Lines companies stifling power company innovation, says Contact Energy

UPDATED: The biggest barrier to electricity retailers introducing new, more competitive products is the complexity created by 29 separate monopolies owning the country's electricity networks and all charging for them differently, says Contact Energy [NZX: CEN] chief executive Dennis Barnes.

At a media briefing on the company's half-year earnings, Barnes said Contact was close to introducing new technology which would allow creation of products such as weekly billing, rewards systems, and different tariffs using smart meters that would "right price" customers more accurately.

However, making full use of the new technology, which has been rolled out also by Contact's 54 percent owner Origin Energy and is about 18 months behind schedule while both companies worked to ensure the systems are providing the desired level of "customer experience" is hampered by other parts of the industry, said Barnes.

"One of the biggest inhibitors to that innovation is how the network companies are structured and how they structure their tariffs," he said. "There are 29 network companies with many thousands of different network tariffs.

"Remember that network charges about half the bill. We are only about one-third of the retail electricity bill. If those network tariffs are not adjusted in the same way, then it's very difficult for one-third of the bill to drive a behaviour change.

"So I think network tariffs, regulation and industry structure are an inhibitor to innovation on the back of smart meter technology, systems technology, and the lower wholesale price of power," said Barnes. "But we will do what we can do."

The company now has a "bubble" workforce of 170 staff on the new back-office system, duplicating staff working on existing systems, in preparation for deployment of an SAP software-based system, which is already in use across the rest of the company after a six year development programme.

Contact Energy reported a 5 percent improvement in underlying earnings for the six months to Dec. 31, with improved sales to industrial and commercial customers and lower wholesale electricity prices offsetting lower mass market sales and weak overall demand.

Statutory net profit, which includes the non-cash impact of items such as unrealised changes in the value of financial instruments, rose 27 percent to $112 million, while earnings before interest, tax, depreciation, amortisation and fair value movements (EBITDAF) was up 4 percent on the same period the previous year, at $264 million.

The company's preferred measure for comparative performance, underlying earnings excluding one-off factors, showed a 5 percent rise to $97 million.

While Contact does not offer guidance for full year earnings, Barnes said market consensus of EBITDAF around $560 million and $205 million in underlying earnings would be affected by the fact commissioning of its Te Mihi geothermal power station has been delayed, which would reduce depreciation charges.

"We will be there or thereabouts," Barnes said, although even with a more predictable earnings track, the company remained at the whim of the weather and any major plant outages, which could push currently very low wholesale electricity prices high and affect the result.

One key change in the way Contact thinks about its earnings is its preference now to use renewables over thermal plant.

"We used to say 'wet is bad'. Now we say 'wet is good'," said Barnes, since hydro-generation was more cost-effective than using gas-fired plant, which was the backbone of Contact's generation fleet in the 2000's, but is now increasingly used as "firming" plant, filling in when demand peaks or wind or hydro resources are throttling back.

The company remained undecided on the future of the Taranaki Combined Cycle gas turbine plant at Stratford, which has about 1,000 operating hours to go before requiring an upgrade worth around $50 million.

However, that hasn't stopped Contact investing in a nine kilometre new gas pipeline from its Ahuroa gas storage facility to TCC. That project delivers an immediate $7 million gain, with $5 million annually ongoing, compared with arrangements previously in place to take gas from the nearby Waihapa production facility.

Waihapa was previously owned by Origin Energy, but was sold recently to New Zealand Energy Corp, which is using the facility to process its own oil and gas production.

Barnes elaborated on the delays to commissioning Te Mihi, which was to have gone into production last year but is not expected to be at full steam until late this year after commissioning tests found hot well pumps were not appropriately engineered.

Under the fixed cost contract Contact has with its contractors at Te Mihi, the company would bear no extra cost and liquidated damages clauses would seek to compensate for lost production while the problem is fixed.

Meanwhile, Contact has taken $70 million off its forward projections for geothermal well-drilling because existing wells in the Wairakei steamfield are performing better than expected.

Asked whether he believed Contact's share price was suffering because of an overhang of electricity generator-retailers' shares in the New Zealand equities market following two partial privatisations last year and the impending Genesis Energy partial float, Barnes was diplomatic.

"At this highest level, capital markets are under-represented as a proportion of New Zealand's GDP. One of the ways to improve that was to list the SOE's. When that process ends, we will have a healthier capital market. I think there's enough room for everybody."

Barnes said the Labour and Green parties had their doors open to power companies seeking to dissuade them from their single buyer NZ Power policy, but an absence of further detail was a problem.

"It's very difficult to tackle the issue in a fact-based way," said Barnes. "But they will talk. They aren't shutting the door."

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EARLIER: Contact Energy [NZX: CEN] reported a 5 percent improvement in underlying earnings for the six months to Dec. 31, with improved sales to industrial and commercial customers and lower wholesale electricity prices offsetting lower mass market sales and weak overall demand.

Statutory net profit, which includes the non-cash impact of items such as unrealised changes in the value of financial instruments, rose 27 percent to $112 million, while earnings before interest, tax, depreciation, amortisatisation and fair value movements (ebitdaf) was up 4 percent on the same period the previous year, at $264 million.

The company's preferred measure for comparative performance, underlying earnings excluding one-off factors, showed a 5 percent rise to $97 million. It offered no guidance for the full year.

An unchanged 11 cents per share fully imputed dividend was declared, payable March 27. The company also announced it will be offering up to $250 million in retail bonds with a coupon interest rate of between 5.8 percent 6 percent, based on demand. Contact is close to completing a wider debt refinancing package, with future capital expenditure needs dropping dramatically after spending some $2 billion on new generation and upgrades over the last six years.

However, the company continues to experience significant delays in commissioning its new geothermal plant, at Te Mihi, with its hot well pumps not performing to specification. That will delay full commissioning until the end of this year, chief executive Dennis Barnes said in statements to the NZX.

"In the event that further modifications to the hot well pumps are required, the production impacts will be reduced by diverting steam to the existing Wairakei units," he said. "The associated commercial matters are in the process of being resolved with the contractor."

Geothermal generation of 1,087 Gigawatt hours was down 58GWh, largely due to Te Mihi commissioning outages. The new plant ran for a month at 159 Megawatts, close to rated capacity, in December.

Today's announcements do not appear to make any provisions relating to the issues at Te Mihi.

Contact also continues not to contract for additional natural gas, although it booked a $33 million cost in the half year under review relating to the injection of gas into its Ahuroa storage facility, taking stored gas to 11.6 Petajoules. The company is building a nine kilometre pipeline from Ahuroa to its Stratford combined cycle gas turbine plant to reduce reliance on production facilities at Waihapa, recently sold to New Zealand Energy Corp. Reduced reliance on take-or-pay gas and greater use of hydro and spot market electricity purchases instead of its own gas-fired plant also helped contain costs.

The average wholesale price received for generation during the half was $47 per MWh, down $9 per MWh in the corresponding period.

Total revenue for the six months was $1.148 billion, down 5 percent on the corresponding period, while operating expenses were 8 percent lower at $884 million.

Mass market electricity sales fell 4 percent to total $496 million in the six months to Dec. 31, while commercial and industrial electricity sales rose 8 percent to $279 million. Competition for retail customers using both gas and electricity remained intense, and retail gas sales fell 4 percent to $35 million, although retail gas customer numbers rose by 1,500 in the half.

On the retail customer front, Contact described New Zealand's electricity market "one of the most active ... in the world", with average monthly customer switches between retailers rising to 33,500, compared with 29,000 in the previous six months. Total retail electricity customers fell 4,000 between December 2012 and December 2013, although the rate slowed in the six months under review to 1,000.

Just over half the company's customers are now on a discounted price deal, either its market-leading 22 percent prompt payment discount, or a fixed price, fixed term deal.

A "retail transformation" project, in planning since 2007, was delayed further "to ensure the business is fully prepared to provide customers with a seamless experience."

"Contact welcomes the more stable competitive environment that should result from the partial privatisation of previously state-owned enterprises," said Barnes. "While this will mean that the industry, including Contact, will be in the full glare of scrutiny from investors, customers and the community to maintain a reliable and competitive supply of energy, it is also expected this will ultimately be for the benefit of the customer with a lower cost industry driven by efficiency and innovation."

The company continues to argue against the Labour and Green parties' NZ Power proposal to create a single buyer and reduce wholesale electricity prices, saying there is "no evidence" that Contact earns "super-profits."

"Savings of $500 million to $700 million are targeted, but (it's) not clear they exist," according to presentation slides with the result. "Over 50 percent of savings will be borne by the government from lower taxes and dividends."

(BusinessDesk)