Amidst development of the government’s planned default tariff price cap and persisting rumours of sales and spin-offs, SSE today announced it is in “continuing and … well-advanced” talks with innogy SE to create a new independent energy supply company. This prospective proposition would combine the GB domestic and commercial supply businesses of npower with the GB domestic energy supply business from SSE.
This announcement has followed growing rumblings from both companies regarding the retail market in recent months. After the departure of Will Morris as Managing Director Retail at SSE in August 2017, the company announced a review of the longer-term leadership structure within its Retail division. The company also ceased the development of its new customer service and billing system, writing off the £83mn invested in its 2016-2017 annual accounts. These rumblings grew in volume when The Telegraph reported on 4 November that SSE was looking to sell or spin off its domestic retail business as it is “more trouble than it’s worth”.
Similarly, innogy has repeatedly been the subject of rumours regarding its npower business. Numerous sources in June 2017 reported rumours that innogy was considering the sale of npower whilst CEO Peter Terium said in September 2017, there were no concrete plans to sell npower. However, in its “4P” global strategy in September 2017, innogy announce it is considering dropping business activities that cannot reach the top three ranking in their relevant markets – npower is currently the sixth largest supplier in the GB domestic market.
A critical question for the merged entity would be how to serve its customers. SSE has good reputation but service systems that it seems unsure how to update. In contrast, npower has a weaker reputation for service which stems back to the implementation of its new billing system. Similarly, SSE wrote to Ofgem this week announcing its plans to end SVTs. It will be interesting to see if these aspirations are carried through to the new merged company. The integration of propositions and systems such as these would be critical to the success of any new venture.
However, the new company is far from a done deal and would almost certainly face scrutiny from the Competition and Markets Authority (CMA). Review thresholds for the CMA are a 25% market share in the UK (or substantial part of), or a turnover of £70mn. The proposed merger would comfortably meet the turnover requirement and exceeds 25% electricity market share in the six home regions of the two suppliers. Indeed, this merger would create the largest GB electricity supplier, exceeding the approximately 22% market share of British Gas. Regionally, it would hold an energy supply market share in excess of 25% in the Southern, South West, and North Scotland regions, exceeding 50% in the latter, sitting behind British Gas nationally.
Competition arguments will be a significant barrier. However, the announcement would not have arrived without thorough consideration. The two companies would likely argue that the scale the move affords would allow it to compete effectively with Centrica and that the move would not impact the growth of small and medium suppliers (SaMS). Furthermore, the new company would be standalone and therefore no longer vertically integrated - something that many SaMS have been calling for years.
Aside from viability, the announcement poses a number of questions for investors. These include whether the proclaimed savings from scale can actually be made and will the costs of integration outweighs them? Another important issue is what form the ownership structure of the new company will take. In its announcement, SSE talked of listing the new company, but whether SSE or innogy will retain major stakes remains to be seen.
In a world of price caps, scale - and economies of scale, should only grow in importance. One way to counter a squeeze from a price control is by seeking scale. Scale could also provide some defense against pressure from competing rivals. The proposed venture provides stern a test for policy makers as the price control begins to take shape. Whilst it may be an obvious response, it is far less certain whether it is the one that the government or the regulator intended.
Written by Jacob Briggs and Robert Buckley
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