Hanging in the balance – Ofgem’s latest proposals on protecting customer credit and RO payments

Ofgem has published a consultation setting out its latest proposal to deal with the risks – and costs – of supplier failure. This forms part of a broader piece of work on increasing the financial resilience of suppliers and curbing the costs passed on to all customers after a supplier fails. The focus here is on how customer credit balances and Renewables Obligation (RO) payments can be protected. Currently, suppliers are able to treat credit balances and payments towards the RO as working capital, which Ofgem says in its consultation can lead to unsustainable business models. If customers are in credit when a supplier fails, the costs of returning that money to customers is spread across all bill-payers, and shortfalls in the RO can also be mutualised, effectively insuring suppliers against the risks of this use of credit balances. The consultation will close on 19 July, and subject to responses, a statutory consultation should be expected in the Autumn.

The fact that suppliers have used excess customer credit balances to finance their operations is no great revelation. Oxera’s recent report to Ofgem is the latest to point this out, but by no means the first. This current consultation is the latest in a series of proposals from the regulator on protecting credit balances, following the lukewarm reception from industry of previous proposals to mandate auto-refunds of surplus credit every 12 months, or set threshold amounts of customer credit a supplier can hold. This latest approach put forward by Ofgem, is to ringfence customer credit balances and RO payments using what it calls “insolvency remote vehicles”. For what this means in practise, look to the “menu of options” Ofgem is minded to allow suppliers to choose from to meet the requirement, including an escrow account, a trust account, a standby letter of credit, a third party guarantee, or a parent company guarantee. All of these options have their particular advantages and disadvantages, and suppliers will be able to choose the vehicle that best fits the operation of their businesses. Although some of the mechanisms do permit access for working capital, Ofgem believes that a provider of the letter of credit or guarantor would be likely to set terms designed to deter unsustainable growth and the inappropriate use of ringfenced funds.

As with most of our policy debates around energy supply at the moment, this comes down to the difficult question of balance – how to balance the cost of supplier failure with the costs of reducing the risk of supplier failure, and how to balance the costs and benefits of mandating measures around resilience with the costs and benefits of a potentially less resilient but lower-priced market. Looking beyond the current world of high commodity prices and ubiquitous capped tariffs, smaller, less creditworthy suppliers that would in the past have offered cheaper tariffs would need to increase prices materially to meet the proposed obligations. Other suppliers (and their customers) would benefit from no longer effectively insuring the credit balances and RO payments of these suppliers, and paying towards these costs after a supplier fails. The impact assessment published alongside this consultation estimates a customer benefit of between £3 per customer per year and £20 per customer per year, depending on how effective the policy is at reducing the rate of supplier failure. Impacts will fall differently on customers depending on how engaged they are in the market, and the report points out that as disengaged groups are more likely to be on lower incomes, there could be a greater social benefit to the policy than the cash value suggests. With the vast majority of customers currently sitting on the same capped tariffs, this differential would be unlikely to manifest until the market stabilises. With any extra costs from the policy reflected in the Default Tariff Cap as a cash cost, the proposals in this policy consultation must be proportionate and reflect real risks consumers are exposed to.

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