Energy and Climate Change CommitteeWritten evidence submitted by EDF Energy
Executive Summary
EDF Energy recognises that rising energy bills are an increasing concern for households. We also acknowledge that consumers should have their energy bills communicated to them in a straightforward and transparent way, to make it as easy as possible for them to select the correct and most affordable energy products for their needs.
Therefore, as a company we simplified our tariff structure even before Ofgem’s announcement of its RMR reforms. EDF Energy currently offers just three types of tariff; two fixed and one variable. We also led the market with our Blue+ Price Promise product, which informs customers if they would save more than £1 a week with any competitor’s product.
Even so, energy price increases are of course of concern to consumers. Such price rises are driven both by rising costs for wholesale energy, and by increased charges for transmission and distribution, as well as by levies to pay for environmental and social policies.
Despite this, the perception of consumers and stakeholders seems to be that higher energy bills are reflected in excessive company profits. In fact, as shown in our official reporting to Ofgem, EDF Energy made a negative net margin on our residential supply business between 2009 and 2011. In our most recent financial results we saw an improving but still negative margin in that business in 2012.
The likelihood is that consumer energy prices will continue to increase in the future. More than £100bn of investment will be needed in the UK’s electricity infrastructure over the next decade, to meet decarbonisation targets and maintain security of supply. This will undoubtedly impact on consumer energy bills.
Transparency will continue to be important to maintaining customer trust in energy markets. Specifically we believe that tariff comparability would be helpful, and would lead to higher levels of consumer switching. To that end EDF Energy advocates the establishment of an independent switching service, overseen by Ofgem.
We also recognise that some vulnerable consumers need further help. Last year, EDF Energy introduced a price reassurance scheme whereby Warm Home Discount Core Group customers will automatically benefit from our very cheapest prices. EDF Energy believes that all suppliers should be required to match this ground-breaking commitment.
The forthcoming review of fuel poverty strategy should be carried out on a cross-Governmental basis, to ensure full engagement and ownership by all relevant departments.
EDF Energy is very concerned about the potential cost of delivering ECO and the resulting impacts on consumer energy bills. Energy suppliers will be required to report to Ofgem on the costs of delivering ECO on a monthly basis. The Committee should review the cost effectiveness of ECO as soon as useful data on the cost of delivery becomes available.
If further delays are seen in the Smart Metering programme, with no relaxation of the end date, this too will result in increased costs which will ultimately be borne by consumers.
Most importantly, we believe there is an onus on the Government to bring together and work with energy companies, environmental advocates and consumer groups to improve public understanding of the composition of energy bills and the factors which affect them. Only by doing so will consumer trust and engagement in energy markets be maintained and grow.
EDF Energy’s Response to Questions
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. Perhaps the easiest way to respond to this question is to look at the reasons why retail energy prices in the UK have increased at a rate above inflation during the past ten years. Data from the Committee on Climate Change (CCC) shows that the average dual-fuel energy bill for a typical household increased from around £605 in 2004 to £1,060 in 2010, a £455 or 75% increase (compared to general price inflation of 16% over the same period). There were a number of reasons:
By far the largest contributor was the increase in the wholesale cost of gas, which added around £290 to bills;
Around £75 was due to policies to reduce carbon emissions, including £30 to support investments in low-carbon power generation, and £45 for funding of energy efficiency improvements (such as help for low income and vulnerable households);
A further £70 of the increase was due to increasing transmission and distribution costs; and
£20 was due to VAT.
The chart below illustrates the changes:
2. It is difficult to predict what precisely will happen to each of these factors over the coming years. But there seems to be little reason to suppose that pressures on prices will not continue to grow. Thus the costs of policies to reduce carbon emissions and deliver other social benefits will go up: for example, DECC has estimated that the Energy Company Obligation (ECO) will cost £1.3 billion per year to deliver; we share the view of other commentators that in fact the ECO will prove more expensive than DECC’s forecast (see also below).
3. Underlying this is the widely accepted reality that the UK’s energy infrastructure requires significant investment and modernisation. Indeed the Government has said that more than £110 billion will need to be spent in the next decade. It is inevitable that these additional costs will feed through to energy customer bills.
To what extent (if at all) should the Government or the regulator intervene in the market to affect the prices consumers (or certain groups of consumers) pay for their energy? Should any changes be made to the Government’s current approach?
4. EDF Energy believes that consumers are best protected by a competitive market in which information about energy prices is available readily and openly. We therefore support the objective of Ofgem’s RMR proposals to encourage consumer engagement with the market, and to ensure that customers are able to gain access to the information they need to make informed choices.
5. We do not believe that powers envisaged under the Government’s “cheapest tariff” proposals will be needed if Ofgem’s RMR project is completed in the way envisaged. Amendments to the Energy Bill in this area must be sufficiently tightly drafted to avoid any unintended consequences of the legislation, such as re-emergence of price regulation that stifled competition and choice.
6. However, we do believe that some vulnerable consumers need further help and assistance. Last year, EDF Energy introduced a price reassurance scheme whereby Warm Home Discount Core Group customers automatically benefit from our very lowest prices. EDF Energy believes that other suppliers should be required to match this ground-breaking commitment.
7. Finally, there is still more to do in respect of tariff simplification. For example, all EDF Energy tariffs are available to new and existing customers alike: we believe that Ofgem’s RMR proposals on tariff simplification, which may limit suppliers to four “live” tariffs per customer/meter type and payment method, should also ensure that all suppliers are required to adopt the same position as EDF Energy.
How effective is Ofgem in ensuring consumers get a fair deal? Are there any areas for improvement?
8. EDF Energy believes that Ofgem is right to focus its attention on measures to encourage consumers to engage with the retail energy market, and we are supportive of many of the RMR reform proposals. In particular, we believe it is important that Ofgem works with suppliers to ensure that customers can easily access all the information they require.
9. An important aspect of this is tariff comparability, which will significantly improve transparency, and will facilitate consumer engagement in the market. EDF Energy would welcome a central independent switching service overseen by Ofgem, which focuses particularly on vulnerable consumers. To ensure the widest possible take up, this service must be accessible by telephone and by post as well as online
Could it be possible to benchmark energy prices to provide greater certainty about whether consumers are getting a fair deal? If so, how might this be achieved in practice?
10. There is an important role for benchmarking UK retail energy prices alongside those of other EU countries. We believe that this could do a great deal to help reassure consumers that they are getting fair and competitive prices. Such benchmarking could also help consumers understand the drivers of energy prices, and the limited degree to which they are controllable by policy decisions and other domestic factors within the UK.
11. There are, of course, practical difficulties in comparing energy prices because of the adjustments needed for local factors, including taxes. However, such calculations are not impossible, and the chart below sets out a comparison (showing that the UK benefits from below average energy prices in relation to the comparator countries). We believe that Ofgem would be best placed to carry out these calculations and to publish their results.
Could any other measures be put in place to ensure consumers are paying fair prices for energy and to provide consumers with greater confidence in this?
12. We believe that a more informed debate on the drivers of energy costs is vital. We have already argued that Government and Ofgem should publish much more comparative data about UK and EU retail energy prices, and make this information available to consumers.
13. We have also already mentioned the need for significant investment in the UK’s electricity infrastructure. In this context all those with an interest in energy and climate change policy, not least the Government, have a duty to be open and honest with the public about the impact on consumer power bills, and to ensure that the goals of secure supplies and decarbonisation are achieved in the most affordable ways possible.
Profits
Many consumers believe that energy company profits are the reason the energy bills have been going up in recent years. Is this perception fair?
14. We do not accept that this perception is fair, nor is it borne out by the facts. As we have said already, price rises reflect a range of factors, not least changes in wholesale energy prices. The key drivers are movements in international gas prices and increases in non-energy costs, particularly regulated network charges and social and environmental costs. This is illustrated below.
(1) Averaged across regions and major suppliers; assuming typical consumption of 3,300kWh standard electricity and 16,500 kWh standard gas p.a Not accounting for any change in typical demand over time. Change 2008 to 2012 driven 50% by commondity prices (lower but longer peak) and 50% non energy
(2) Front-year gas prices: price for delivery in following calendar year, year-ahead power prices: average price of the next two seasons
(3) Actual time of energy sourcing depends on company bedging strategy
(4) 2013 includes all price rise announcements (final rise by E.ON, took place on 18 Jan)
(5) Office of National Statistics estimates.
15. On average, margins have gone up, but from a very low or negative base. Overall supply margins are modest compared with other retail sectors, as the graph below demonstrates. Whilst the average industry margin is positive only two companies reported consistent profits through 2009 to 2011 from domestic energy supply; as we have said, EDF Energy made a loss in its domestic supply business during this period.
Source: Ofgem, March 2011 Retail Market Review consultation
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?
16. Given the information we already publish there is no reason for uncertainty. Nevertheless, as the Committee has previously pointed out, there is evidence that many consumers blame energy company “profiteering” for price rises. In doing so they reflect the debate played out in the media and amongst political stakeholders.
17. That media coverage and political debate rarely mentions the facts set out in the segmented accounts published by the larger energy suppliers. These accounts clearly set out the varying levels of margins for different activities, including retail and generation. It is worth saying in particular that the reporting of energy sector profits rarely acknowledges the capital intensive nature of power generation, and the significant levels of investment it requires.
18. Accusations of profiteering lead to consumers mistrusting and disengaging from the retail market. Such a lack of trust is not in the interests of consumers nor the industry, nor is it helpful to achieving the aims of key Government policies such as the Green Deal, Energy Company Obligation, and Smart Metering. All of these rely on high levels of consumer engagement to drive take up.
19. There are limits to what energy suppliers alone can do to change the media and political debate, and to inform and educate the public. Therefore, EDF Energy believes that the Government has to take a lead in this area, bringing together energy companies and consumer and environmental advocates in an effort to improve public understanding about the expected trends in future energy bills and the reasons for upward pressures.
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?
20. Ofgem’s indicators are misleading and can be seen to cause mistrust amongst consumers. For example, the indicators only cover standard tariff dual fuel customers and therefore do not recognise the full range of tariffs in the market. Moreover, the average gas consumption used is higher than EDF Energy’s estimate of the domestic average, significantly overstating the estimated margins quoted.
21. Despite its powers to do so, Ofgem does not ask for, or include, updated cost estimates from suppliers. Thus, for example, by relying solely on DECC’s estimate of the costs of the new ECO, Ofgem risks overstating supplier margins to a material degree.
22. Finally, the indicators do not reflect the position of individual suppliers, reinforcing the misconception that all suppliers are the same. In particular they ignore the impact of economies of scale on respective levels of profitability. While Ofgem’s indicators show substantial profit margins, smaller domestic suppliers like EDF Energy are making a loss on supplying domestic customers; the impact of economies of scale is illustrated below. The indicators also imply a higher level of overall profitability in domestic energy supply than is actually seen.
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?
23. EDF Energy believes that the segmental accounts provide robust information as to the size and source of energy company profits. The process for producing these was verified in early 2012, when they were reviewed by the accounting firm BDO, on behalf of Ofgem. In particular BDO endorsed our approach to basing transfer prices between generation and supply businesses on published wholesale prices. A number of detailed recommendations were made and have been applied, further adding to the accounts’ veracity.
24. It is a requirement that the segmental accounts can be reconciled with audited figures (prepared under International Financial Reporting Standards) published in Group accounts. This is an important safeguard.
25. Some stakeholders have said that the segmental accounts are too complex to understand, whilst other press for even more details. EDF Energy believes that the segmental accounts strike the right balance between completeness and accessibility, and are no more complex than financial statements generally.
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?
26. We believe that Ofgem’s supply market indicators should be withdrawn as they are misleading, and will never be as accurate as the segmental accounts, which reflect the real costs, real revenues and actual profits of energy suppliers.
To what extent do the way energy companies communicate profits to the general public influence the public’s perception of these companies?
27. EDF Energy publishes a breakdown of a typical consumer’s bill on our website. An example is shown below. It is important to note that margins are not shown separately simply because it is difficult to show negatives in this format.
28. However, there is no doubt that all energy companies could do more to help customer understanding of these areas. For example, referring to terms such as EBITDA (which is not a measure of net profit) is not helpful. In addition, providing more details of the significant investments of capital made in the UK by all of the companies already and in the future would also provide helpful context.
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?
29. Government has consulted on its intention to revise the fuel poverty definition to one which facilitates a better use of limited resources. We acknowledge DECC’s recognition that the proposed change will essentially make it impossible to eradicate fuel poverty.
30. DECC is no longer funding a programme focussed on providing free heating and insulation measures to vulnerable householders, with the key programme to deliver this, ECO, now funded solely through customers’ energy bills. This is regressive in impact compared to funding from general taxation and has the potential to increase prices disproportionately for lower income households, not all of whom will benefit from the associated programmes.
31. It is important to ensure that the impact of funding, and the resultant burden on consumers, is carefully considered. EDF Energy is particularly concerned at the potential cost of delivering ECO. DECC has estimated that the ECO would cost energy suppliers £1.3 billion per year (about £53 per customer per annum). However, a recent report by NERA Economic Consulting from November 2012 reviewed DECC’s model and suggested that correcting unreliable assumptions in DECC’s modelling would raise the estimated cost of the programme to around £1.7 billion per annum (ca. £69 per customer per annum). In reality both these estimates will probably turn out to be false: what is important is that the real data is made available as soon as practicable and their implications are properly considered.
32. Unlike previous obligations, energy suppliers will be required to report via Ofgem on the costs of delivering ECO on a monthly basis. The Committee should review the cost effectiveness of this policy as soon as accurate information on the cost of delivery becomes available.
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?
33. Following the 2011 Hills Review, DECC is proposing to issue a new fuel poverty strategy early in 2013. EDF Energy welcomes this opportunity to review current policies and their impact in assisting those who struggle to heat their homes affordably.
34. To be effective the new fuel poverty strategy should be cross-Governmental to ensure full engagement and ownership by all relevant departments, and not only DECC. For example, the DWP and HMRC have full information on household income and benefit status and are therefore best placed to identify those householders who would most benefit from policy interventions.
35. An immediate opportunity to maximise the benefits of such work would be to clarify that Warm Home Discount (WHD) data sharing can be used to ensure that the most vulnerable customers benefit from the cheapest tariff price.
36. The WHD scheme has demonstrated the benefits of data sharing to enable effective targeting to the most vulnerable customers as defined by various benefit proxies. There is enormous potential to go further in identifying similar households who could benefit for assistance under other programmes such as the ECO Affordable Warmth programme. Improving the energy efficiency of the housing stock through the installation of energy efficiency and heating measures is the most effective way of reducing the impacts of the costs of heating a property. Using data sharing to identify those eligible for this programme would reduce search costs for suppliers with the obligation, and would minimise the impact of ECO on all consumers’ bills.
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?
37. The groups targeted by programmes such as ECO and WHD are relatively good proxies for households who will struggle to affordably heat their home. However, being able to reach those in greatest need, who often fail to or are unable to respond to offers of support, will continue to be a challenge. The example of the WHD Core Group, where the most vulnerable consumers are easily reached through the use of data sharing by Government should be extended to other policies. This will ensure that those in greatest need benefit from the help available. The Government should seek to secure wider data sharing powers to support this.
What support is available for fuel poor households living in solid-wall and hard-to-treat properties? Could this be improved?
38. ECO will build on the experience gained through the delivery of CESP in promoting the installation of solid wall insulation measures. However, the scale of ECO will result in significant delivery challenges as the number of solid wall installations increases.
39. We hope that as this market matures, and as Green Deal Finance comes available, solid wall insulation should be able to be deliverable across all relevant groups, including those who struggle to heat their home affordably.
40. As a minimum, there needs to be sufficient uptake of Green Deal Finance to enable ECO measures to be delivered cost-effectively. The ECO programme comprises three different elements, where different rules apply to meet delivery targets. The Carbon Emissions Reduction Obligation (CERO) represents more than half of the estimated cost of delivery. To achieve this part of ECO, suppliers must promote the installation of hard-to-treat cavity or solid wall insulation measures. Where possible other insulation measures can be installed alongside these. Customers will contribute to the cost of the higher cost measures through Green Deal Finance. This will ensure there is no upfront cost to the consumer and their contributions to repayments are lower than the amount saved on their energy bills. Customers’ contributions are capped at a level intended to ensure they save money overall, with suppliers paying the balance.
41. Therefore, ensuring that as many homes as possible benefit from solid wall insulation at reasonable cost will have the greatest beneficial impact on all demographic groups, not only the fuel poor.
Will the Government’s proposals to ensure that consumers are on the cheapest tariff have any impact on fuel poverty?
42. At this stage, we are not clear what the impacts of Ofgem’s RMR and DECC’s “cheapest tariff” proposals will be on fuel poverty. As outlined above, we believe that some vulnerable customers will not be able to engage in the market effectively, even with more information. We therefore urge Government and Ofgem to encourage other suppliers to match our price reassurance commitment for vulnerable customers.
To what extent do fuel-poor households engage in switching? What are the barriers to greater levels of switching from these groups?
43. Ipsos Mori conducted a study in April 2012 which found that the lowest rate of awareness regarding changing supplier was lowest among groups considered to be vulnerable, including the DE social grades the BME ethnic group, these in rented accommodation, those with no internet access and those on standard credit and PPMs. This is shown in the below graph.
44. Rebuilding trust is crucial for encouraging consumers, particularly those who are vulnerable, to have the confidence to engage in the competitive energy market and to interact with suppliers. In particular, negative messages about the energy industry discourage consumers from entering into dialogue with their supplier about the wide range of support available, such as securing the best tariff, accessing insulation measures or obtaining WHD rebates.
45. We also believe that Ofgem and Government should have a more visible role in signposting consumers and external stakeholders to the many programmes delivered by energy companies, which are designed to benefit consumers. Highlighting such beneficial activity will help to build trust in the industry and therefore encourage consumers to engage with energy providers more proactively.
To what extent do fuel-poor households currently take advantage of energy efficiency schemes? Could anything be done to increase uptake?
46. EDF Energy has delivered 80,000 insulation measures through the CERT scheme to consumers in the Super Priority Group. In addition 24,000 insulation measures were delivered to vulnerable customers within CESP areas.
47. Whilst the success of the CERT and CESP schemes has seen many fuel poor households benefit from energy efficiency measures, the cost of identifying these customers and securing their take up has been significant. The WHD scheme has demonstrated the benefits of data sharing to enable the effective targeting of support to those in the greatest need.
February 2013