NPower and SSE Merge Energy Retail Business – Impulsive or a Strategic Move?

The UK gas and electricity market is dominated by six players; however, the latest move by SSE and NPower to spinoff and merge their retail business led to a major reshuffle. Once the new firm starts operations, it will be catapulted to second place supplying 12.7 million customers, just short of British Gas’ 13.7 million.

NPower, bought by the German utility RWE in 2002, was transferred to Innogy in 2016, as RWE spun off its renewable energy generation, energy distribution and retail division in the new company while keeping the more carbon-intensive assets, such as lignite-fuelled power stations, under its umbrella. SSE, the product of several M&A deals made around the turn of the millennium, shares a similar market portfolio with Innogy, as it is the biggest renewable energy generator in the UK, while also being involved in the energy retail and distribution business.

SSE’s hand seems to have been forced by the government’s plan to introduce a price-cap on energy prices aimed at ending standard-variable tariffs, accounting for 91% of their customers, which have been the firms’ high-cost – low-value offering in which customers are placed in automatically. While SSE has been sweating about the government’s proposal, NPower hasn’t been doing too rosy either, with an operating loss of £90 million last year alone and close to 80,000 customers turning their backs on the German subsidiary. The more pressing reasons for the move to merge therefore appear to be twofold: separate the retail business from the more profitable energy generation one, as well as improve the competitiveness of the new retail company by incorporating efficiencies and decreasing costs in the new market environment brought about by the proposed introduction of the price-cap. Changes in the financials can be seen when forecasting the balance sheet, with NPower and SSE aiming to translate abilities of CapEx savings and cost efficiencies into the combined firm, amounting to a taxed and capitalised £700 million.

Another notable development is the change of market share since 2012, with the Big Six’ gradually declining while medium and small suppliers, usually composed of cheaper and greener services, have been gaining strength, now amounting to 20% market share up from 1% just a decade ago. The weakness of the Big Six, now the Big Five, can be further underlined by the result of an opinion poll indicating that half of their customers are considering a change; in the month of October 2017, 600,000 customers switched suppliers (an increase of 10% MoM) with a third choosing small suppliers. It is therefore clear that the business model of the competing small firms is becoming increasingly effective, with the green energy – fixed price contract being a more attractive combination to lure in new customers. The new company already has the potential to provide renewable energy, due to the massive involvement of both its parents in green energy generation; however, in order to provide competitive fixed-price contacts, it should be more involved in the energy futures markets, so as to lock in its power purchase price and be able to satisfy the demand of fix-price contracts of households. Its size and its customer base will help it in the price negotiation of future power contracts, therefore giving it the potential of providing extremely competitive deals on the energy retail market.

Considering that SSE will own 65.6% of the shares of the new company, and that Innogy has committed to keeping its shares for 6 months, it appears that the German utility is planning to disentangle itself from the challenging UK energy market, while giving the new firm lobbying power so as to be able to enter, alongside its competitors, into talks with the government to find middle-ground on the standard-variable tariff affaire.

The main players all focused heavily on the short term, which resulted in them feeling nervous about the changing regulations. For the road ahead, the combined company has to focus on regaining customers’ trust with more competitive prices and a wider array of deals such as fix price contracts, as well as shifting their strategy towards a more long-term perspective.

By Giovanni Curci and Kristof Seres