It’s not an easy time to be an Australian energy company CEO. Environmental groups have never liked you, customers always resent you and now you’re a daily headline and a convenient punching bag for all sides of politics.
We have big problems in our domestic energy industry and it’s great to talk about these things, but there was possibly a bit too much self pity and political finger pointing at the recent Australian Financial Review Energy Summit. Misery loves company, but to be fair, this train left the station almost a decade ago. If you haven’t prepared for the current environment, someone should be asking questions.
Amongst the general dejection and hand wringing, you could be excused for missing one of the more self-serving comments from the assembled pride of CEO’s, who seem collectively to have agreed it was all someone else’s fault and forgotten about one key person: the customer.
Paul Broad is a veteran of the energy markets and CEO of Snowy Hydro, one of Australia’s iconic energy businesses. His comments late on day two of the summit illustrate why the industry leadership is still far too inwardly focused on preserving its status quo, rather than embracing new, disruptive technology which will deliver a more reliable and lower cost product to its customers.
"Mr Broad said the energy industry should be aiming to meet all demand, and that "demand response" measures were little better than cutting customers off that would prefer to be using power.
"You know what demand management really is? Blackouts. That's what happens – you turn it off," Mr Broad said.
This is simply incorrect. Demand management is what sophisticated energy industries of the 21st century do to best optimise their business model from a cost, reliability and sustainability perspective. It’s also what the Australian Energy Market Operator (AEMO) and the Australian Renewable Energy Agency (ARENA) have sensibly just committed over $25 million to in order to avoid extreme peak demand this summer.
There is a significant global industry in demand management. Very smart mathematicians and software engineers have developed algorithms which use real time demand management at a C&I customer level to “firm up” intermittent renewables generation.
At a very basic level here in Australia retailers have for years been paying large industrial users to dial back consumption on peak demand days. In fact this has become an important source of recurring revenue for the nation’s large aluminium smelters.
So why would someone so knowledgeable about the electricity markets make such a statement about an established practice which relieves peak energy demand constraints and contributes to lower customer energy costs?
Price capping - making money from peak prices
Well, the answer lies in those customer costs. Snowy Hydro has one of the largest portfolios of generation in the NEM. But this isn’t 24 hour, baseload generation like Loy Yang or Bayswater, it’s peaking generation. As a peak generator, Snowy has two key sources of revenue. It makes a bit of money from selling generation during times of peak demand, but it makes a whole lot more from selling insurance.
Insurance is sold to electricity retailers in the form of price caps, which guarantee a maximum price which retailers need to pay for their generation on the wholesale market. Not surprisingly, this cost gets passed on to the customer.
If you are a small retailer with no generation – remember the 'Big 3' control the majority of our generation - you are horribly exposed to the risk of high electricity wholesale prices.
These prices can soar to $15,000 per MWh in times of peak demand, while your retail customers are paying you less than $100. If you had to buy this generation on the open market, you would go out of business pretty quickly. Here’s where Snowy comes in, with a “cap contract” that insures you pay no more than $300 per MWh for your energy.
The reason Snowy Hydro can sell these price cap products – and they make a lot of money from selling them – is that they effectively control the peak prices. Like many markets, the wholesale electricity market is based on supply and demand. When demand is high, suppliers can push up prices. Snowy has the largest portfolio of rapid start generation which can provide supply at peak times and therefore push down electricity prices. This allows them to manage the underlying price risk behind the cap contracts they sell.
It's a very efficient market which, over the past 20 years, has led to low wholesale prices and widespread availability of low cost price caps.
However, over the past year, there have been some key events which have distorted this market in favour of Snowy. The withdrawal of so much baseload capacity, combined with chronic gas shortage and a capital strike on new, non-renewable generation, has moved the market significantly in favour of suppliers. Prices have soared and price volatility has dramatically increased, both of which play into the hands of a portfolio and business model like Snowy Hydro.
With little hope of any clear, near-term government policy to stimulate new generation this looks like a winning hand for Snowy, at least for the next decade until more generation comes online, conveniently in the form of Snowy 2.0. That is unless some annoying new technology arrives to upset the apple cart by restoring the supply-demand balance and reducing wholesale prices. Demand management is the disruptive technology which threatens to do just that.
Overseas markets have been able to reduce customer demand through energy saving technology and government-sponsored energy efficiency programmes. Low cost, smart technology that automatically switches off appliances or automatically regulates the flow of power to ensure you use the minimum necessary to run your appliances is available now. Australia needs to embrace this technology, not vilify it.
Demand management is not the blackouts Mr Broad suggests. It’s the smart way for customers to protect themselves from the increasing energy prices which are providing such a boon to Snowy’s shareholders (who incidentally comprise the Federal, NSW and Victorian governments).
I took a walk around the Australian Utility Conference conference in Melbourne this week and saw a host of tried and tested technologies, both international and Australian designed, which will help you manage your own peak demand and reduce your energy costs. Australians won’t find them for sale from Snowy Hydro, but we can save ourselves a lot of money and be doing our bit to lower the overall energy costs across the country.
Richard McIndoe is the Head of Edge Electrons and a former head of Energy Australia.