Prices up despite lower costs

BY TIM HUNTER

HOUSEHOLDS AROUND the country are again facing rising electricity costs as major power companies announce price increases.

The hikes follow a period where the cost of power on the wholesale market has been unusually low, so what's going on?

State-owned Mighty River Power has announced increases for customers of its Mercury brand in Auckland from April, while fellow SOE Genesis has been mailing customers in the Auckland area for the same reason. Its Wellington customers will learn of pending price rises later this month.

The average increase for Genesis customers in Auckland will be about 8%, spokesman Richard Gordon said.

"The increases are due to a range of factors: increases in lines charges of up to 4% in Auckland, increase in costs to supply and the need to maintain an adequate return for our business."

He was unable to elaborate on the nature of supply cost increases.

Customers in West Auckland and North Shore would face rises averaging 3.4%, he said.

Mercury also cited lines company charges as a factor in its price increase of around 3%. Its letter to customers read: "Our prices will be changing from April 1, 2010. This is due to changes in local lines company charges, general cost pressures and the need to support continued investment in generation plant."

In Auckland, the lines company concerned is Vector and its charges represent about 40-45% of the household electricity bill. Last month, it announced a price increase from April 1 averaging 2.3%, or about $1.80 a month for a typical household. In many cases, therefore, Vector's price rise is not the biggest driver of price rises.

NZX-listed Contact Energy has increased prices only in Auckland so far this year, but told the stock exchange last month it needed retail prices to rise.

Reporting half-year net profit of $88 million, up 63% on the same period last year, Contact CEO David Baldwin said with new geothermal generation requiring a wholesale price of around $80 a megawatt hour to be economic, "Contact's retail margins are unsustainably low to enable this investment, which must be committed shortly to ensure ongoing security of supply".

Despite the company's demand for rising prices, Contact's salesmen are going door-to-door in Auckland, assuring potential customers it won't raise prices until March next year at the earliest.

Meridian, meanwhile, says it has a price freeze until October.

"We pretty much have prices under review all the time," said spokesman Alan Seay, "but our customers did experience a series of rises a year to 18 months ago, when we increased prices twice in a year."

Meridian's last increase was about 6% this time last year, he said.

Wholesale prices in the six months to December were low – Contact reported it paid an average of $46.12 a megawatt/hour for electricity compared to $85.93 for the same period a year earlier. The reason was good rainfall and snowmelt filling the reservoirs, producing a plentiful supply of cheap hydro power.

The effect was that Contact made heaps of money on its retail business in the latest half-year but hardly anything on wholesale – the sale of electricity from its power stations such as the Clyde dam and Otahuhu B.

In numbers, the amounts were $197m and $28m respectively.

Clearly, retail margins have recently been extremely high but Contact argues it should base its retail prices on whether they make money when wholesale prices are at least $80 a MW/h, for example in a dry winter, when expensive gas-fired power stations must be cranked up.

(At $45 a MW/h, Contact's gas-fired Otahuhu B plant loses money on every MW it produces – perhaps a reason it has been shut down for maintenance and hasn't produced any power since November.) Contact spokesman Jonathan Hill said retail margins of 7-9% at $80 a MW/h would be considered appropriate.

Are prices high enough for that? Contact's results don't reveal enough detail to be sure, but the answer appears to be no. Rough estimates put the margin at 5% or below.

While margins could easily double or triple when wholesale prices are low, Contact sees those situations as short-term anomalies.

"There's a series of costs that have to be reflected in tariffs," said Hill. "We can't have value transferred from wholesale to retail depending on the weather."

Mighty River's general manager of consumer markets, James Munro, endorses Contact's view. Investment decisions, he said, have to be based on a view that prices will provide a return in the long term. Flash-in-the-pan high margins don't necessarily provide comfort for future returns.

"Prices need to be high enough to support investment and our view is over recent years prices have been high enough. But the country's energy demand keeps going up."

But whatever the justification, ultimately a competitive market should set prices. If Contact, for example, raised prices too much it could lose customers to rivals.

Genesis and Contact have both publicly asserted the retail market is highly competitive. Latest data on customer switching from the Electricity Commission show more than 20,000 customers changed their power supplier every month in the last year – well above the 2008 average of 17,500 – so companies may be fighting harder for business than before.

Meridian's Seay suggested some reasons for increased competition: "It's possibly due to the hydro storage position, which is positive going into autumn.

"There's new generation coming on-stream – we've just commissioned West Wind and other companies have brought more generation on-stream, so you would expect more competition."

Munro said increasing generation had led to increased retail competition.

"I've been in this job 18 months and the competition's been getting more intense every month. Competition may restrain prices in certain areas, but I'd say a 3% Mercury price increase is at the lower end of the scale of increases announced recently."

Mercury had increased market share, he said, and Contact had lost share – "but, boy, are they competing incredibly intensely at the moment".

If more competition is happening, it will make every price rise a perilous move. Customers should be alert to rising prices and shop around for the best deal.

To compare power prices for your home, go to http://www.consumer.org.nz/powerswitch/

- © Fairfax NZ News