Has energy boss Ian Marchant’s plan to appease the regulator and help customers backfired?

WHEN Scottish & Southern Energy chief executive Ian Marchant stood up at the Policy Exchange’s energy pricing debate, he knew his speech would be followed closely by media and consumer groups already delighted with the course he was steering for the energy giant.

A few hours earlier, Scotland’s second-largest company had seemingly bowed to calls from politicians to sell the power it generates on the open wholesale markets, and now he was hammering home his advantage with a customers’ charter, simultaneously announced to the London Stock Exchange.

The surprise move by SSE was met with a fanfare of headlines proclaiming the end of the stranglehold the “Big Six” energy companies have long enjoyed over the electricity market.

But even as Labour leader Ed Miliband was claiming the credit for the company’s change of heart, others were already calling Marchant’s changes “cosmetic”, and an exercise in “smoke and mirrors”. By Friday, the move had been eclipsed by news that Britain’s energy giants were hiking their margins while consumers faced their highest bills ever. What goodwill Marchant had gained with the media was swept away in the furore.

However, Marchant’s moves to simplify bills and bring transparency to pricing looked to have anticipated the regulator’s demands. Such dances with the regulator, Ofgem, are part and parcel of working in the energy industry, with companies always trying to stay one step ahead to draw the watchdog’s teeth and avoid more heavy-handed action further down the line.

Marchant is one of Britain’s most seasoned performers, who knows the routine well. Last week he lavished praised on Ofgem while simultaneously highlighting an unspecified “huge amount of good work” the energy companies do. It was a charm offensive on all fronts. But the 50-year-old has also shown that he is prepared to take on Ofgem. In 2009 he lambasted its network transmission charges, making clear it was responsible for SSE ditching a plan to upgrade a gas station in Aberdeenshire because the system penalised power generation in Scotland. Two days after Marchant sang the regulator’s praises in London he was back on the attack, issuing a statement that refuted Ofgem’s claims of higher margins.

The long-serving chief executive of SSE (it recently adopted the abbreviated name change) has never been afraid to plough his own furrow, pushing the company into renewables to a much greater extent than its rivals, and recently turning his back on nuclear power by pulling SSE out of a consortium planning to build the UK’s next generation of reactors.

But he has always walked a fine line, keeping the interests of the £12.5 billion company and its shareholders at heart despite championing carbon reduction measures as a prominent member of the UK Business Council for Sustainable Energy and chairman of the Scotland 2020 Delivery Group.

Marchant has managed to keep both the City and the green lobby on-side, a rare trick in a controversial industry that is trying to balance the country’s energy needs and investors’ demands against concerns over environmental blight.

The announcement that SSE would start selling all its energy on the “day ahead” wholesale market is supposed to add transparency to electricity pricing by making public the costs at which the customer-facing part of the business buys its power. It also anticipates energy market reform by Ofgem, which has plans to force the big six firms to sell at least 20 per cent of the power they generate through an auction system that would allow smaller suppliers to access more energy and build up their share of the consumer market.

However, it is not clear whether SSE’s plans will help the small suppliers – those outside the six giant integrated firms, who control 95 per cent of the consumer market and generate 80 per cent of the UK’s electricity – or that it will satisfy Ofgem’s demands. First Utility, one of the larger “independent” electricity suppliers, was one of the leading critics of SSE’s move last week, saying that by choosing to sell on the day ahead market, the energy giant was making sure longer-term deals that would give the small companies a secure base to expand from remain closed.

Lakis Athanasiou, an analysts at Evolution Securities, says the debate is a red herring. “All the bleating [from the small companies, Ofgem and politicians] is a nonsense,” he says. “The reason small firms can’t break into the market is that it’s a big, expensive industry and you need a lot of scale.”

However, he adds that there is little evidence that consumers are being ripped off as a consequence. He says the six suppliers can hardly be said to be profiteering. Analysis is difficult, but Athanasiou says the big six have probably been operating on margins of about 5 per cent.

In fact, Friday’s announcement by Ofgem suggests margins last year fell much lower than that with the average profit on dual fuel bills of just £15 per customer, a tiny mark-up showing how little room for manoeuvre there is in the industry.

However, Ofgem revealed that this year those margins will rise to £125 per customer, before falling to about £90 a customer next year. The sharp rise prompted outrage and claims of profiteering by the industry.

An average dual-fuel bill is now £1,345 a year following recent price rises from all the big suppliers. But the politicians who want to support squeezed householders face a big dilemma. Even if they force margins down to previous levels, they could only knock about 5 per cent off the average family’s bill, equivalent to a bill of about £1,270. And it’s not clear how they could force margins down while at the same time demanding that the big firms invest in the expensive infrastructure needed to keep Britain’s lights on into the next decade.

Increased competition is unlikely to have much effect either, unless someone comes up with a way of generating electricity more cheaply. In fact, carbon emission targets brought in by the same politicians who lambast high energy bills mean the cost of production is set to increase for the foreseeable future.

With high energy bills here to stay, politicians and Ofgem have ratcheted up the rhetoric precisely because they know little can be done, says Athanasiou.

The latest battle cries seem to have focused on the issue of transparency, and that is one thing that SSE’s decision to buy and sell on the day ahead market is designed to do.

In this respect, Marchant has danced ahead of the regulator, and he will be hoping that if others among the big six follow suit, Ofgem will be less inclined to try forcing more competition upon them by making the generating companies sell to independents on favourable terms – the only way they can realistically gain a foothold in the market.

Athanasiou says it is the customer charter unveiled as Marchant addressed the Policy Exchange that may turn out to be the more significant news from SSE last week. The company was able to double its customer base in the years after Marchant took over because it could cross-subsidise its marketing operation from profits made by its coal-burning power stations.

Now the winds have shifted against coal, and Athanasiou says rival EDF, with its nuclear power plants, may soon gain a similar advantage. Conceivably, EDF may use its advantage in a similar way to poach its competitors’ customers aggressively. By concentrating on customer service, SSE could be shoring itself up against such an attack.

Criticising Ofgem’s “snapshot estimate” of margins in the industry, SSE pointed out that the figure is “entirely theoretical” and has varied wildly over time.

The company said that in its last financial year it made a profit of £266 million for supplying domestic customers, which equates to around £62 or 6 per cent for homes on a dual-fuel deal. It does not expect this margin to change significantly for the current financial year, though it has already said that its financial results for the first half will be “substantially lower” than last year.

So the drive to build trust with its customers, which Marchant said has been lost, may be part of a survival strategy.

Marchant’s argument is that the interests of company and customers are aligned. He has said in the past that the only way to bring bills down is for households to use less energy through improved insulation and better efficiency.

That could be achieved through a mixture of government grants and higher prices, and in such a declining market, SSE’s size might matter less. Marchant has said before he thinks the company can continue growing its market share by attracting new customers for the foreseeable future. He also says he hates to see his product wasted – with bills at £1,345 and rising, more and more people are likely to agree with him.

Marchant’s shrewd leadership has proved a canny way of keeping rumoured predators at bay, but any weakness in its trading performance could once again prompt talk of a takeover. SSE is a relatively small fish in a European energy market dominated by giant multinationals such as EDF and Iberdrola. These titans built themselves up through consolidation, and SSE has long been touted as a tasty morsel for one of its larger rivals to swallow.