Public energy company: outline business case
An independent outline business case for a national public energy company.
4 Economic Case
4.1 Purpose of the Economic Case
This Economic Case considers the objectives of Scottish Government in delivering a Public Energy Company against the current energy market and policy environment. It presents the proposed delivery options for the Public Energy Company and how these have been chosen, reflecting the original SOC and input from public engagement events at which input from key stakeholders was obtained.
It then discusses the criteria against which each of the chosen delivery options have been assessed, before presenting an appraisal of the options to reach a preferred option. This preferred option has then been subject to economic modelling and a risk assessment performed.
4.2 Strategic options under consideration
The March 2018 SOC presented a shortlist of four delivery options for the Public Energy Company. The original shortlist of delivery options served as the basis for discussion at the two public engagement events at which the potential approaches for the Public Energy Company were discussed.
As noted in the Strategic Case, these options were refined in developing the options being considered in this OBC. A detailed summary for each option is presented below.
Additionally, as outlined in section 3.9, SOLACE Chief Executives expressed an interest in exploring the possibility of utilising or developing a switching app to help consumers identify competitive energy pricing options that could reduce their consumption costs. This approach will be explored further with Local Authorities during the next phase in the development of the public energy company.
4.2.1 Option 1: Fully Licensed Supply
This is the conventional route to market for new entrant suppliers. In this case, the Public Energy Company would have the ultimate responsibility to comply with the industry codes and customer-facing obligations set out in the licences.
As the most complex of the market entry options, Fully Licensed supply is generally the most expensive and difficult to achieve, and therefore higher risk, than the White Label route discussed below, but it is more flexible and would grant full autonomy and the most effective route to influencing the local energy market and achieving wider social, economic and environmental outcomes over the long term. It could also provide the opportunity for the Public Energy Company to act as the umbrella organisation to provide White Label partnerships to individual Scottish Local Authorities.
Becoming a Fully Licensed supplier of both gas and electricity to households and businesses (including potentially Scottish Government's estate) represents the "deepest" option in terms of taking a fully active presence in the energy retail markets.
Fully Licensed supply is the conventional approach for energy companies entering the market, although it is a time-consuming process which typically takes 12 – 18 months to complete from go-live and so is unlikely to be deliverable within the specified timeframe for the Public Energy Company.
Additionally, following the new license application approach introduced by Ofgem we would expect the required timescales for market entry to increase. This is due to a longer application process and restricting the ability for off-the-shelf suppliers to complete market entry steps prior to 'go-live'. The required timelines will also vary depending on whether the Public Energy Company was progressed using an off-the-shelf supply license or the establishment of a new company. Bristol Energy entered the market in November 2015 after the Council decision in February 2015 using an off-the-shelf supply license, although this decision was preceded by work with external consultants and internal review and considerations.
A Fully Licensed supplier requires two systems to operate in the GB market. These systems are highly specialised for the energy industry and so expensive to procure. However, as it is the most commonly used route to market there exist around it several support services provided by specialist firms to ease market entry. These systems are:
1. Customer Relationship Management (CRM) and billing system – this is used to track interactions with customers and the billing process for them. These are normally specialised systems designed for the GB energy industry due to the complex nature of customer interactions and the level of regulatory requirements for customer interactions.
2. Industry facing system – also known as industry flow systems – this is the set of systems needed to interface with the central industry systems and submit and receive the necessary data items to enable the industry to function. This includes the data flows ('d-flows' in the industry parlance) necessary for switching customer accounts, and those for the settling of electricity volumes consumed. Again, these are typically specialised systems designed for the GB energy industry, given the complex nature of the requirements and the need for them to undergo validation by the central industry service providers prior to be approved for use
The cost of these systems depend on a number of factors, including
- the targeted customer base;
- potential growth rates;
- system provider chosen; and
- the negotiation process.
Typically, for a new entrant domestic supplier, targeting a potentially large customer base would be in the range of c. £150,000 to £200,000 up front purchase fee for each of the two systems and a similar yearly licensing fee for each of the systems. However, following the implementation of the new supplier license application process by Ofgem we would expect these costs to increase as entry is now more a 'hands on' process with less opportunity to outsource to systems providers. Therefore, we would consider it would be prudent to assume costs of £200,000 - £250,000 per system. This would normally be expected to scale upwards as the customer base increases, with charges levied on a per meter basis.
The overall costs of market entry as Fully Licensed Supplier as a public body are estimated to range between £2.5mn - £4.0mn (excluding working capital which will be needed for market entry), with the exact figure dependent on ambition (including growth rates, 'non-standard' offerings such as flexibility provision) and target market (such as domestic or business only, and half hourly provision).
The working capital requirements for a new entrant supplier are relatively low, based on the assumption of timely billing of customers (and timely payment by those customers). To avoid a potential funding shortfall, the supplier might need to hold an additional £3.5mn in working capital to meet any differences between revenues and external costs. Additionally, the company will need further cash available to set-up the business and meet its own overheads, that again reflect its ambition and growth targets.
One of the primary requirements for new entrant suppliers, and hence one of the major costs that they will incur, relates to credit. Suppliers must post credit for balancing and settlement, and network charges under industry codes, with wholesale trading partners, and under renewables schemes such as the Contracts for Difference.
Credit requirements for 100,000 customers would be expected to be around ~£7mn during the winter months, including power and gas trading requirements (assuming credit requirements of meeting 30 days of delivery, as per standard trading terms and industry obligations).
Beyond these significant standalone costs, there would also be a number of other required costs that would need to be factored in. These include but are not limited to:
- consultancy and legal support to establish the supplier (potentially in the region of £0.5mn to £1mn);
- the Project Management team required to establish the supplier;
- initial staffing costs; and
- overhead costs such as leases and IT equipment.
Against the backdrop of this outlay and ongoing obligations, it should be noted that suppliers typically are loss making for their initial years of operation – during which time they seek to grow their customer base to defray their fixed costs. As an example, the local authority backed Fully Licensed suppliers Robin Hood Energy and Bristol Energy have been loss making for much of their operations.
Robin Hood Energy was funded by an initial £11m loan and has been funded to a total of £25.5m by Nottingham City Council. This has been to support operations, with it reporting losses of £2.5m in 2016 and £7.2m in 2017. Similarly, Bristol Energy has been funded for £36m (including commitments) by Bristol Council and reported a loss of £11.2m and £8.4m in the last two years, delaying its forecast profitability date to 2021. These loans have been provided at commercial rates, and Cornwall Insight understands the rates for Robin Hood Energy and Bristol Energy being set at 11% and 8.5% respectively by the establishing Councils.
In addition to these system fees, the Fully Licensed supplier would also face a number of other costs related to market entry, including: for credit and collateral provision for wholesale trading and under the industry codes, significant operational costs, additional systems including trade capture, hedging and forecasting, and legal and consultancy support fees for the establishment of the supplier, not to mention the increased procurement costs associated with a significantly more complex proposition than under the White Label Supply approach.
Under this approach all compliance requirements would sit with Scottish Government, as does the control over how the entity contracts with industry third parties (e.g. metering providers, wholesale counterparties, system providers etc.) and the products and services it offers to end consumers and local generators.
It should also be noted that a holder of a supply licence is required to sell energy across the entire GB market – there is currently no "local" licence that could be pursued for the Scottish market alone. However, comparisons may be drawn with Bristol Energy and Robin Hood Energy which while launched for their home areas have offered, and seen take up, nationwide.
This ability can be seen as a positive, as it provides access to a larger potential customer base, although the need to retain the 'core' appeal and brand of the Public Energy Company must be remembered. Additionally, while the Public Energy Company would be required to undertaken national supply, it would be possible to offer specific tariffs for the Scottish region, these could be designed to better reflect Scottish usage types or limit the social tariffs to Scottish consumers.
Both have been created by Local Authorities and become operational in recent years. A number of Bristol Energy's customers are outside the Bristol area, and the company has responded to this with the launch of a My Bristol tariff exclusively for customers with a Bristol postcode.
4.2.2 Option 2: White Label Supply
Traditional White Label partnerships have been adopted by several Local Authorities – typically those of a smaller size – across Great Britain, but are often viewed as a less attractive option compared to FLS or the more advanced "White Label plus" option (that is considered in this OBC), particularly for larger or more ambitious councils or at the national level. This is because of the limited flexibility and control over the supply offering under traditional White Label supply compared to the other options, and the reduced ability to capture and deliver wider objectives, such as air quality or low carbon generation deployment. There is no direct barrier to larger parties becoming White Label Suppliers, however as part of the appointment process the ability of the partner supplier's systems to support the potential level of growth that could be delivered by the Public Energy Company without compromising on customer service should be assessed.
They are most valuable for organisations seeking to enter the market who are resource-limited and wish to avoid exposure to risks within wholesale markets and the central trading arrangements but still develop a unique brand, suitable to local needs.
To date, White Label arrangements have been little more than sales commission-splitting arrangements with Local Authorities for using their relationships and brands with local householders to help the established supplier acquire customers.
As such, we would expect that a Public Energy Company White Label would have greater similarities with a "White Label plus" offering, under which the Public Energy Company is more involved in the customer management, including potentially handling in-house a wider range of activities and receiving a longer-term income stream from the arrangement.
The expectation is that the arrangements also provide greater benefits to White Label customers in terms of price guarantees, given the objective of tackling fuel poverty.
There is an element of flexibility accorded by a White Label supply in terms of the different operating and ownership structures – these being noted from the public engagement events – which may be developed to reflect the wider aspirations of participant public sector entities.
Decentralisation may prove beneficial in allowing Local Authority participation – and potentially an element of control – in the Public Energy Company. This was noted in the SOC federal model and in the feedback from the public engagement events, which included that such a structure could serve the dual benefits of mitigating risk and facilitating customer engagement at the local level. Here:
- The Public Energy Company is established and managed by a consortium of the interest Public Sector bodies, having chosen a suitable White Label partner via a formal tender process;
- The management of the Public Energy Company could then work with the participant Local Authorities to establish their own energy supply activity within this White Label on a consistent, cross-boundary basis;
- Such locally focused suppliers would operate as affiliates to the White Label, this serving as an umbrella organisation; and
- Although the owner and founder of the White Label agreement, the Public Energy Company may not itself act as a public-facing White Label Supplier, this being undertaken by up to 32 participant Local Authorities.
Alternatively, Local Authorities could set the objectives and strategic direction of the Public Energy Company, according Local Authorities a greater role in shaping the development of the company to react to local demands as they arise. Here:
- The Public Energy Company is established and managed jointly by the public sector, including up to 32 participant Local Authorities, having chosen a suitable White Label partner in line with criteria determined as part of a formal tender process;
- The ownership and control structure would need to be agreed as part of the establishment of the Public Energy Company to ensure that a suitable balance between participant Local Authorities.
As a well-known and well-practiced route market, including for individual Local Authorities, White Label supply is considered as a single option given that – as stated – there are a number of iterations in terms of ownership and control.
4.2.3 Option 3: Do Nothing
The delivery options for the Public Energy Company must be considered against continuing business as usual and not engaging in energy supply, taking no further steps beyond its current pursuit of programmes to improve energy efficiency and alleviate fuel poverty.
We consider that these programmes would continue regardless of whether Scottish Government sets up an energy supplier or not, and so are not given specific value. Engaging in the energy market certainly brings both setup costs and continued operational costs, as well as the potential for reputational damage if things go wrong (we note discussion in Holyrood regarding Scottish Government's support for Our Power, as discussed below). However, the opportunities that may be missed from not entering the market are considerable.
These come in three forms:
- Financial risks, where Scottish Government has and Local Authorities have no opportunity to capture local energy spend revenue to use it to deliver desired outcomes, including improved conditions for local residential and commercial consumers (i.e. social tariffs for vulnerable consumers or social programmes);
- Social, economic, and environmental ambitions (i.e. desire for more generation and community ownership of this in Scotland, or addressing energy efficiency and fuel poverty issues) are not realised over the long term;
- Reputational risk, where local stakeholders, residents and investors perceive that Scottish Government does not have the appetite to be innovative, considering the wider policy objectives it is pursuing; and
For completeness, and to serve as a counterfactual, this is retained as an option for the purpose of this revised assessment of the options.
4.3 Delivery options
These options and their main characteristics are presented in the table below, these being evaluated in line with criteria based upon the stated objectives of the Public Energy Company. As explained in the Strategic Case (section 3.4) there has been some progress from the SOC stage to the OBC in the options being considered.
Each of the proposed delivery options is assessed against evaluation criteria, these being based upon the stated objectives of the Public Energy Company. In applying these criteria, the aim is to compare each of the options on a like-for-like basis to yield the preferred option for the creation of the Public Energy Company.
The criteria are broken down into two groups – mandatory and discretionary criteria – with the latter group assigned weightings based upon their perceived importance to the Public Energy Company as stated by Scottish Government representatives and in official reports and policy documents in the public domain.
Given the integrated nature of Scottish energy policy (as well as policy commitments as a whole), there is an inevitable element of interconnectivity between the discretionary criteria. However, these have been sub-divided where possible to provide an element of delineation across the different criteria.
| Delivery option | Description | Ownership and governance | |
|---|---|---|---|
| 1 | Fully Licensed Supply | A Public Energy Company would be established by the Public Sector as a licenced gas and electricity supplier with full responsibility for complying with the associated industry codes and regulatory requirements. | 100% owned and governed by the public sector. |
| 2 | White Label Supply | This option involves contracting with an existing licensed supplier, to provide branded and tailored energy tariffs (electricity, gas, and dual fuel) to residential customers. This Fully Licensed White Label partner is chosen in line with criteria determined as part of a formal tender process. The Public Energy Company is established by the public sector partnering with an existing licensed supplier, thereby enabling a central government-backed supplier (potentially in conjunction with LA partners) to provide tailored and branded energy tariffs (electricity, gas, and dual fuel) to residential customers in its area. We assume that there may be a desire to establish a "White Label plus" arrangement, allowing more involvement in customer management, including potentially handling in-house a wider range of activities and receiving a longer-term income stream from the arrangement. The expectation is that the arrangements also provide greater benefits to White Label customers in terms of price guarantees. | To be confirmed. The company may be wholly or part-owned by public sector investors. Governance would then reflect the ownership structure in place. |
| 3 | Counterfactual: Do Nothing | Continue with existing policies and do not take any supplemental effort to establish energy supply activity in Scotland. | N/A |
4.4 Evaluation criteria and success factors
4.4.4 Summary and overview
The discretionary criteria against which each of the revised delivery options for the Public Energy Company have been assessed are presented below
Each of these individual criteria have been assessed by Scottish Government and their advisory team to determine how these criteria should be weighted to reflect their overall importance.
The performance of each of the delivery options for the Public Energy Company is then scored on an integer basis (1 to 10 in ascending numerical order, where 1 indicates a "weak" performance and 10 an "excellent" performance.
Scorings and weightings are presented in this section as an arithmetic average of the individual scores of Scottish Government's advisers only, i.e. no explicit scoring was undertaken by Scottish Government for inclusion in this analysis.
| Category | Description | Score |
|---|---|---|
| Weak | The stated option yields a poor outcome, and while it partially addresses the stated objectives, it is subject to major deficiencies | Between 1-2 |
| Fair | The stated option partially satisfies the requirement, it is subject to minor deficiencies | Between 3-4 |
| Adequate | The stated option meets acceptable quality but remains basic and adds little beyond the minimum acceptable outcome | Between 5-6 |
| Good | The stated option satisfies requirement and exceeds minimum expectations of delivery, including the provision of added value | Between 7-8 |
| Excellent | The stated option is comprehensive, innovative and exceeds expectations | Between 9-10 |
4.4.5 Mandatory criteria
There are two "stop-go" criteria in examining the revised delivery options for the Public Energy Company.
- The chosen option must be capable of being fully implemented and be operational no later than March 2021.
- The Scottish Government has stated that, "The aim is to have the new company set up by the end of the current Parliament (2021)," and therefore any option(s) which is not capable of meeting this deadline cannot be considered without an extension to this deadline.
- The chosen option must be capable of being implemented without any breach of State Aid legislation.
- To ensure compliance with State Aid legislation, the chosen delivery model must not operate on a subsidised basis, necessitating the creation of an entity that operates on a commercial basis.
- It would be expected that this would be reflected in the level of tariffs that it offers, and although explicit underwriting of the Public Energy Company would not be possible, it may be able to accept a lower rate of return than a privately-owned supply business.
Failure to comply with one or both criteria will result in the chosen option being excluded.
4.4.6 Targeted criterion 1: Fuel poverty
The ability to mitigate or reduce fuel poverty among the population of Scotland is viewed as the primary objective of the Public Energy Company, echoing policy statements made to that effect. Opportunities for the public energy company to reduce fuel poverty can include, but may not be limited to, areas such as the ability to offer targeted or cross-subsidised tariffs, funding for initiatives to improve energy efficiency, interaction with housing policy, and engaging with otherwise disengaged customers currently on the highest tariffs etc.
The headline focus of alleviating fuel poverty will be in reducing expenditure on energy, as presented in Scottish Government's June 2018 Draft Fuel Poverty Strategy[13] and its efforts to reduce the fuel poverty gap[14]. In the first instance, it can be assumed that the public perception of how this could be achieved would be through low cost tariffs.
The tariffs set by the Public Energy Company need not necessarily be the lowest on the market, but they would need to be lower than those paid by currently disengaged customers under a "do-nothing" scenario.
While there may be groups of readily identifiable individuals in fuel poverty such as those in the social housing sector, statistics at the national level indicate that the level of fuel poverty is in fact highest in the private rented sector[15]. Therefore, such groups should not be overlooked in the wider policy context when considering customers the Public Energy Company can target alongside the broader retail market.
As an initial foundation for a customer base, and as raised at the public engagement events, social rented homes could be automatically switched to the Public Energy Company when they are voided each year. This would of course be subject to any existing contractual arrangements already in place for the voids and the undertaking of a procurement process
From a cost perspective, for this criterion we therefore consider the ability of the Public Energy Company to offer socially minded tariffs and to target a suitable customer base. It is also apparent that the regional differentials in the rates of fuel poverty and switching lend themselves to a targeted, regional strategy – potentially with Local Authority involvement.
As can be seen from the Counterfactual, detailed in the Financial Case, the Public Energy Company has the potential to help alleviate fuel poverty in two ways:
1) By reducing customer energy bills, resulting in direct cost savings; and
2) By using the surpluses generated, as forecasted by the Financial Model to fund projects and schemes to reduce fuel poverty.
4.4.7 Targeted criterion 2: Greater consumer choice
The provision of greater customer choice is not solely about the Public Energy Company entering the market as an alternative to other suppliers. This objective should also encompass efforts to encourage energy market participation and illustrating the benefits of doing so, whether by choosing the Public Energy Company as a supplier or switching supplier in general.
As discussed in the Strategic Case, the extent to which customers switch energy supplier is commonly used as a proxy for their engagement with the sector. Here, the ability of the Public Energy Company to address customer inertia, i.e. the way in which habit, familiarity with a given supplier or inattention to the wider supplier landscape may discourage moving to an alternative supplier, is therefore important.
A form of market disengagement, the causes of this inertia are commonly seen as (not exclusively): lack of knowledge and uncertainty regarding alternative service providers; apathy regarding changing provider due to entrenched habits; fear relating to the prospect of change and the perceived difficulty associated with this; the time and effort associated with changing provider, and; perceptions of the similarity of alternative service providers (i.e. "they are all as bad as each other"), there are clear opportunities for the Public Energy Company.
Furthermore, given that there are also barriers to customer participation in the energy sector, e.g. their metering set-up as highlighted above, the Public Energy Company could also be used to address such issues through direct investment, targeted tariffs (e.g. offered in conjunction with new metering installations) and wider informational programmes.
In conjunction with the ability to engage with disengaged customers directly, another element is that the offerings and wider initiatives of the Public Energy Company should be transparent and not unduly complex.
We note that the public perception of a publicly owned energy company may be a Fully Licensed supplier and not a White Label arrangement, irrespective of the iterations around it.
An example of this fact is the Mayor of London's plans for the Energy for Londoners scheme[16], a feasibility study for which resulted in the decision by the Mayor to seek a White Label arrangement. While both the White Label and Fully Licensed supply options could be delivered effectively for Energy for Londoners, the former option was chosen by the Mayor of London on the grounds that it could be implemented more quickly.
This led to criticism of the decision by public interest group Switched On London[17], describing the chosen option as "a half-baked white-label" based upon "pure short-termism", and a move that "does not deliver the crucial things London needs: carbon reductions, a sure route to cutting fuel poverty, controls over tariffs, revenues for London that can be invested in renewables and the creation of jobs in our city." Energy for Londoners has yet to go live but tendered for a potential partner supplier in May 2018[18].
Due to the dynamics of the energy supply sector, as well as the potential need for strategies at both the national and local level, the delivery package of the Public Energy Company needs to be flexible and adaptable.
Here, the chosen structure would need to be capable to respond in an effective and timely manner to changes and without compromising the wider objectives of the Public Energy Company.
On the assumption that there will be some element of participation from Local Authorities in the Public Energy Company, such bodies may want differing levels of flexibility regarding this.
In addition to being flexible at a structural or overarching level, the tariff and service offerings of the Public Energy Company need to be flexible and adaptable from a customer-facing perspective.
In conjunction with the criteria immediately above, the ability of the products and services offered by the Public Energy Company to respond to changing customer needs. While not future proofing per se, the products and services must be adaptable, with examples raised in the public engagement events being the ability to expand into energy-as-a-service offerings, non-domestic supply and heat networks.
Given the profile of the initiative and the potential for cross-party and public scrutiny and public interest reporting, the Public Energy Company must provide services that adhere to the principles of quality and social equity. Here, it is assumed that the delivery option is transparent in the delivery and pursuit of wider social objectives, ensuring equality of access and participation to all stakeholders. Indeed, the "provision of social obligations" was adjudged to be among the main objectives of the Public Energy Company according to the attendees of one of the public engagement events.
We anticipate that there will be an ongoing public awareness and marketing campaign associated with the establishment of the Public Energy Company, and therefore it should be able to effectively communicate its mission, aims and objectives for the market and how it is achieving these via its tariffs, broader actions, and what it is doing to benefit the wider community.
4.4.8 Targeted criterion 3: Transparency and financial sustainability
Funded wholly or partly by taxpayer money, the ability of the Public Energy Company to contribute to wider social and economic development, and to operate in a clear and transparent manner is viewed as an important element – again, it is expected that this will be managed in accordance with the Scottish Public Finance Manual .
In the first instance, we note that the Public Energy Company must be capable of delivering and/or contributing to Scottish Government's policy objectives, and that it is in turn able to influence the strategic direction of the Public Energy Company. Given the repeated public statements from Scottish Government officials regarding the contribution of the Public Energy Company to economic development, this may include through direct ownership, retention of a controlling stake or wider input into the business and its growth plans.
There is a balance to be met in terms of central versus local government participation in the Public Energy Company, and we note that Local Authorities may – as part of their participation in a more decentralised model – wish to retain a similar element of control. This will enable them to dovetail policies at the national level with their own local initiatives, ensuring consistency and minimising duplication of effort and resources.
Given the goal of contributing to wider economic policy and the need to address different interest, the governance of the Public Energy Company must be as straightforward and transparent as possible. Specifically, the governance structure should not be unduly complex as this could be seen as synonymous with additional costs that could instead be targeted to the core objectives of the Public Energy Company.
The Public Energy Company must be capable of operating as a not-for profit entity – either explicitly or on a de facto basis through a commitment to reinvest profits.
However, it would also have to be a financially sustainable business to ensure that it is not in receipt of ongoing state subsidy and to avoid potential criticism regarding the use of taxpayers' money. While it is of course preferable for an energy supply company to be profitable, a supply company entity that is only marginally commercially viable in and of itself can still provide an overall net benefit to Scottish customers if it allows the Government to deliver wider social, environmental, and economic benefits.
The Public Energy Company must have the ability to Engage Local Authorities in the decision-making process. Regardless of the preferred solution adopted, it is the aim of the Project that Local Authorities have the opportunity to input in to the strategic direction of the company and to share in the benefits that it creates in their local area, including potentially job creation, reduction in fuel poverty, and the creation of a vehicle to deliver broader energy objectives.
Local Authorities have the potential to bring a trusted 'brand' to the company as well as access to local knowledge, expertise and partnerships that can better identify and engage with local consumers and the issues that affect them. This criterion reflects the ability of each option to maximise these benefits.
The Public Energy Company approach adopted should have the ability to share set-up and ongoing costs of the entity amongst public sector investors. Set-up costs and on-going costs for the Public Energy Company could be significant. Sharing these costs amongst individual stakeholders would allow for the spreading of risk.
In line with the responsibilities of the devolved administration in Scotland, the government must ensure that its policies align with those at the wider national and European level where such areas are not reserved. The Public Energy Company therefore represents an important means by which to contribute to these at both the national and the local level.
4.4.9 Targeted criterion 4: Public policy objectives
As a positive catalyst for change and a means to alleviate fuel poverty, the operation of the Public Energy Company should also complement wider public policy objectives. While some of these could form part of the Public Energy Company's post-2023 agenda, given the medium-term aspirations of Scottish Government, they are considered here.
The ability to directly or indirectly support investment in low carbon and renewable electricity generation capacity and/or green gas – either through investment in own funds or through structured tariffs – is important, and we therefore consider that the Public Energy Company should operate in line with Scottish Government's sustainable development goals and support growth in low carbon generation capacity and other renewable energy options such as green gas[19].
Given Scottish Government's policy and targets regarding low carbon generation, this should enable an integrated approach to be employed, although the funding and development of Local Authority owned generation is not specifically linked to retail market entry.
The Public Energy Company may also be used as a means by which to support social and economic cohesion. The potential to improve social and economic wellbeing, either through job creation and other employment opportunities, or through general end user engagement, was noted in the public engagement events – as was the potential for direct community participation in the Public Energy Company, potentially through an ownership or public consultation/engagement approach.
Through wider efforts at decarbonisation, the Public Energy Company may be used as a secondary means by which to improve environmental benefits such as Climate Change. While not the primary focus of the Public Energy Company, given the longer-term objectives of the Public Energy Company, the general ability of the outcome to reduce greenhouse gas emissions and generally improve air quality, e.g. through electrification of heat and transport is desired.
The Public Energy Company can be used to support longer-term local energy systems, tying into wider Scottish Government policies on the decentralisation of energy generation and the establishment of alternative market structures.
This recognises that as the energy market evolves into a smarter and more flexible system, fuel poverty will not only be based upon energy spend but also the ability to access technology and opportunities to engage fully with the market. As indicated above, however, these are longer-term objectives and are viewed accordingly from a scoring perspective.
4.5 Scoring of the delivery options
Each of the three delivery options have been examined against a set of mandatory and discretionary criteria, with inability to pass the former effectively negating the requirement to consider the latter. Of the three options, two are seen as passing the mandatory criteria, with the third – the Fully Licensed Supply option – failing the criterion that the Public Energy Company be operational by March 2021.
Due to the stop-go criterion of having the Public Energy Company operational by March 2021, the timescales associated with the Fully Licensed Supply option effectively render it unattainable. However, as a potential evolutionary step for Scottish Government in its energy aspirations, as well as the view that public perception of a public sector owned energy company would be synonymous with the Fully Licenced option, it is considered here for completeness.
4.5.1 Primary 1 - Fuel Poverty
Social tariffs are designed to allow suppliers to target a specific customer segment with favourable rates. In general, these are aimed at customers deemed to have a higher likelihood of vulnerability, such as customers on the supplier's priority services register[20], aged customers, or those in receipt of benefits.
We have seen a number of examples of these types of tariffs offered into the market. These include the Age UK tariff that was offered in conjunction with E.ON. Another, and potentially more significant, example is the tariff offered by Spark to social housing tenants. At launch, this was one of the cheapest PPM tariffs on the market and also included a small credit on the meter (£5 per fuel) to prevent debt accumulating while the property was void.
This indicates the type of tariff that could be potentially offered by the Public Energy Company to help support vulnerable residents.
Under Fully Licensed Supply, the supplier has full control over the tariff prices offered. While it is the case under both Fully Licensed and White Label options that tariffs will have to change in response to cost movements, a Fully Licensed supplier has more opportunity on when and how to pass through any changes (e.g. by tariff type, region, pricing structure (standing charge and unit charge), payment method, fixed or variable etc.).
Therefore, in theory this route would give the Public Energy Company full flexibility to offer social tariffs as desired. However, the fundamental costs of supply faced by the licensed supplier will be a major driver of its ability to offer social tariffs.
Therefore, while this route offers greater flexibility it still faces limitations on the level and breadth of social discount that could be offered. This is particularly true for any new entrant where relatively low customer numbers/supply volumes mean that there is a fine balance between receiving sufficient revenue from customers to cover set-up and ongoing operational costs.
White Label Supply could in theory allow the delivery of a social tariff if an agreement is reached with the partner supplier. Ebico's previous long-standing arrangement with SSE was the best example of this in the market, as the tariff structure was radically different from those offered by the parent supplier. However, this requires the cooperation of the partner supplier to deliver the tariff.
This may present a barrier to delivery as it is reliant on the parent supplier's systems being capable of offering the more bespoke tariff and the agreement of financial terms. This is likely to be the larger sticking point as we understand that many of these tariffs are set at the cost of supply, or potentially subsidised.
If this was the case it would likely require the sacrifice of value elsewhere by the Public Energy Company and it is uncertain if a partner supplier would be willing to take this risk and loss of value. We expect that the Local Authority-backed suppliers such as Robin Hood Energy and Bristol Energy will be more willing to offer this type of tariff than other commercially-driven suppliers due to their social aims, although this is not a certainty (noting Norwich City Council's proposed tariffs with Engie under its White Label supply agreement).
However, from our conversations with these suppliers, we understand that the majority of the tariff price is determined by the supplier's core costs of supply and the only major section the White Label partner has control over is the income the White Label supplier achieves for the customers' contracts. Therefore, there is likely to be limited flexibility to offer significant discounts when compared to the partner supplier's own tariffs under this route to market.
Additionally, beyond the direct saving achieved from customers switching to cheaper Public Energy Company tariffs, the Public Energy Company is also forecast to help address fuel poverty by increasing broader customer engagement with the energy market within Scotland. This engagement would be driven by the media coverage and increase in consumer awareness of the competitive energy market, their ability to switch, and the potential savings associated with doing so. While this engagement may not result in the customers switching to the Public Energy Company, it still has the potential to help to address fuel poverty by increasing engagement as a whole, and therefore the number of customers switching to a new, alternative tariff – which is assumed to be cheaper than their current tariff, particularly if they have previously been disengaged and on an SVT.
We would recommend that if the Public Energy Company were to proceed with this route to market that it looks to include the potential to offer social tariffs as part of its negotiations with the partner supplier and ensures that it retains the potential to do so.
| Delivery Option | Score (out of 10, ascending numerical order) |
|---|---|
| Option 1: Fully Licensed Supply | 8 |
| Option 2: White Label Supply | 7 |
| Option 3: Do Nothing | 1 |
4.5.2 Primary 2 – Greater consumer choice
Addressing customer inertia
One of the main expected benefits from public authorities entering the market is their ability to engage with historically disengaged end users, and to reach out to customers beyond the "typical" switcher. It is also likely that the authority entering the market will see an increased focus on energy from local media outlets.
This is expected to lead to a more general increase in awareness of, and engagement by, local residents with the market - increasing switching rates, even if not to the Public Energy Company.
This is one of the broader benefits of the Public Energy Company entering the market, as it means that it does not need to offer a market leading tariff to save consumers money but can help drive wider customer engagement through with the market.
| Delivery Option | Score (out of 10, ascending numerical order) |
|---|---|
| Option 1: Fully Licensed Supply | 7 |
| Option 2: White Label Supply | 7 |
| Option 3: Do Nothing | 1 |
Complexity of offering or wider initiative for consumers
Conceptually, Fully Licensed Supply is more likely to be what the general public would perceive as a "publicly-owned not-for-profit energy company". This is seen as a straightforward and transparent concept for potential customers.
Although a White Label Supply may therefore be viewed as a "diluted" alternative which, while it has the potential to tap into many of the same elements as its Fully Licensed counterpart, may not carry the same customer perception.
However, depending upon the ownership and governance structure chosen, both structures may permit stakeholders to focus policy at the local level. This allows for more in-depth communication, but also adds an element of complexity, with a risk of this increasing as the number of stakeholders increases.
Such issues would therefore need to be considered when determining the ownership and governance arrangements for the Public Energy Company.
| Delivery Option | Score (out of 10, ascending numerical order) |
|---|---|
| Option 1: Fully Licensed Supply | 7 |
| Option 2: White Label Supply | 7 |
| Option 3: Do Nothing | 1 |
Flexibility and adaptability of delivery package
Full control of the Public Energy Company under a Fully Licensed Supply model would enable the greatest level of flexibility to respond to changes in the energy sector and cost drivers.
The White Label Supply option is more reliant upon the relationship with the partner supplier and the extent to which the ownership and management structure allow for rapid decision making.
| Delivery Option | Score (out of 10, ascending numerical order) |
|---|---|
| Option 1: Fully Licensed Supply | 8 |
| Option 2: White Label Supply | 7 |
| Option 3: Do Nothing | 1 |
Flexibility and adaptability of product and service offerings
As stated above, under Fully Licensed Supply, the supplier has full control over the tariffs that it is able to offer, as well as having more flexibility on when and how to pass on changes in costs. This is reflected in the score the Public Energy Company has been assigned for this criterion.
White Label Supply could permit suitably flexibility in tariffs in the presence of such an agreement with the partner supplier. Depending upon the ownership and governance structure, this could be regionalised, with such a prospect negotiated as part of the tender process for the partner supplier.
| Delivery Option | Score (out of 10, ascending numerical order) |
|---|---|
| Option 1: Fully Licensed Supply | 8 |
| Option 2: White Label Supply | 6 |
| Option 3: Do Nothing | 1 |
Quality and fairness of service
Given the assumed high-profile status of the Public Energy Company, we assume that all delivery options will be scored largely equally. It is anticipated that an initiative such as the Public Energy Company will be subject to ongoing greater scrutiny from MSPs, media and the general public – given the use of public funds.
| Delivery Option | Score (out of 10, ascending numerical order) |
|---|---|
| Option 1: Fully Licensed Supply | 7 |
| Option 2: White Label Supply | 7 |
| Option 3: Do Nothing | 1 |
4.5.3 Primary 3 – Economic development
Oversight and control
In the case of Fully Licensed Supply, it is our assumption that the Public Energy Company entity would be set up by the Public Sector with an objective of ensuring transparency and accountability for residents and Scottish taxpayers.
The commercial structure of Public Energy Company is therefore critical to allow it to operate commercially while ensuring governance arrangements are sufficiently flexible to allow interested parties to be meaningfully involved in delivering the Public Energy Company's core objectives. Here, the Public Energy Company would be established as a separate company or special purpose vehicle (SPV) that is owned by the Public Sector investors.
As this model requires the Public Energy Company to undertake numerous commercial activities, including trading and procuring the services of several third parties, the governance arrangements would necessarily be more complex and potentially less flexible. This is to ensure that the Public Energy Company has sufficient flexibility to be managed by its executive to undertake necessary day-to-day activities associated with running a trading commercial entity, while retaining long-term strategic setting with the owners.
The White Label Supply option would be a partnership arrangement with a licensed energy supply company. The Public Energy Company could be constituted as a bilateral contract between a Fully Licensed supply partner and the public sector owners. The length of these arrangements would be decided as part of the contract negotiations, but typically these are between three to five years. Recently announced White Label partnerships have fallen within this range, for example, Norwich City Council was a three-year agreement, Hackney Council was four years and Liverpool City Council five years.
In case of central and local government combined governance, the Public Energy Company could be established as an SPV controlled by the Public Sector partners and with contractual and governance arrangements defined in a way that would allow other interested parties to share in the costs, risks and benefits of the Public Energy Company's activities.
As the White Label model is significantly less onerous than Fully Licensed supply, we believe the establishment of governance arrangements to be more straightforward. However, as a minimum, the entity would have to be able to make and receive payments, be staffed, and have sufficient operational flexibility to respond to White Label contractual changes—particularly tariff changes.
| Delivery Option | Score (out of 10, ascending numerical order) |
|---|---|
| Option 1: Fully Licensed Supply | 7 |
| Option 2: White Label Supply | 7 |
| Option 3: Do Nothing | 1 |
Not for profit (explicit or de facto by commitment to re-invest)
As stated above, under Fully Licensed Supply, the supplier has full control over its operational activities and the use of revenues under "profit for a purpose". While not explicitly limited or otherwise restricted under White Label Supply, the absence of this explicit control sees this scored lower.
| Delivery Option | Score (out of 10, ascending numerical order) |
|---|---|
| Option 1: Fully Licensed Supply | 8 |
| Option 2: White Label Supply | 8 |
| Option 3: Do Nothing | 1 |
Set-up costs
As a result of the minimal regulatory obligations under the White Label Supply model and handling of the majority of tasks by the partner supplier, the primary set-up costs for White Label supply concern negotiating and agreeing terms with the potential fully licensed supplier partners. The main ongoing costs will be centred around customer acquisition from the staff involved and direct marketing costs.
However, setting up the Public Energy Company as a Fully Licensed supplier would be more expensive due to the workforce and IT systems needed, which somewhat balances out the greater revenue it can accrue. It is also more complicated, requiring specialist skillsto establish.
| Delivery Option | Score (out of 10, ascending numerical order) |
|---|---|
| Option 1: Fully Licensed Supply | 2 |
| Option 2: White Label Supply | 6 |
| Option 3: Do Nothing | 10 |
Complexity of governance for Scottish Government (simplicity, clarity and transparency)
See "Oversight and control" for relevant information. Depending upon the ownership and governance arrangements, greater local ownership through White Label Supply assumes greater control and representation at the decentralised level, which will free up resources for Scottish Government but require increased representation by Local Authorities.
| Delivery Option | Score (out of 10, ascending numerical order) |
|---|---|
| Option 1: Fully Licensed Supply | 6 |
| Option 2: White Label Supply | 6 |
| Option 3: Do Nothing | 1 |
Ability of the entity to engage Local Authorities in the decision-making process
The Scottish Government has indicated that they are keen for Local Authorities (and other public sector agencies such as education, healthcare and blue light services) to be engaged in the establishment and operation of the Public Energy Company, with such a prospect also being noted in the public engagement events.
To that end, the governance structure should be of such a nature that key public sector stakeholders invested in the success of the Public Energy Company are able to inform its decision-making process and wider strategic focus.
As with FLS - depending upon the ownership and governance arrangements - further local ownership and representation incorporating local authorities or other stakeholder groups may be possible through White Label Supply, but this needs to be balanced in terms of the resultant complexity of company structure and decision making.
Table 24 – Ability to engage Local Authorities score
| Delivery Option | Score (out of 10, ascending numerical order) |
|---|---|
| Option 1: Fully Licensed Supply | 3 |
| Option 2: White Label Supply | 7 |
| Option 3: Do Nothing | 1 |
Ability to share set-up and ongoing costs of the entity amongst Scottish Government and Local Authorities
The set up and on-going costs for the Public Energy Company could be significant. Therefore, the sharing of these costs amongst individual stakeholders allows for the spreading of risk. Under the Fully Licensed Supply option, these costs are centralised within Scottish Government itself – an outcome which is reflected in the scoring.
While the means by which funding is assigned by each individual agency will be confirmed, e.g. through allocated areas of responsibility, shareholder agreements, or individual budget setting processes, the Public Energy Company's structure should permit some element of co-funding, potentially commensurate with governance and control responsibilities.
| Delivery Option | Score (out of 10, ascending numerical order) |
|---|---|
| Option 1: Fully Licensed Supply | 5 |
| Option 2: White Label Supply | 5 |
| Option 3: Do Nothing | 1 |
4.5.4 Public policy objectives
Sustainability and ability to support growth in low carbon generation capacity
As a Fully Licensed Supplier, the Public Energy Company would have full control over its contracting arrangements. Therefore, it would have the full flexibility to sign offtake contracts as desired. Fully Licensed supply is also expected to generate more significant revenues in the long term which could provide greater opportunity for reinvestment.
Under typical White Label Supply, the Fully Licensed partner is normally the party responsible for the wholesale trading arrangements. Despite this, our experience of White Label providers in the market indicates that they may be amenable to allowing the Public Energy Company to take on greater responsibility for trading or to fold in specific generation assets it owns.
However, we would expect that these would be subject to the Public Energy Company taking on increased responsibility and likely lodging collateral with their partner to cover their trading.
| Delivery Option | Score (out of 10, ascending numerical order) |
|---|---|
| Option 1: Fully Licensed Supply | 7 |
| Option 2: White Label Supply | 7 |
| Option 3: Do Nothing | 1 |
Supporting social and economic cohesion
On the assumption of centralised control and funding, the Fully Licensed Supply option will enable greater coordination with wider Scottish Government policy.
Again, an ownership and governance that enables greater Local Authority involvement in the White Label company may permit a more focused targeting of initiatives to those areas and resident groups in greatest need.
| Delivery Option | Score (out of 10, ascending numerical order) |
|---|---|
| Option 1: Fully Licensed Supply | 7 |
| Option 2: White Label Supply | 7 |
| Option 3: Do Nothing | 1 |
Climate change mitigation and wider air quality issues
As with supporting own generation, a supply entity could allow the Public Energy Company to help support local low carbon generators through contracting arrangements. Again, this could be long term offtake agreements with developing generators to help ensure Project completion. A White Label supply option could also seek to meet this objective, through careful selection of and negotiation with the partner supplier to ensure aims are met. As such, although the mechanisms differ, it is deemed that the capacity to support this aim could be met under both structures
| Delivery Option | Score (out of 10, ascending numerical order) |
|---|---|
| Option 1: Fully Licensed Supply | 7 |
| Option 2: White Label Supply | 7 |
| Option 3: Do Nothing | 1 |
Ability to support longer-term decentralised energy systems
Municipal energy companies have the potential to facilitate investment in local generation (including cogeneration of heat and power and the emerging battery storage market) by offering long-term contracts to purchase the output from local assets; this is a key consideration for all power projects – the need to find a buyer for their output.
Many Local Authorities are considering greater participation in the energy market to facilitate the delivery of wider sustainability programmes. These variously include regeneration areas with "energy centres" that supply heat and power to residents, the public estate and commercial premises.
While Fully Licensed Supply assumes greater control, a decentralised White Label Supply option would enable a more targeted approach to support.
| Delivery Option | Score (out of 10, ascending numerical order) |
|---|---|
| Option 1: Fully Licensed Supply | 7 |
| Option 2: White Label Supply | 7 |
| Option 3: Do Nothing | 1 |
The resultant outcome of this assessment is presented inthe table on the following page.
| Option | Weighting % | Option 1: Fully Licensed Supply | Option 2: White Label Supply | Option 3: Counterfactual (Do Nothing) | |||
|---|---|---|---|---|---|---|---|
| Mandatory pass/fail questions | |||||||
| Can be fully implemented and be operational no later than March 2021 | N/A | No | Yes | Yes | |||
| Can be implemented in compliance with State aid legislation | N/A | Yes | Yes | Yes | |||
| Primary 1: Fuel Poverty | Score | Weighted Score | Score | Weighted Score | Score | Weighted Score | |
| Fuel poverty | 22.50% | 8 | 1.80 | 7 | 1.58 | 1 | 0.23 |
| Primary 2: Greater Consumer Choice | Score | Weighted Score | Score | Weighted Score | Score | Weighted Score | |
| Ability to address customer inertia | 6.25% | 7 | 0.44 | 7 | 0.44 | 1 | 0.06 |
| Complexity of offering or wider initiative for consumers | 4.50% | 7 | 0.32 | 7 | 0.32 | 1 | 0.05 |
| Flexibility and adaptability of delivery package | 4.50% | 8 | 0.36 | 7 | 0.32 | 1 | 0.05 |
| Flexibility and adaptability of product and service offerings | 4.50% | 8 | 0.36 | 6 | 0.27 | 1 | 0.05 |
| Quality and fairness of service | 8.50% | 7 | 0.60 | 7 | 0.60 | 1 | 0.09 |
| Primary 3: Economic Development | Score | Weighted Score | Score | Weighted Score | Score | Weighted Score | |
| Oversight and control | 6.25% | 7 | 0.44 | 7 | 0.44 | 1 | 0.06 |
| Not for profit (explicit or de facto by commitment to re-invest) | 6.25% | 8 | 0.50 | 8 | 0.50 | 1 | 0.06 |
| Set-up costs | 6.50% | 2 | 0.13 | 6 | 0.39 | 10 | 0.65 |
| Complexity of governance (simplicity, clarity and transparency) | 5.00% | 6 | 0.30 | 6 | 0.30 | 1 | 0.05 |
| Ability of the entity to engage Local Authorities in the decision making process | 5.25% | 3 | 0.16 | 7 | 0.37 | 1 | 0.05 |
| Ability to share set-up and ongoing costs of the entity amongst investors | 3.75% | 5 | 0.19 | 5 | 0.19 | 1 | 0.04 |
| Primary 4: Broader Scottish Government objectives | Score | Weighted Score | Score | Weighted Score | Score | Weighted Score | |
| Sustainability and ability to support growth in low carbon generation capability | 5.00% | 7 | 0.35 | 7 | 0.35 | 1 | 0.05 |
| Supporting social and economic cohesion | 3.75% | 7 | 0.26 | 7 | 0.26 | 1 | 0.04 |
| Climate change mitigation and wider aid quality issues | 3.75% | 7 | 0.26 | 7 | 0.26 | 1 | 0.04 |
| Ability to support longer-term decentralised energy systems | 3.75% | 7 | 0.26 | 7 | 0.26 | 1 | 0.04 |
| Total | 100.00% | N/A | 6.83 | 1.59 | |||
Conclusions
The purpose of this section has been to examine the objectives of Scottish Government in its efforts to establish a Public Energy Company and – building upon the SOC – assess a number of commercially and practically viable alternatives. In doing so, we note that main objectives of Scottish Government are:
- Addressing fuel poverty;
- Providing greater choice to consumers;
- Contributing to economic development; and
- Contributing to broader Scottish Government policy ambitions.
Based upon contributions from attendees at the public engagement events for the Public Energy Company, the main alternatives that emerged were White Label Supply (WLS) and Fully Licensed Supply (FLS).
Based upon the scoring of the proposed delivery options presented in Section 4.5, the White Label Supply approach emerges as the preferred option, and while the Fully Licensed Supply approach is also highly scored, it cannot be achieved in the required timescales for the implementation of the Public Energy Company.
Therefore, on the assumption that Scottish Government is not able to amend timescales for implementation of the Public Energy Company, the preferred delivery option is White Label Supply.
In pursuing a WLS option, the Public Sector investors would be following an approach already utilised by over a dozen Local Authorities across the GB energy market, most notably Yorkshire's White Rose Energy and Liverpool's LECCy (both White Label Suppliers established with Robin Hood Energy as a partner).
Should it be decided to undertake the option of establishing a Public Energy Company as a White Label Supplier, it would have to determine the ownership structure and governance of the company, which would include Public Sector ownership as a means by which to promote greater engagement at the local level and more focused targeting of any specific policy initiatives.
It should be noted that, in the long run, White Label and Fully Licensed supply are not mutually exclusive and that Scottish Government may – based upon its experiences of undertaking a WLS operation – look in time to develop a successor in the form of a Fully Licensed operation.
However, based upon the scoring results, the following sections therefore detail the risks and high-level economic model associated with the preferred delivery option of White Label supply.
4.6 Risks and SWOT Analysis
The scoring of the proposed delivery options yielded the White Label Supply (WLS) option as the preferred outcome. This section therefore details SWOT analysis associated with this method of establishing the Public Energy Company. The Risk Register can be found at Appendix A.
SWOT analysis
Given the points raised in the preceding section, the table below presents a SWOT analysis of the preferred delivery model.
Table 31 - SWOT analysis for White Label supply
Strengths
- Lower overall cost compared to Fully Licensed Supply option
- Meets Scottish Government's stated policy commitment within timescales
- Ability to tap into wider central-local government relationships
- Source of (limited) revenue
- Low administrative burden
- Compliance risks borne by partner supplier
- Market and trading risks borne by partner supplier
- Rapid market entry
- Public-backed White Label is a proven approach
- Lower loan/ capital cost risk
Weaknesses
- Lower levels of revenue accrued compared to Fully Licensed Supply option
- Customers "belong" to the partner supplier, meaning they may be lost if the Public Energy Company's contract with the partner ends, and ensuring the retention of customers may result in the relinquishing of value by the Public Energy Company
- Limited scope for capturing and reinvesting local energy spend under retention payments
- Limited opportunity for incorporating longer-term objectives, e.g. self-generation, compared to Fully Licensed Supply
- Low potential for innovation in the face of industry/market change
- Exposure to reputational risk from actions of partner supplier's actions
- Uncertain process at end of contract with partner supplier-e.g. no certainty of renewal, alternative partner provider
Opportunities
- Provision of local tariff/contracts to help local residents/ businesses with more suitable products where a "sympathetic" licensed supplier partner can provide reasonable terms on an ongoing basis
- Potential scale of Scottish market likely to be attractive partnership option
- Chance to deliver smart meters to customers - particularly prepayment customers - with support of partner
- Chance to engage customers around energy efficiency and promote local energy efficiency schemes
- Use White Label to build up brand and experience with a view to moving to wider energy-as-a-service offerings and potentially to a Fully Licensed Supply model
- Potential to negotiate PPAs to support local generation
- Potential to secure ECO and WHD support from participating third party supplier
Threats
- Partner supplier cannot be found/fails to deliver under contract/ceases trading
- Partner supplier breaches compliance requirements, exposing the Public Energy Company to reputational or financial risk
- Long term viability of the model in question, as it relies on the continuing appetite of the partner supplier after initial contract period
- Local Authorities may cease participation in the Public Energy Company and establish their own supply entities
- Competition from incumbents, particularly other Local Authority-backed suppliers, e.g. Robin Hood Energy, Bristol Energy
- Partner supplier not being a mandatory WHD/ECO participant and does not wish to be so voluntarily
- Customer uptake below expectation, resulting in exposure to financial/reputational risk
- Regulatory and policy framework changes that puts model at risk
- Poor execution of implementation plan
Source: Cornwall Insight analysis
4.7 Economic modelling of the preferred delivery option
Based upon the conclusions of Section 4.5, the scoring of the proposed delivery options yielded the WLS option as the preferred outcome. Not only was the Fully Licensed Supply Option not deliverable in the desired timeframes for Scottish Government, it also carries significantly greater risk and investment of time and resources than the WLS option, rendering it, despite the similarity of the qualitative scoring, the less desirable option to be pursued This section therefore details the high-level economic model associated with this method of establishing the Public Energy Company.
4.7.5 Approach to Economic Model
The Economic Model is intended to provide an indicative overview of the potential high-level revenue and costs for the Public Energy Company. This is to support and inform the comprehensive view provided by the detailed Commercial Model.
The Economic Model has been populated with indicative values based upon a combination of Cornwall Insight's understanding of the terms achieved by – and experiences of – other Local Authority White Label Suppliers, and also based upon our understanding of the energy supply market.
These figures are intended to provide a high-level representative view of the likely situation for the Public Energy Company. They should not be relied upon in isolation given the rapid changes currently ongoing in the energy market, the highly bespoke nature of White Label negotiations, the unique position of Scottish Government in its pursuit of a national (rather than regional or municipal) White Label offering to underpin the Public Energy Company, and the remaining flexibility in what WLS model will ultimately be progressed.
In the following sections and at Appendix F we have detailed our reasoning behind the initial inputs to the model.
All cash amounts are presented in real terms using Year One as a base year.
4.7.6 Scenarios
We have provided three different scenarios for the economic model:
- Core. This case is based upon our understanding of the market and the current operating conditions. This should be taken as the 'core assumption'. Under this scenario the Public Energy Company is profitable by Year Two under the Acquisition approach and Year Five under the Retention approach (under the Economic Modelling assumptions – this may change following the application of commercial assumptions in the Financial Modelling)
- Optimistic. This scenario represents a 'best case' scenario for the Public Energy Company, where set-up and operating costs are reduced to the possible minimum and customer acquisition rates are above the expected level. Is scenario, the Public Energy Company is profitable by Year Three under the Retention Model and Year Two under the Acquisition Model and net profitable by Year Three (under the Economic Modelling assumptions – this may change following the application of commercial assumptions in the Financial Modelling)
- Pessimistic. This scenario is intended to represent a 'worst case' scenario where the Public Energy Company faces higher costs to set-up and operate as an ongoing concern and is less successful in attracting customers than anticipated. Under this scenario the Public Energy Company does not break even by the end of the ten-year modelling horizon under the Retention Model or the Acquisition Model (under the Economic Modelling assumptions – this may change following the application of commercial assumptions in the Financial Modelling).
4.7.7 Consumer gain
In examining the potential indicative consumer gain associated with the establishment of the Public Energy Company, we have employed tariff data as of 1 January 2019 on the following basis.
We assume three tariff offerings for the Public Energy Company:
- Scottish Value, i.e. the standard "White Label" tariff offering for the majority of the customer base;
- Scottish Economy, i.e. the means-tested tariff offering for those in fuel poverty; and
- Scottish Premium, i.e. the socially minded tariff that sees customers pay a higher rate to contribute to a fund to support wider measures to alleviate fuel poverty.
The following analysis is based upon the use of the Scottish Value tariff as a counterfactual against which the prevailing situation is assessed.
Prevailing view
As at 1 January 2019, Cornwall Insight analysis indicates that the standard variable tariff (SVT) being paid by those dual fuel domestic accounts[21] in the Scottish Hydro (SSE) region (North Scotland) equates to an annual energy spend of £1,154. The corresponding figure for accounts in the Scottish Power region (South Scotland) is £1,125 per annum.
- These figures are used as a proxy for those customers that are disengaged from the energy market and still with their regional incumbent supplier
In examining customer information for both regions, Cornwall Insight analysis indicates that SSE has approximately 500,000 customer accounts in its incumbent region, while Scottish Power has approximately 950,000 customer accounts in its incumbent region.
According to the most recent information published by Ofgem[22], approximately 70% of SSE's customers are on an SVT, with approximately 38% of Scottish Power's customers on their SVT.
We therefore assume that 70% of the 500,000 SSE accounts in their incumbent region are on an SVT (i.e. 350,000), with 38% of the 950,000 Scottish Power accounts (361,000 accounts) being the corresponding figure.
- This therefore equates to a weighted average annual energy spend of £1,139 for the Scottish market as a whole
Counterfactual
As an indicator of the Scottish Economy tariff, we have used the lowest cost tariff in each of the two regions as offered by Robin Hood Energy. This company has been used as a basis for the tariffs because:
- It is a high-profile, socially motivated and publicly-owned energy company;
- Given the company's presence as the White Label provider to Local Authorities across the country, we anticipate that it would be interested in becoming Scottish Government's White Label partner and that it is a suitable benchmark for a Public Energy Company White Label Supplier for Scotland; and
- Robin Hood has a wide variety of white label tariffs active in the market, which are all priced at, or cheaper than the company's own-branded (i.e. non-White Label) tariff prices
NB. We note that this is not the lowest cost tariff available on the market, and therefore this represents an indicative assessment of the gains that could be achieved by customers switching to the Public Energy Company.
For the purpose of this analysis, the counterfactual is based upon Robin Hood Energy's lowest cost tariff as offered in the two regions, this being the company's "Green Fixed" product, which was quoted at £1,100 per annum and £1,068 per annum in the Scottish Hydro and Scottish Power regions respectively.
- Using the assumed customer numbers indicated above, this equates to a weighted average for the disengaged Scottish market as a whole of £1,084 per annum.
This therefore implies a minimum indicative differential of £55 per annum that would be achieved as a benefit by customers that switch to the Public Energy Company.
This information is summarised in below:
| Incumbent region: Scottish Hydro (SSE) | Incumbent region: Scottish Power | |
|---|---|---|
| SSE SVT (implied £ per annum spend) | £1,154 | £1,125 |
| Scottish Power SVT (implied £ per annum spend) | £1,155 | £1,125 |
| Total customer accounts with incumbent in region (approx.) | 500,000 | 950,000 |
| Estimated percentage of TOTAL customer base on SVT | 70% | 38% |
| Implied supplier customer accounts on SVT in incumbent region, i.e. assumed "disengaged" Scottish customer base | 350,000 | 361,000 |
| Weighted average tariff for "disengaged" Scottish customer base (implied £ per annum spend) | £1,139 | |
| Robin Hood Energy Green Fixed (implied £ per annum spend) | £1,100 | £1,068 |
| Implied weighted average tariff for potential Scottish customer base (implied £ per annum spend) | £1,084 | |
| Indicative consumer benefit with switching from SVT to Public Energy Company (implied £ per annum spend) | £55 | |
| Core case customer numbers by end of Year Five | 220,000 | |
| Implied cumulative benefit Years One to Five inclusive (real terms using Year One as a base year) | £12.1mn | |
Source: Cornwall Insight analysis, Ofgem, company statements
Based upon the assumed customer growth in the Core case of the economic model (details of which are provided in Table 40), by the end of Year Five, the Public Energy Company will have approximately 220,000 customers – representing a cumulative indicative benefit of £12.1mn over the first five years of operation[23].
However, on the assumption that each customer that becomes part of the Public Energy Company's portfolio would continue to receive the benefit of being on a tariff lower than their (former) incumbent supplier's default, this figure represents the minimum initial achievable customer benefit in the absence of the anticipated enduring benefits.
As stated above, we assume that the Public Energy Company is not the lowest cost tariff on the market. However, given that the operation of the Public Energy Company will lead to greater engagement in the energy market, some customers may see a greater initial benefit from changing supplier. In addition, a disengaged customer may make an initial switch to the Public Energy Company and then make further switches to achieve a greater cumulative benefit.
Consumer group Which? state that the benefits associated with switching supplier range from £163 per annum to £412 per annum[24], while Ofgem indicate an average figure of £200 from switching supplier[25] - this being the figure cited by Islington Borough Council in its establishment of its White Label, Angelic Energy[26].
Utilising the Ofgem figure of a £200 saving from an initial switch, if the Public Energy Company were able to achieve this initial saving for all of the customers that switch to it, this would imply a total initial achievable customer benefit of £44mn.
As such, the figure of £12.1mn represents a potential understatement of the consumer benefits associated with the tariffs of the Public Energy Company.
In addition, it does not consider the redistributive effects associated with the Scottish Economy and Scottish Premium tariffs. The size of the benefit under these tariffs will depend of the uptake of the two tariffs, and so cannot by directly quantified at this time. These tariffs, although notionally yielding no net benefit - would be expected to yield longer term social benefits and externalities.
4.8 Conclusions
The Scottish Government's March 2018 Strategic Outline Case[27] presented a shortlist of four delivery options for the Public Energy Company – the deadline for the establishment of which is the end of the current Parliament in 2021.
The purpose of this Economic Case was to revisit the shortlist in light of Cornwall Insight's research and market experience and the outcome of the public engagement events undertaken regarding the Public Energy Company - building upon the content of the Strategic Case. These events yielded three potential delivery options as follows:
- Option 1: Fully Licensed Supply
- A Public Energy Company would be established as a licenced gas and electricity supplier with full responsibility for complying with the associated industry codes and regulatory requirements. Here, the owners of the Public Energy Company would have full control over the type and structure of tariffs it offers.
- Option 2: White Label Supply
- This would involve contracting with an existing licensed supplier, enabling the Public Sector investors to provide branded and tailored energy tariffs (electricity, gas, and dual fuel) to residential customers. The Public Energy Company would be established by partnering with an existing licensed supplier, thereby enabling the Public Sector owners to provide tailored and branded energy tariffs (electricity, gas, and dual fuel) to residential customers in its area.
- Option 3: Counterfactual (Do Nothing)
- The Scottish Government would continue with existing policies and would not take any supplemental effort to establish energy supply activity in Scotland.
These delivery options were assessed against the main objectives of the Scottish Government in establishing the Public Energy Company, these being
- Addressing fuel poverty
- The ability to mitigate or reduce fuel poverty among the population of Scotland. This can include, but may not be limited to, areas such as the ability to offer targeted or cross-subsidised tariffs, funding for initiatives to improve energy efficiency, interaction with housing policy, etc.
- The ability to mitigate or reduce fuel poverty among the population of Scotland. This can include, but may not be limited to, areas such as the ability to offer targeted or cross-subsidised tariffs, funding for initiatives to improve energy efficiency, interaction with housing policy, etc.
- Providing greater choice to consumers
- This includes a number of aspects but is synonymous with encouraging customers that have not previously sought to engage with the energy market to do so - notably through improved switching and the provision of information and services to facilitate this.
- This includes a number of aspects but is synonymous with encouraging customers that have not previously sought to engage with the energy market to do so - notably through improved switching and the provision of information and services to facilitate this.
- Contributing to economic development
- The chosen delivery option must ensure that the Scottish Government's policy objectives are delivered effectively and that it is able to influence the strategic direction of the Public Energy Company to facilitate wider economic growth
- The chosen delivery option must ensure that the Scottish Government's policy objectives are delivered effectively and that it is able to influence the strategic direction of the Public Energy Company to facilitate wider economic growth
- Contributing to broader Scottish Government policy ambitions.
- The ability to directly or indirectly support investment in low carbon and renewable electricity generation capacity and/or green gas, either through investment or through structured tariffs, as well as aiding in areas such as social cohesion.
The pursuit of each of these objectives was scored and assigned a weighting, reflecting the importance of each of them in the overall process. Based upon this assessment, the White Label Supplyapproach emerges as the preferred option, and while the Fully Licensed Supply approach is also highly scored, it cannot be achieved in the required timescales for the implementation of the Public Energy Company by 2021.
Therefore, on the assumption that the Scottish Government is not willing to amend its timescales for implementation of the Public Energy Company, and the significant cost differential between the two options, as well as the significant difference in exposure to risk, the preferred delivery option is White Label Supply.
Should the option of becoming a White Label supplier be chosen, the ownership structure and governance of the company would need to be determined, which may include local authorities as a means by which to promote greater engagement at the local level and more focused targeting of any specific policy initiatives.
During the set-up phase, industry and legal specialists will be required to assist with negotiating contracts and services, translating a business plan into a Target Operating Model, developing strategies for trading and pricing, marketing and public engagement and wider social initiatives.
The commercial and reputational risks and their mitigation would need to be a core element of the creation of the Public Energy Company, and we therefore recommend that each stage of the company's development has a Risk Register to ensure that these are monitored and addressed accordingly.
Based on the counterfactual against the lowest cost tariff in each of the two regions as offered by Robin Hood Energy, under the Core case scenario a cumulative indicative benefit of £12.4m (based on the Economic modelling) over the first five years of operation for the modelled 220,000 customers is expected. This is based on the difference between Robin Hood Energy's tariff as the proxy for the Public Energy Company's offering and the incumbent default tariffs offered in the Scottish region.
In pursuing a WLS option, Public Sector investors would be following an approach already utilised by over a dozen local authorities across the GB energy market, most notably Yorkshire's White Rose Energy and Liverpool's LECCy (both White Label suppliers established with Robin Hood Energy as a partner).
It should be noted that, in the long run, White Label and Fully Licensed supply are not mutually exclusive and that the Public Sector investors may – based upon its experiences of undertaking a WLS operation – look in time to develop a successor in the form of a fully licensed operation.
Contact
Email: christine.mckay@gov.scot
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