profit levels in a segmented way.
18. As we set out above, E.ON operates effectively as a vertically disintegrated company. This is not necessarily the case across the market, and so it is not easy to compare data across companies, particularly where there may be circumstances in which one part of a business is helping to cross subsidise another activity. We believe this is not in the interests of customers as it distorts the market, and would therefore welcome measures to prevent such practices, similar to that which was in place prior to full market liberalisation.
How useful are the segmental generation and supply statements that major energy suppliers are required to produce in understanding where companies are making their profits?
19. The requirement on major energy suppliers to produce segmental statements on generation and supply activities is primarily aimed at disclosing the costs of these separate activities. The information is also a valuable tool to help inform interested stakeholders of the underlying profitability of generation and supply. We would like to see greater focus on the detail of these statements and the information being used to support comments via politicians and the media which influence customers’ trust of the sector.
Do Ofgem’s supply market indicators and the segmental reports provided by energy suppliers help to increase transparency and public trust in energy companies? Could they be improved to provide greater transparency?
20. Yes. Taking measures to ensure no cross-subsidy between entities and non-discrimination as we have already outlined will help to provide greater transparency. Whilst segmental accounting is welcomed, they have been misrepresented by the media and other stakeholders, which in our view has contributed to the current perceived lack of trust in energy companies. We believe the way to increase transparency and public trust is for energy companies to better engage with their customers and explain how their bill is made up and what is driving change.
To what extent does the way energy companies communicate profits to the general public influence the public’s perception of these companies?
21. We are actively taking steps to engage with our customers and explain why prices are changing. As part of this strategy, we are also explaining to customers and other stakeholders the margins that our supply business is making, highlighting that these are relatively low compared with other retail operations that they will be familiar with. We accept that there is more that can be done. But by being open and clear with customers to explain why bills are changing is in our view the way to regain public trust in energy companies.
Fuel Poverty
Is the Government on track to meet its target of eliminating fuel poverty by 2016 and will reduced Government spending in this area affect their ability to achieve this target?
22. Our understanding is that the government’s target is to take whatever action is reasonable, within the current resource constraints, to alleviate fuel poverty, rather than to actually eliminate fuel poverty. We are not able to say whether current actions are as much as could reasonably be done, but as supporters of the Energy Bill Revolution, believe that activity should be increased as soon as practicable.
Has the Hills Review resulted in any changes to fuel poverty policy? How could its findings be used to improve the efficacy of fuel poverty policy?
23. Yes. The Hills review has shifted emphasis from total numbers (in fuel poverty) towards the depth of fuel poverty and consequently helps ensure measures are directed at those most in need.
24. We therefore welcomed the depth of the analysis of the nature of fuel poverty provided by the report commissioned by Government from Professor Hills. We support his view that the fundamental cause of fuel poverty is low energy efficiency and that attention should therefore be focused on progress in addressing this. We agree with his insight that those with an average or below average cost of ensuring adequate warmth, even with very low incomes, should not be considered as fuel poor. This would require policy to focus on households with low incomes that consume above average levels of energy, which we believe is the right approach.
To what extent are current fuel poverty policies reaching the right people? Are there any particular groups that are currently not getting the necessary support? And will this change under the move to ECO? What support is available for fuel poor households living in solid-wall and hard-to-treat properties? Could this be improved?
25. As recognised by the Hills Review, energy efficiency improvements provide a long-term, sustained solution for households suffering from fuel poverty, whereas financial support offers only short-term respite and must be provided on a repeat basis.
26. Households in or at risk of fuel poverty have benefited from the Warm Home Discount, which is complemented by CERT and CESP, providing funding for energy efficiency measures. However whilst some households with low disposable income and above average energy consumption levels have benefited from this, harder to treat properties have been largely ignored.
27. We therefore welcome the role of the new Energy Company Obligation (ECO) in improving energy efficiency and ensuring more efficient and effective heating systems for customers on low incomes and hard to treat homes. However our central forecast of the cost of ECO is around £2bn per annum, with a significant risk of higher costs for energy customers compared with DECC’s forecast of £1.3bn.
28. The short first period of ECO to March 2015 is particularly disappointing as Government had raised expectations of a longer term scheme which would give confidence to develop longer term partnerships. To reduce the risk of ECO costs spiralling, Government should allow energy suppliers to have greater flexibility in how they meet targets over time, with a defined consequence that a shortfall in one period means that more has to be delivered in the next period.
29. The Government must give clear guidance to local authorities and social housing providers to apply a consistent and positive approach to solid wall insulation under planning regulations. Without this the costs of ECO will be higher and some schemes beneficial to fuel poor customers may be deferred.
Will the Government’s proposals to ensure that customers are on the cheapest tariff have any impact on fuel poverty? To what extent do fuel-poor households engage in switching? What are the barriers to greater levels of switching from these groups?
30. Yes. Customers should go on to the cheapest tariff whenever this can be done in a way that is consistent with their known preferences.
31. We do not have data on switching by fuel poor customers, but note that Customer Focus’s recent report “Switched on?” shows that switching is almost as high amongst prepayment meter customers as direct debit customers (page 12). Switching is less amongst quarterly billed customers, which is more commonly the payment method used by the elderly. We believe the key barrier is a perceived lack of trust in the market. However suppliers and, in the relevant parts of the RMR, Ofgem are doing all that is reasonably practicable now to increase trust.
February 2013