BIU expert on the energy price outlook

For a new Energy Management supplement PE asked BIU energy trader Andrew Anderson-Shepherd for his views on the impact of energy costs on the process sector:

What is the outlook for energy prices over the next few years in terms of the likely scale of increases and volatility for manufacturers in the process industries?

Predicting where electricity and gas prices may be in the future is practically impossible due to the ever changing impact of external influences such a climate, economics and politics. We refer to these factors as fundamentals in the industry and they affect prices on a daily basis, long and short-term.

One could say that with diminishing resources and no clear direction in terms of new generational capacity prices could be expected to increase. However, if the world economy doesn’t pick up, then the demand won’t be there and prices could well fall. There is also the issue of new sources of supply such as gas from ‘fracking’ which could be as much of a game changer in the UK as it has started to become in the US.

At present, how well equipped are UK process manufacturers to deal with the on-going and imminent changes in the energy market?

If UK process manufacturers have a relatively simple model that combines an on-going programme of energy efficiency measures, and a robust risk-managed energy procurement strategy, then they should be able to protect themselves from market volatility whilst ensuring cost mitigation.

However, if they take a ‘suck it and see’ approach then sooner or later they will come unstuck.

With an appreciation of the factors affecting energy prices and some sort of procurement plan in place these changes can be managed successfully.

What steps should companies in the process industries now be taking to minimise the impact of these trends (and the Energy Bill), and where are the main pitfalls and opportunities in this complex area?

The key to managing volatility in the energy markets is to ensure that you have a strategy in place rather than some vague notion that you will ‘do something’ if prices start to move.

The energy market is complex and requires many years of analysis to understand it fully but, if nothing else, start reading the market reports you receive or employ someone who understands the market and is able to put it into a format that you (and the Board) understand.

The key is to have a risk-managed strategy in place which all parties sign up to and which has a Cap, Triggers and a Floor in place to protect the business from the upside, whilst allowing for benefits to be gained from downside movements.

Flexible contracts allow you to access the wholesale markets a number of years into the future and allow purchases to be made at the most opportune time. But, it must be stressed that these markets only tend to trade up to three years ahead so beyond that it is more difficult to mitigate against possible future trends.

In general, the pitfalls come from not understanding your business in terms of its energy profile into the future and thereby not being able to take advantage of opportunities when prices start to fall or take action when prices start to rise.

Don’t forget that energy prices are traded commodities and as such are highly susceptible to volatility. If you can’t manage this volatility then you potentially lose control over one of your largest budget items.

Do you have any particular advice for heavy energy-users, such as metals, chemicals and paper manufacturers?

Unless you have access to all the tools it makes sense to employ a consultant who can work with you to understand your particular requirements. A good consultant will work with you to develop a consensual strategic energy procurement plan and look to take advantage of prices - trading both the day ahead, prompt and forward curve to arrive at a “blend” of trades to give the business a good overall average price based on a risk-managed approach to energy procurement. This will help with forecasting and budgeting.

Any other comments?

UK manufacturers are operating in increasingly challenging times, not least because of the unpredictability of energy prices. With stringent UK Government policy now being imposed - and increased pressures to reduce carbon output, there is greater pressure for manufacturers to reduce energy consumption. Added to this, European laws have not yet followed suit which makes for an uneven playing field for manufacturers trading in the global market.