Whether you own a business or deal with business energy procurement for your organisation, as a consumer who has experience in fully fixed domestic energy tariffs for your household, you may never have heard of the term “non-commodity costs”.
This is because historically, only the largest consumers of energy, such as steel forgery’s, large manufacturers and airports, had access to the types of contracts which separated commodity costs and non-commodity costs, but also allowed businesses to fix certain elements and take advantage of reductions in wholesale costs – a potential significant amount of money for large consumers who can benefit from even the slightest dips, or can install measures to dampen the impact of increases by installing new operational practices and/or technologies, which may take a long time to complete – whilst securing long-term stability of volatile and increasing markets.
The energy bill relief scheme, (EBRS), effective from 1 October 2022 and ending 30 March 2023, sought to support businesses affected by rising energy costs as a result of volatility in the wholesale market due to global, economic and political tensions, and set a supported price of 21.1p/kWh for electricity and 7.5p/kWh for gas, with the UK Government covering the difference in wholesale costs, and its supported price for Winter 2022, however announced it would not offer support toward non-commodity costs, bringing an unfamiliar term for most businesses and consumers into the spotlight.
The EBRS announcement confused a lot of customers and suppliers alike, who found it difficult to calculate what their end unit rate would be, given the volatility of commodity and non-commodity markets, leaving many customers on fully fixed tariffs with the belief that as they pay 1 fixed unit rate, that their delivered energy price would be 21.1p/kWh for electricity and 7.5p/kWh for gas, however this was not the case, and many were left paying over 100% more than they had budgeted for.
Delivered energy rates are made up of 3 core components, or groups which charges are categorised.
1. Commodity (Wholesale cost of energy)
2. Transmission and Distribution charges / use of systems and networks (Non-Commodity)
3. Government taxes and levies (Non-Commodity)
Energy companies pay these fees and pass the cost onto their customers either as a “passed-through” charge highlighted on the bill individually for each element, or calculated for the term of the contract and added to the fixed unit cost of energy as a non-displayed charge, which usually also includes a risk premium set by suppliers to account for forecast increases or in the event of unforeseen increases.
In 2011, non-commodity costs accounted for around 36% of energy prices. In 2022, this rose to around 70% and is predicted to reach 80% over the next decade and continue to rise.
Non-commodity costs make up a large proportion of a typical business energy bill, these costs fall into three categories:
Renewable Subsidies:
Over the last decade, renewables have been heavily supported by government subsidy schemes, such as the Renewable Obligation (RO), Feed-in Tariff (FIT) and Contracts for Difference (CFD) schemes.
Although the RO and FiT scheme have now closed, the costs associated with those generation projects still appear on consumer bills. These costs are generally impacted by inflation, load factors and national demand.
Depending on your business risk appetite, you might want to fix these renewable subsidy costs or pass-through with a reconciliation.
Use of System Costs:
The costs to use the energy system, including TNUoS - the cost for using the transmission network; DUoS - for using your local distribution network; and BSUoS - for the grid to balance demand and supply at all times.
With increased intermittency on the grid these balancing costs are becoming even more unpredictable. Many businesses benefit from managing their business operations around peak times to see savings on these costs.
To benefit from triad management, respond to system stress events, load balancing or peak shaving, you would need these costs to be passed-through.
Taxes and other Support Levies:
The Climate Change Levy (CCL), Capacity Market, VAT and any other taxes or third-party costs. These costs apply to all customers and are added to all invoices.
If you plan to shift your consumption out of the Capacity Market applicable hours, ensure that you pass-through these costs for maximum savings.
The past few years had seen non-commodity levies and taxes become a steadily increasing proportion of overall energy costs. Whilst the cost wholesale energy is moving in the right direction, for now, customers will still see an increase in overall fixed costs as costs associated to non-commodity continue to rise dramatically.
An increase in Transmission and Distribution Losses
The most marked increases relate to charges for transmission and distribution losses.
These charges change depending upon location and voltage of your supply but typically, amount to approximately 10% of the market commodity price. For example, the losses cost equates to c.£12.5 / MWh, (1.25p/kWh), when the commodity price is £125 / MWh. In an ever-increasing market, if the price is £400, then the 10% is £40 / MWh, (4p/kWh), and so potentially the losses charge can be as much as historical commodity costs.
An often and significant variable is the time at which the contract/losses are secured. Although all consumers will experience a significant increase, the variable is the timing of when the increase will apply. The mechanism within contracts will apply at different times, signifying the importance of securing long-term non-commodity charges prior to forecast increases, and employing an effective strategy for the purchasing of wholesale commodities.
Unfortunately, organisations that are contracting now, regardless of contract type, will feel a significant impact.
Shape (Contract Cost) Electricity
This accounts for the difference between baseload, the electricity you can buy, and consumption that falls outside of these baseload periods. Most of the volume is within the baseload period, however Shape charges have been particularly impacted negatively by market turmoil and have increased proportionally more than baseload costs.
Historically, shape charges accounted for about 3-4% of the total delivered price. With the Shape price having a link to commodity price, it means that the shape charges have increased by a number of multiples to the extent that this cost can again equate to almost the same as historic commodity prices.
Under these current market conditions, suppliers, as a maximum, will usually only fix Shape charges for 12 months, anything further than that can pose an amount of risk to the supplier, although certain suppliers will offer up the opportunity for high consuming clients of trusted partners to fix this long-term and benefit from stability for a number of years.
UIG (unidentified gas) (Non-Commodity Charge)
These are regulated charges which cover the costs of losses within the gas network. The increases will be charged at the next rate-setting point regardless of contract type. In October 2021, the new charging regime coupled with the commodity cost increase saw an increase of 2000%.
We are just starting to see the impact from October 2022 and on the initial data we have so far, the increase is averaging 380%, but with an extensive range around this number. The charge is very meter specific but can make up about 10%-20% of a contract’s total delivered costs.
Additional Drivers of increased Non-Commodity Costs
Thanks to safeguarding measures created by OFGEM, customers of failed energy suppliers are automatically transferred to new suppliers without disruption.
These customer transfers incur a cost to the new suppliers, to honour credit balances, on board customer accounts and to purchase sufficient energy volume to meet the extra demand – a significant cost during a time when energy costs are so high and the customer has agreed a historical contract at a much lower rate.
In 2022, many suppliers exited the market as a result of soaring wholesale energy prices. Delivered rates exceeded as much as £1/kWh for electricity and 25p/kWh for gas.
With the domestic tariff caps imposed by OFGEM, higher market rates cannot be reflected in the commodity element on domestic bills, which is the reason why so many suppliers have gone bust and results in the new supplier making a significant loss.
These costs, as well as an abundance of unpaid industry charges, will be passed on to all consumers, including business customers, in the form of higher non-commodity charges.
When it comes to unpaid industry charges from failing suppliers, the biggest shortfall is Renewable Obligation (RO), a charge initially introduced in 2002 to support large-scale renewable energy projects, outlining the amount of renewable energy that must be sourced by energy suppliers to limit the UK's reliance on fossil fuels.
Any remaining outstanding amounts will be recouped by increasing the share that other consumers pay in a process called mutualisation, which has been triggered for the 5th consecutive year in a row as a result of 100s of millions of £’s of RO certificates unproduced and unpaid.
In addition to higher RO costs, there will also be an uplift in Feed-in Tariff (FiT) and Capacity Market (CM).
On top of higher DUoS, LDZ and RO costs, there are further cost rises to come – due to the need to boost the current supply uncertainties to meet demand. This falls under National Grid’s balancing services – or the Balancing Services Use of System (BSUoS) non-commodity charge.
The current high cost of power means balancing services are being priced higher to reflect market conditions. For example, National Grid spent recently £86m in just one week (up to £4k per MWh) to pay the UK’s last remaining coal-fired power stations to produce energy.
As a result, we are looking at an uplift in BSUoS costs of around £3/MWh.
Outlook / Forecast
In 2018, before the political and economic tensions arising from Covid-19 and the Russia-Ukraine conflict, Non-Commodity costs, the various network and policy charges associated with UK’s ongoing low-carbon transition, were estimated to increase by up to 45% over the next decade. As a result, forecasts indicated that electricity costs would increase by 55% and gas by 21%.
However, due to unforeseen circumstances resulting in shortened supply arising from events such as the cut-off of gas supply from Russia to Europe, and the sabotage of NS1 and NS2 pipelines, which lead to funding toward coal power plants being re-commissioned to avoid blackouts, energy consumers being paid to use less energy during surges and cold weather spells, failing energy suppliers leaving behind millions of £s of debt, and Government action to help consumers and businesses impacted by rising energy costs, as well as a growing concern in new generation to move away from over-reliance on foreign supplies, supporting climate change agendas, these costs, as well as wholesale energy costs, have increased far higher than predicted, accelerating forecasts by 10 years or more, as debts are re-couped and the raising of funds for upgrades in systems and new energy generation is needed.
It is estimated that non-commodity costs in 2022 make up around 70% of fixed energy rates and will continue to climb to around 80% over the next decade.
This means that when the energy market is at 16p/kWh for electricity, 2018 predictions with a 45% increase in non-commodity costs, estimated that the delivered energy cost would be 31.75p/kWh, (16p wholesale / 15.75p non-commodity), prior to supplier profit / risk premiums. Under the same wholesale market conditions, with new predictions estimating non-commodity costs will make up 80% of delivered energy costs, the delivered energy cost can be expected to be 53p/kWh, (16p wholesale / 37p non-commodity), prior to supplier risk premiums.
A 38p/kWh unit rate in today’s market, with 70% non-commodity costs is made up of 26.6p non-commodity and 11.4p commodity (wholesale).
As FCU are currently able to offer products which result in end unit rates, fixed or flexible, around the 2018 predictions and much lower than market forecasts, it is worthwhile considering a more strategic long-term approach to energy purchasing so to avoid any further unforeseen increases resulting from ongoing conflicts, global and political tensions, and expected pressures resulting from additional strain on the energy network with the transition to electric vehicles as more users draw electricity from the grid during periods of low-supply.
What’s Next?
Businesses unfortunately often only look at their energy contracts at point of renewal, when in reality, the most effective way to secure long-term stability is by monitoring the market throughout your existing deal and continuously extending your contract throughout, in effect, receiving historical pricing year on year.
For example, a customer on a 5-year contract who renews in year 5 will receive 5 years’ worth of increases all at once and will experience a significant increase in costs, whereas a customer on a 5-year contract who extends for 1 year at year 2 of their contract, and every year throughout, will receive year 2 pricing in year 6, year 3 pricing in year 7, and so on.
Unfortunately, ill-advised organisations, or organisations who are not equipped to have an on-site energy procurement team, dedicated solely to the forward forecasting, and purchasing of energy, will feel the immediate and significant impact of rising non-commodity costs, negatively affecting the overall expenditure and budget of the organisation, without much time to install effective processes which will make much of an impact to their bottom line.
If you are approaching the end of your contract, now is the time to consider more strategic options for energy purchasing which allow you stability of fixed non-commodity costs, whilst providing you with the flexibility to benefit from reductions in wholesale costs.
If you’re on a fixed contract with both the commodity and non-commodity elements agreed upfront, then you’re protected for now, but you should not avoid renewing your contracts and leave this to the last minute, as future purchasing is always recommended by industry experts.
If, like many large consumers, you have your non-commodity costs fixed long-term, then your account manager will be regularly in touch as usual to provide market insight to help you decide on the best time to purchase your commodity cost.
As for the non-commodity charges, there’s not a lot you can do to reduce the additional costs coming your way, but there are measures you can take to become more energy efficient without disrupting your operation. – speak to us about the funding we have access to for energy and carbon emissions reduction measures, if you haven’t already, as now is the time to look even harder and consider more seriously a change in energy behaviours and consumption reduction opportunities which have the potential to make a significant material difference in the coming years.
How can FCU help?
Our special partnerships with significant players in the supply of commercial energy and access to multi-billion $ investment funds, allows us access to bespoke energy tariffs which are not available to all energy consultants / brokers, meaning we can offer unique proposals for sustainable energy purchasing strategies, generation of green energy, energy reduction and carbon emissions reduction technology, sustainability accreditation, large-scale energy storage, and much more.
The good news is that due to our special partnerships with top suppliers, First Choice Utilities have been selected to offer contracts to our customers which allow long-term security against rising non-commodity costs and the flexibility to receive a reduction when wholesale markets decline and are now available to lower consuming customers than previously.
We are able to offer and fully manage the ongoing purchasing required in this type of agreement, whilst gathering market data to justify and aid your decision throughout.
By collecting information from partnered energy suppliers and top industry analysts, our experts are available on hand to advise you of current market drivers and provide you with the best support in making critical decisions toward the sustainability of your business.
We analyse future trends to take advantage of forecast dips in wholesale prices so that even when on-commodity costs increase, your business can benefit from a reduction in overall costs when available.
Our special partnerships with significant players in the supply of commercial energy and access to multi-billion $ investment funds, allows us access to bespoke energy tariffs which are not available to all energy consultants / brokers, meaning we can offer unique proposals for sustainable energy purchasing strategies, generation of green energy, energy reduction and carbon emissions reduction technology, sustainability accreditation, large-scale energy storage, and much more.
For free independent advice, contact your FCU account manager on their direct line, drop us an email, web enquiry, or give us a call.
Appendix
Market Forecast January 2023
(Data correct at time of publication)
Non-Commodity Forecast, August 2018
(Credit: SMS Plc)
Electricity unit rate composition, 2019, pre Covid-19 and Russia-Ukraine Conflict
(Credit: SSE Plc)
All information is provided in for information purposes only. The information contained within this bulletin has been collected from a mixture of industry professionals and energy suppliers, is provided in good faith and is deemed to be true and accurate at time of publication. First Choice Utilities LTD, its employees, directors, and/or partner companies are not responsible for the use of this information outside of its own organisation or decisions made resulting from the use of this information either directly or indirectly. The use of this information is in accordance with the terms of service of First Choice Utilities LTD, available at www.firstchoice-utilities.com or are available at request.