When The Levee Breaks
Recently there have been many news stories and conference papers calling for the Government to save businesses from rising electricity and gas costs otherwise they will “go under”. In fact, all sectors of the Australian economy are starting to feel the effects of an energy cost tsunami coming towards them. The Eastern States are starting to see up a twofold increase in natural gas prices as a result of the burgeoning LNG export industry buying up domestic gas combined with a lack of competition (WA has already gone through a threefold increase). “Gold Plating” of electricity networks and the so-called Solar PV induced “Death Spiral” are conspiring to push electricity supply charges up. Overlaying all this is the policy objective of achieving reductions in CO2 emissions through the renewable energy scheme putting additional short to medium term costs on electricity.
Whenever I read these articles it reminds me of a song made famous by Led Zeppelin called “When the Levee Breaks”.
"When the Levee Breaks" is a blues song first written and recorded by husband and wife Kansas Joe McCoy and Memphis Minnie in 1929. The song is in reaction to the upheaval caused by the Great Mississippi Flood of 1927.
In the Led Zeppelin version the lyrics can be interpreted to have many meanings but I like to interpret it as a message to take action yourself to fix a problem and not wait for somebody else to do it such as the Government (because they wont).
"If it keeps on rainin', levee's goin' to break"
If gas prices and electricity prices continue to go up then businesses are going to be hit by a cost tsunami that’s going to inundate them.
"All last night sat on the levee and moaned, Thinkin' about me baby and my happy home"
Australia’s manufacturing competitive advantage over the last several decades has been access to low cost energy for electricity and process fuel. It is incredulous to us that we are losing that competitive advantage because we are exporting that advantage away to our competitors. We just don’t want to believe that it will happen, that the Government would let it happen and we think back to the happy past when energy costs were low and moan about our current predicament.
"Cryin' won't help you, prayin' won't do you no good"
This is my favourite line. Complaining about energy price increases and imploring the Government to do something about it isn’t going to do any good. The Government is not going to do anything tangible to reduce energy prices, certainly not in the short to medium term.
“When the levee breaks, mama, you got to move”
The message here is that you have to take action yourself to solve your problems, not wait for somebody else to solve them for you. Individual companies need to develop energy strategy to stave off the impact of the energy cost tsunami.
"Going, going to Chicago... Going to Chicago... Sorry but I can't take you..."
The smart businesses are already taking action. They know the “levee is going to break” and they are already taking action to reduce their exposure to the energy cost tsunami …. And they are not necessarily going to tell you what they are doing as they are planning to stay ahead of their competitors and watch them “drown”.
So what can be done to “move” and not be inundated by the energy cost tsunami?
First of all businesses need to develop an energy strategy with the vision of reducing costs or, at the very least, protecting themselves from the inevitable large cost increases. An energy strategy should consider at least the following topics to identify cost saving opportunities or abatements.
- Energy Efficiency
- Input Costs (fuel and electricity)
- Fuel Substitution
- Market Reform
- Can you invest in new technology that is more energy efficient?
- Have you audited your drives and quantified savings vs capital cost for more efficient drives?
- Have you audited your compressors and quantified savings vs capital cost for more efficient compressors?
- Have you conducted a compressed air leakage audit?
- Do you monitor and control the electricity efficiency of your process eg kWh/tonne or kWh/unit
- Have you quantified both network and energy cost savings when developing equipment upgrade business cases?
Process Fuel Mix
- Can you vary the mix, convert to a different fuel, or develop alternative fuels? Many companies are already quietly adopting waste derived fuels very successfully
- Do you monitor and control the electricity efficiency of your process eg GJ/tonne or GJ/unit
- Gas Cost = Supply charges + commodity charges + retailer margin
- Have you optimised supply charges for your load-factor? Are you paying too much for gas transport?
- How much is the retailer margin? Can you do it cheaper yourselves as a wholesale purchaser of gas and cut out the middle-man?
- Are significant cost savings achievable by allowing yourself to take a portfolio approach to gas purchases with one (or more) long term commodity supply agreements with the ability to buy spot gas though short term bilateral trades or from a trading market?
- Can you partner with an explorer/producer?
- Electricity cost = Network charges + energy charges + environmental charges + other charges + retailer margin
- Have you optimised network charges for your load profile ie ensure your maximum demand charges are not set too high?
- Can you modify your load profile and get further reductions? Ie shift usage to off-peak periods
- Can you take on exposure to the market price and eliminate the risk premium and the retailer margin?
- Are you offering any Demand Side Management (DSM) and are you being fully rewarded for it?
- Are you paying above the market for renewable certificates?
- Can you build a business case for renewable energy supply such as solar, wind or small scale geothermal? If electricity costs are of a strategic concern then surely a 4-year pay-back should justifiable.
- Are you a member of an energy user group that advocates market reform and rule changes to benefit consumers?
The author has helped several companies develop and implement Energy Strategy that have facilitated significant cost reduction, not just small savings here and there. These companies are staying well ahead of their competition and plan to be the last one standing.
Examples of successful cost reduction strategies include:
Electricity spot price exposure
A growing number of companies are taking exposure to the electricity spot market prices either directly by becoming market participants or indirectly by their retailers passing through spot prices for a management fee.
This means that the business takes responsibility for the market price risk rather than a retailer doing it for them and charging a risk premium on top of their retail margin for the pleasure of doing so.
Many companies can reduce their risk by monitoring live electricity prices through tools such as NEM-Watch and shed load if prices hit predetermined levels.
However, even if a business does not shed load, the annual average electricity price may still be lower than a retail fixed price offer. A smart business that actively manages its load can achieve very low electricity prices over the course of a full year.
One consumer with consumption of 180 GWh per year has estimated its savings to be $5m per year over ten years when compared with the best retail offers that it received when going to the market.
Gas Market Participation
A small number of large industrial gas users are gas Short Term Trading Market (STTM) participants. This enables them to significantly reduce their gas prices compared with fixed retail vanilla gas supply contracts.
An industrial gas user can contract for a proportion of their annual gas requirements with a producer or retailer on a commodity only basis and purchase their remaining requirements either through short term bilateral trades with other market participants or directly from the STTM. This enables the business to both manage its take-or-pay volume risk and also to achieve lower overall portfolio pricing.
STTM self contracting users can maximise net purchases from the STTM when gas prices are lower than their contracted gas prices and minimise their STTM net purchases when prices are at or above their contracted prices. They can even sell gas into the STTM if they have capacity available and STTM prices are above their contracted price.
STTM gas prices can be monitored using tools such as GAS-Watch to determine daily bidding strategies. STTM prices have been observed to be anecdotally $1.00 - $2.00/GJ below long-term end user contracted prices. A 5 PJ per annum gas consumer that purchases 20% of its requirements from the STTM when prices are low could be expected to conservatively save $1m - $2m per year.
There are often significant savings to be found in optimising supply tariffs. Often a gas retailer will look at historical gas demand data for a customer and then offer supply charges based on what it assumes the customer’s load profile will be during the contract period. The retailer is exposed to gas transport and distribution charges and seeks to fully pass these through to the customer. Important drivers of supply charges are maximum daily quantity (MDQ) and load factor (average daily quantity divided by MDQ). Consumers should analyse their own load profile and seek ways to minimise MDQ and maximise their load factor.
With electricity supply it is a little different in that the retailer passes though network supply charges rather than making a risk adjusted estimated of likely supply charges. The main driver in electricity supply charges is Maximum Demand (the maximum half hour load during a full year).
Network supply charges have increased dramatically over the last decade and are often now up to 50% of the total cost of electricity. This means that Maximum Demand is a major driver of the overall electricity price. The good news is that more often than not there is potential to reduce significantly Maximum Demand charges.
Consumers should analyse their load profile to determine whether the Maximum Demand charge is set at a level well above their actual Maximum Demand. If so, they can apply to have their Demand Charge reduced. The real opportunity in the load analysis is to determine what is driving the Maximum Demand level and identify methods to flatten the load profile and reduce Demand charges.
One client that I worked with discovered that their Maximum Demand was being driven by when they were recharging their electric forklifts. Another found that they were turning on all of their equipment in the morning at the same time. Until the load analysis was conducted they had no idea that this was driving their supply costs costs up.
There are a few Clients that I work with that are leaders on the use of waste derived alternative fuels. They use this alternative fuel to displace gas and reduce overall fuel costs. Alternative fuels include processed waste wood, waste plastic, waste oil and landfill gas. There is also technology that is fast approaching commercial feasibility to produce synthetic gas from municipal waste. There are already commercially viable facilities in place to generate electricity from municipal waste.
Fast moving companies will get ahead of their competition if they secure these waste derived alternative fuels on a long-term supply basis.
Energy efficiency initiatives are some of the easiest yet most neglected methods for reducing energy spend. The initiatives range from low cost compressed air audits to high cost equipment upgrades such as motor replacements. Quite often capital investment decisions these days require a pay-back of less than two years. However, if energy costs are a strategic issue then longer term payback periods should be considered. It is important to include the cost reductions that are achieved with a reduction in maximum demand along with the energy consumption savings when justifying an equipment upgrade.
If energy costs are a large proportion of a business’s overall costs then they should be approaching energy on a strategic basis. Gas and electricity should not be managed by simply tendering to the market every three years and then negotiating around the lowest price retail offer. Businesses should be developing Energy Strategy to stay ahead of their competition. This involves understanding how your business uses energy, where it can be optimised, what the market is doing and where you can take advantage of the market with your unique load profile.
Energy costs are rising rapidly and the energy cost tsunami is about to hit us all.
“When the levee breaks, mama, you got to move”
To help you “move” contact Altus Energy Strategies at http://altusenergy.com.au
To help you see what’s going on in energy markets contact Global Roam http://global-roam.com
For a great cover of Led Zeppelin’s “When the Levee Breaks” go to http://www.youtube.com/watch?v=xH-_9cwdLug