Providing Some Balance

[FB.]

I don't expect this to be popular, but reading through SSE's ("Southern Electric") report today, I'd like to highlight the following:

"...energy market conditions remain challenging...."

"...prices achieved for generating electricity have been weak..."

"...higher gas and non-energy costs unfortunately had to be reflected in the increase in household energy prices which SSE implemented last month...."

"...The Energy Supply business accounted for 8.1% of SSE's adjusted operating profit...."

"...profit margin was 1.5%...."

"...While some observers may choose to criticise SSE for making a profit and paying a dividend, I believe that profit and dividend allow SSE to employ people, pay tax, provide services that customers need, make investments that keep the lights on and create jobs, while providing an income return that shareholders like pension funds need...."

So go ahead; keep flogging a dead horse - profit margins don't get much lower. The amount which companies could cut prices is negligible due to red tape, the need for investment, and the cost of absorbing subsidies for renewables (sorry - I'm a fan of renewables but we all have to cough up more on our bills or otherwise fund the subsidies/Feed-in-Tariffs).

Flog a bit more and they might end up re-nationalised, with a whole army of government paper-pushers moving in and taking their cut. Sure; it'll be "not-for-profit" but all those middle men civil servants that the government will install will want to take their cut; thus pushing up prices.
If re-nationalised; with no incentive to compete because nationalised entities have no competitors, technological progress - and probably investment - will dramatically slow; gradually pushing prices much higher than they are today.

Finally, the big utility companies are a major cash-payer for pension funds. Anyone with a private pension should be wary of clobbering any company too hard, because with interest rates at rock-bottom, with bond yields at rock-bottom, then where, exactly, will cash flows come from to pay the pensions of private sector workers?

 

[FB.]

->
And how ironic that I just noticed a statement from Panasonic (aka Sanyo) who said:

"...must achieve at least a 5 percent operating profit target...."

So in order to achieve that, they expect to close, dispose of, or downsize a number of their business ventures, with an expected loss of 10000 jobs.

 

[Vegelen]

Providing some imbalance using F.U.D?

 

[pcollins]

Apologies if I have completely missed the point, but they've just announced an increase in profits on this time last year of 40%, a profit of £397 million.

I don't see how they can possibly plead poverty...

 

[FB.]

Apologies if I have completely missed the point, but they've just announced an increase in profits on this time last year of 40%, a profit of £397 million.

I don't see how they can possibly plead poverty...

The profits are coming off a very low level from last year.
From H1 2010 to H1 2011 the profits slumped from £386m to £287m, and have now recovered back to £398m. So the company's H1 profit is a mere 3% higher than it was two years ago.

 

[Vegelen]

The energy market is like an inversion of the milk market.
The farmer creates the milk (generator) and sells at a low price to the supermarket (retailer), whom buys the milk and sells on at a reasonable profit.
Centrica (generator) creates electricity from gas at significant profit and sells it on to various electrical retailing arms, whom sell it on to us at significantly less profit.
The retail arms complain about not making enough profit, just like the farmers.
Lots of money is made in the energy sector sector, which is why national governments around Europe and beyond have bought controlling interests in these energy companies.
The problem with the energy sector just like the milk sector is how this profit is distributed.
Is it fair for domestic customers to complain that there energy bills have more than doubled in the last 7-8 years?
Why have certain energy companies suddenly become so unprofitable, when prices have doubled?
The answer lies in the restructuring of these companies and the distribution of wealth creation.
FB is complaining about the retail arms of the energy sector, with low profit margins .
Shouldn't a wise investor be dumping these overinflated shares, with high price to earnings ratios and invest in something different?
Independent investors have little loyalty to any brand or company, investing in what they anticipate to be profitable.
FB sounds like he's got more than an emotional investment in the energy sector.
If I was holding shares that weren't performing, with high P/E ratios, i'd sell them and not come on to an open forum and defend the companies concerned.

 

[FB.]

So now you're blaming the generators of the power, rather than those who retail it to consumers?


In which case, if power generation is so profitable, why not start up a business - buy a big field and fill it with subsidised solar panels or wind turbines.
It's gotta be a fast track to your first £million - apparently.

 

[Vegelen]

I dont think domestic energy customers are getting a fair deal.
Just like I dont think farmers are getting a fair price for the milk they sell.
Lots of money is being generated in this sector and not distributed fairly.
Privatisation of the energy market, was supposed to introduce greater competition, cheaper energy prices, more investment in the energy sector etc etc.
The experiment has been subverted and hasn't progressed as one would have anticipated.
Energy prices are being inflated by speculation and the energy market is being manipulated, for profit at customers expense.

 

[FB.]

I think you'll find that several major factors are at play:

1. The UK is not self-sufficient for gas, so has to buy-in a lot.

2. Following from #1, this causes a big surge in demand in winter as everybody wants what's available; big demand, limited supply.

3. Quantitative Easing (injecting more money into the economy) is reducing the value of existing money and bouts of QE from the Federal Reserve have a high correlation with bouts of commodity inflation which then knocks-on to consumers; the price of goods isn't going up - it's the value of money going down!

4. Low interest rates make it very easy for speculators to borrow money to buy contracts for delivery of essential commodities (oil, gas etc), then make big profits from selling-on those contracts. The cost of paying interest on the borrowed money is negligible.

So I suggest if you want fuel/energy prices to remain subdued:

1. Make the UK less dependent on "foreign" fuels - and find a way to avoid our huge swings in demand between winter and summer in order to stabilse prices.

2. Stop quantitative easing (but at the expense of the economy slipping back into recession).

3. Put interest rates back up to deter speculators borrowing money for virtually no cost (again at the risk of causing a recession and home reposessions).

In summary, the previous government led us into a right mess - where all outcomes are bad. We just have to choose which poison we'd like.

 

[Vegelen]

If power generation is so profitable, why not start up a business - buy a big field and fill it with subsidised solar panels or wind turbines.
It's gotta be a fast track to your first £million - apparently.

Actually investment in solar generation and many other complimentary energy saving technologies has turned out to be a far better investment for me.
I am following a long term plan to remove the influence of the electricity grid from us.
This wont stop me having sympathy with less fortunate others, who constantly suffer because of successive energy price rises, in preference to wealthier shareholders living in quasi, disconnected parallel existences, complaining about level of profitability.

 

[FB.]

investment in solar generation and many other complimentary energy saving technologies has turned out to be a far better investment for me.

Yes, but the subsidy you receive which makes it attractive is also having to be paid for by other bill-payers.

The 45p FiT rate is ten times the typical wholesale rate, and three times the typical retail rate. Someone, somewhere has to pay extra on their bill in order for the electricity providers to be able to pay you a big mark-up on the electricity's actual value.

Eventually we can hope that the increase in renewables will - as reported in Germany - bring down peak rates for electricity. But in the meantime other bill payers are having to bear the pain before they may see a gain.

Many are complaining of the Chancellor's swing towards gas power stations. Morals and green values aside; gas is cheap and very flexible with power stations able to provide reliable output (unlike renewables) and are able to respond quickly to changes in demand from minute-to-minute (unlike coal or nuclear). In these hard times, most people want - need - cheap.

 

[Vegelen]

Q/ If "Gas is cheap" and electricity is easy to generate using modern gas turbines, why is electricity so expensive by the time it gets to the end user?
A/ Energy generators are making very large profits using cheap gas to generate electricity for very large short term gains, selling this energy on to retailing arms that make significantly less profit.
Why is the price of electricity much more expensive on the energy markets, that its cost of generation?
Speculation and manipulation of the energy price market has forced energy prices significantly higher, enhancing profitability of the major energy generators.

 

[Gavin A]

frankly, I don't care if they're not making much right now, as they'll be rolling in it come 2016 once the cheap coal plants go, and they can then charge a higher rate for their gas generation.

Fair play to them though if they actually do invest in the 1.2GW high capacity pump storage facilities they've got in the pipeline for scotland - much needed that is, particularly in Scotland.

I believe I'm right though that the tax payer is pumping £20 billion in to the national grid up to 2020, through which they're able to deliver their £300 million+ a year profits, so I think they're getting a pretty good deal really.

 

[Gavin A]

Yes, but the subsidy you receive which makes it attractive is also having to be paid for by other bill-payers.

The 45p FiT rate is ten times the typical wholesale rate, and three times the typical retail rate. Someone, somewhere has to pay extra on their bill in order for the electricity providers to be able to pay you a big mark-up on the electricity's actual value.

Eventually we can hope that the increase in renewables will - as reported in Germany - bring down peak rates for electricity. But in the meantime other bill payers are having to bear the pain before they may see a gain.

Many are complaining of the Chancellor's swing towards gas power stations. Morals and green values aside; gas is cheap and very flexible with power stations able to provide reliable output (unlike renewables) and are able to respond quickly to changes in demand from minute-to-minute (unlike coal or nuclear). In these hard times, most people want - need - cheap.

gas isn't cheap at all, and is rapidly getting a lot less cheap - it's more than 50% higher than coal.

It won't even be cost competitive with wind or solar (without subsidies) come some time around 2015-20, so the gas plants will increasingly be used as peaking stations and to back up variable renewables... or alternatively renewables can be seen as being used to cut gas consumption levels over the year and reduce the countries energy costs (and the massively expensive requirement to develop huge amounts of additional storage facilities).

 

[FB.]

I believe I'm right though that the tax payer is pumping £20 billion in to the national grid up to 2020, through which they're able to deliver their £300 million+ a year profits, so I think they're getting a pretty good deal really.

National Grid themselves are raising £22-25billion to upgrade the grid over the next several years. Shareholders have already coughed-up £billions in order to get the work underway. Yes, that's right - shareholders have dug deep into their own pockets in order to raise money for National Grid to start the work. In mid-2010 I sent a cheque for thousands of pounds to National Grid; paying my part of the initial phase of fund-raising to pay for the work. So as a shareholder it isn't all gravy. Sometimes a company makes a cash-call and investors either have to cough-up potentially thousands of pounds each in hard cash, or have their shareholding diluted.

 

[Vegelen]

So as a shareholder it isn't all gravy. Sometimes a company makes a cash-call and investors either have to cough-up potentially thousands of pounds each in hard cash, or have their shareholding diluted
​

Or sell their shares...

 

[brman]

I'm with F.B on this one. Just to pick up on one point - I find it very frustrating when people grab headline figures like 40% increase in profit to demonstrate they are laughing all the way to the bank. I could have increased my profit by 1000% but if it was £1 last month then it is still only £10 this month and I am still going broke quick
Even absolute figures like £300 million profits a year is meaningless unless it is related back to cashflow and turnover.

if the (net I hope?) margin is 1.5% then there doesn't seem to be much squeezing left to do. It does make me angry when politicians jump on the bandwagon and start telling companies they have to reduce prices because the poor old public can't afford it without giving any thought to where the money will come from.

 

[Vegelen]

Yes, but the 45p solar subsidy you receive which makes it attractive is also having to be paid for by other bill-payers.

Q/How does National Grid invest in the electricity and gas networks it maintains?
A/ With the assistance of money obtained from its shareholders AND Ofgem approved subsidies- paid for by UK consumers via increases in their respective energy bills which amounts to £22 billion from 2013 to 2021.
If I were a shareholder in an energy business receiving £22 billion in subsidies to enhance an energy network I maintained, I wouldnt feel so hard done by.
Stake holders in companies receiving significant external investment like National Grid aren't taking all the risks, so shouldn't expect all the returns.
It is the UK energy customers that are effectively underwriting a large proportion of the investment in the UK energy networks, not the shareholders as FB might like us to believe.

 

[Gavin A]

National Grid themselves are raising £22-25billion to upgrade the grid over the next several years. Shareholders have already coughed-up £billions in order to get the work underway. Yes, that's right - shareholders have dug deep into their own pockets in order to raise money for National Grid to start the work. In mid-2010 I sent a cheque for thousands of pounds to National Grid; paying my part of the initial phase of fund-raising to pay for the work. So as a shareholder it isn't all gravy. Sometimes a company makes a cash-call and investors either have to cough-up potentially thousands of pounds each in hard cash, or have their shareholding diluted.

hmm, you could be right, I'm not clear on the details, I was taking this from a presentation I'd watched last night by the head of OFgem where I'm sure he said 'WE are investing £20 billion in upgrading the national grid before 2020'.

As he works for Ofgem, I was assuming the we referred to funds Ofgem directly manages, but it looks like it's more like they regulate the charges the National Grid is allowed to make in respect to grid upgrades etc so effectively authorised the spending rather than actually funding it.

 

[FB.]

Or sell their shares...

Usually when a company makes such an announcement, the share price crashes in a matter of seconds at most - before you can even log-in to your broker's webite or dial the phone number.

Often such statements will be released before the market opens, with the result that the market has already marked-down the share price the millisecond the market opens; virtually nobody manages to get out.

So investors are then left with a big drop in the value of their shares, and a tough decision on whether to cough-up even more dosh (throw good money after bad?) or whether to have their shareholding diluted.

 

[FB.]

hmm, you could be right, I'm not clear on the details, I was taking this from a presentation I'd watched last night by the head of OFgem where I'm sure he said 'WE are investing £20 billion in upgrading the national grid before 2020'.

As he works for Ofgem, I was assuming the we referred to funds Ofgem directly manages, but it looks like it's more like they regulate the charges the National Grid is allowed to make in respect to grid upgrades etc so effectively authorised the spending rather than actually funding it.

Yes, the "WE" actually means that OFGEM have declared that National Grid must invest a certain amount of money into the grid, for specific purposes, over the next several years.
National Grid have to find that money up-front. They are then allowed to earn about 10% return on that investment.
However, a very large amount of that investment will have to be borrowed - if they can - otherwise shareholders will have to cough up a lot more. If the money has to be borrowed, they will have to pay 5-6% interest on that. The remaining 4-5% will be their profit margin after interest costs.

Or, with the entire of National Grid "worth" about £25bn, for a literal doubling in the size of the company (assuming £25bn additional investment) they can ask the shareholders to "double-up" and pay an amount into the company equal to the current holding. So if I held £10k worth of National Grid shares and they could not borrow the money needed, I'd be looking at having to fork-out another ten grand to fund this expansion - and with the additional risks that the government or regulatory environment may change and end up losing that money if the government "did a railtrack" and seized the company.

As I've said a few times: if investment is required, there must be a reasonable rate of return allowed (what's the current ROI for solar?) and there must be a reasonably predictable outlook for the risk:reward.
Most of the UK's nuclear projects have been scrapped because the government has been dithering with publising a clear set of rules, expectations or allowed rates of return on investment.

 

[FB.]

Q/How does National Grid invest in the electricity and gas networks it maintains?
A/ With the assistance of money obtained from its shareholders AND Ofgem approved subsidies- paid for by UK consumers via increases in their respective energy bills which amounts to £22 billion from 2013 to 2021.
If I were a shareholder in an energy business receiving £22 billion in subsidies to enhance an energy network I maintained, I wouldnt feel so hard done by.
Stake holders in companies receiving significant external investment like National Grid aren't taking all the risks, so shouldn't expect all the returns.
It is the UK energy customers that are effectively underwriting a large proportion of the investment in the UK energy networks, not the shareholders as FB might like us to believe.

No.
National Grid is allowed to charge other companies - the gas/electricity retailers - a fee for the use of their networks. National Grid also have to ensure that sufficient power stations are operating at all times to maintain grid voltage within acceptable ranges.
The fee that National Grid is allowed to charge is based on a percentage of National Grid's asset value. The allowed rate of return is around 6%, inflation-linked to RPI-X.
So £100million spent on assets is allowed to make a profit of around £6m each year thereafter, for a "payback" time of about twelve years; worse than "investing" in domestic solar PV.

Hence National Grid have gross assets around £50bn, and make an annual profit from those assets of around £3.5bn (some of the assets are US-based, with a slightly different pricing structure).

 

[FB.]

Looking at SSE (Scottish & Southern Energy; Southern Electric).

Gross assets: £20bn
Annual post-tax profit: £1.1bn

Return on assets: 5.5%

Doesn't look so impressive, does it?

These companies really are operating on wafer-thin margins and low rates of return on investment.

Would you bother to invest in multi-year, multi-£billion projects - and run the risk of political mood swings - with only a 5.5% return on investment?

As I said in the National Grid example: try selling solar PV to people with a 5.5% ROI and see how many you sell.

 

[Vegelen]

SSE (Scottish & Southern Energy; Southern Electric).

Gross assets: £20bn
Annual post-tax profit: £1.1bn

Return on assets: 5.5%

Doesn't look so impressive, does it?

These companies really are operating on wafer-thin margins and low rates of return on investment.

Q/ Why invest in such a company then FB?

A/ The returns are stable, comparitively low risk and fairly predictable- Everyone will need power today, tommorrow, next week and beyond.

I accept your point about investment in National Grid v government regulation v rate of return. etc.

 

[FB.]

.
Article in the Telegraph:

Shell CEO throws weight behind Government’s 'dash for gas’ - Telegraph

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