Energising manufacturers

Posted on 3 Mar 2010 by The Manufacturer

Rising energy prices is one of the biggest worries facing British manufacturers in 2010, according to research released by the Carbon Trust. Tim Brown reports.

If we turn the clock back two or three years, published UK industrial energy prices compared to the other major European economies were higher and were increasing at a considerably faster rate. The current situation has changed markedly, largely due to the recession, and UK energy prices are now competitive with the official European market.

Tom McCorrigle, electricity advisor for the Major Energy Users’ Council, acknowledges that the disparity between the published continental European and UK energy prices has diminished. However, he says it is difficult to ascertain the true commercial and industrial prices that are available in Europe. “There are all sorts of discounts that are available in Europe,” says McCorrigle, “whereas over here we are very transparent in the published markets.”

In addition, he says it has become common practice in the UK for energy providers to require upfront payments from commercial clients before agreeing to a supply contract. “There are no credit issues in European Union countries like there are over here, which is a very big issue at the moment. I’m negotiating a deal for a commercial organisation at the moment whose annual spend is about £5m, and the supplier wants £1m upfront before they will even consider supplying them. You won’t find that in Europe even if it is the same energy companies operating in both markets.

“Companies are hurting here financially at the moment. It is difficult enough for companies to stay solvent without having to have this unreasonable upfront deposit, certainly when energy companies are reporting such huge profits.” McCorrigle says that if a company cannot comply with a an upfront payment scheme, they may then be subject to ‘out of contract’ rates which can more than double a company’s energy costs.

Regardless of the current competitive landscape between the UK and continental European energy market, an even larger energy issue lies in wait over the next decade. “We’re facing massive challenges in the energy situation over the next decade,” says EEF energy advisor, Roger Salomone. The challenges he refers to relate to the continued availability of electricity in this country. A potential deficiency in infrastructure exists which threatens the very security of supply, particularly in peak times.

“Basically, there is a huge amount of investment needed in both aging energy assets such as infrastructure and generation equipment and obviously bringing online a lot of low carbon generation capability,” says Salomone. “The estimation is that we need about £200bn investment in the UK over the next 10 years. Will the current UK market arrangements actually deliver that and crucially will they deliver it at the lowest possible cost so as to minimise the impact on the consumer?”

The government is currently actively engaged in stimulating the energy market to attempt to ensure the required infrastructure is established to sure up security of supply. Nuclear energy and renewables such as wind are largely the focus of the government’s energy strategy. However, there are numerous issues relating to whether these plans — which are at an unprecedented scale — can be successfully delivered in the required timeframes.

“There is still an issue of finance, particularly having an effective enough carbon price to bring nuclear online,” says Salomone. “There are no subsidies for nuclear like there are for renewable energy, which are absolutely vital. Without those subsidies there wouldn’t be any renewable energy being built, or at least certainly not anywhere near the volume that is being built and planned to be built.”

“The Energy challenges faced by this country over the next decades are huge, says Ian Plunkett, Manufacturing Partner at BDO LLP. “These are both tremendously exciting for UK industry in terms of new markets and also terrifying as energy costs will surely trend upwards, reducing business competitiveness. No political party will allow the lights to go out, but they will surely allow prices to go up. Protection of the consumer by allowing the tax payer to bear the burden on incentivising new build has its limits.”

Furthermore, according to Plunkett, the UK 2020 emissions reduction targets will soon be beyond reach unless a huge construction effort is undertaken. “Offshore wind isnt even technically feasible yet at the depths and the distances from shore needed to constitute over 33 GW (40% of current needs) of our power,” says Plunkett. “When the wind doesn’t blow, we will also need coal and gas fired back up plant which represents significant extra new build, as the existing fleet is decommissioned in the middle of this decade. The dichotomy is that low carbon generation requires certainty over long term carbon prices, but buoyant carbon prices disincentivise private capital from building fossil back up plant. It’s clear that wholesale power markets will need to develop new pricing mechanisms, perhaps paying for plant to just to be ready, in order to enable the Government new energy mix plan to work.

Despite the macho wind power construction targets and related funding issued by the government, many UK companies with potential capabilities relevant to the industry are still failing to commit interest. “From talking to companies,” says Salomone, “it appears that the market is still seen as now as having a huge amount of risk as it is a market that is dependent on subsidies. Policy has changed considerably during the past five or ten years, so I think there is a perception that there is a high degree of political risk involved in getting involved in this market.”

According to Salomone, the most effective solution to ensure businesses are confident of a return on investment in both nuclear and renewables is to encourage a more stable carbon price. “If you’re a small business and you have quite a successful business in your core market, expanding or allocating capacity to the offshore wind market is a bit of gamble. So really it is about de-risking that environment by ensuring things such as stable carbon price that will be pretty key to making sure this really does take off.”