As energy has been commoditised in the US with entities regulating and managing the grid – there is little differentiation between the quality of product and services. What this means is that there is also little variability in prices from different suppliers.
How is it possible to charge more or less than competitors when you do the exact same thing?
This has granted the ability to focus on the ‘Retail Adder’ pricing aspect when comparing energy suppliers.
How is electricity price built?
The ‘Retail Adder’ is made of different component parts, although not all are negotiable. Credit, Transmission, Credits, Reliability Mechanisms, and Taxes aren’t negotiable – while Capacity is set during auctions. The most negotiable part of the Retail Adder is the Supplier Margin – and should be the basis of cost minimisation.
The breakdown of US electricity bills:
- Supplier Margin
- Taxes
- Credits
- RECs
- Capacity
- Ancillary Services
- Distribution
- Transmission
- LMP
At capacity auctions it is typical to set prices for between 2 and 4 years into the future. The prices that are set during the auction are prices quoted to the customer by suppliers.
But within this structure, there is still scope to negotiate prices. The biggest proportion of American electricity supply bill is the ‘LMP’ (or LBMB, Location Based Marginal Price) – which on average amounts to roughly 40% of the total price.
The LMP is made up of the highest daily auction bid from the closest hub to customers point of consumption. The information on these prices is free and readily available on Independent System Operator (ISO) websites if you would like to look these up.
The price quotes from suppliers to customers will not all be exactly the same as suppliers will source their power from different generators, and some even own their own generating assets. During the request for proposal stage (RFP) it is worthwhile to focus some time on this to determine which supplier has either the best sourcing or generation assets, or a combination of both. Customers can do this by requesting sourcing profiles from supplier trading desks while quotations are submitted. Unfortunately for US customers, some suppliers are known to guard this information closely (for obvious strategic reasons).
The location will also have an effect on price – this being the physical position of the customer connection point. The level will depend on which node the customer facility is closest to. This varies because congestion and losses differ as a result of factors like; quality of infrastructure, distance, and weather.
In the US, average line losses sit at 6.5% – this rate is passed on to customers. US energy suppliers will charge this rate (or close to it) and check quarterly to find if they need to pay back surpluses or to charge for shortages. Line losses are another negotiable part of US energy contracts – and it is more than acceptable to ask the supplier to set this percentage specific to previous losses in your region over the last few months.
It is true that some suppliers will allow these losses to be fixed for the duration of the contract, but most will not – simply due to the fact that there is no clear way to measure future losses. Any suppliers that set a fixed price will tend to set it higher than the 6.5% rate mentioned earlier. In order to protect themselves and to get a good deal, suppliers will likely take the maximum line losses for the previous period and add a premium on top.
In this case, it is probably more favourable to stick with quarterly check-ups.
Moving on to the next part of the retail adder – ancillary services. Ancillary service providers are generators with excess capacity that can be dispatched to help with balancing supply and demand, restart the grid after a blackout, and to regulate voltage. Ancillary services are bid on during auctions which will also set rates for the ‘futures market’, further to this, they can also be traded in the day-ahead and real-time markets.
Due to this fact – flexible contracts can be seen to be set up in different ways. Ancillaries can be entirely fixed, entirely indexed to day-ahead or real-time, or even a percentage set on each of the three markets. Depending on what local area you are searching from and the corresponding generators for that area, the pricing can be more advantageous one way or another. A good example of this would be if you are from Ohio (strong regional coal power generation) and your ancillary services come from coal plants it’s cheaper than gas (which is stronger in New York).
The most negotiable part of electricity fees is the supplier margin – something you should always seek to find as much information on as possible. This will help to identify any suppliers with heavy premiums installed for supply.
The final component is the Renewable Portfolio Standard (shortened to RPS) which is best described as being semi-negotiable. Suppliers have an obligation to include a certain percentage of renewably-sourced energy in their supply mix, largely dependant on state-level legislation. Customers can choose to also purchase their own renewable energy credits on top of this. RECs are traded on a very transparent marketplace.
It is difficult to beat the process that suppliers offer for renewable-sourced energy as suppliers have access to RECs direct from utility scale generators. In addition to this, some suppliers may have even purchased cheap or expensive vintages of RECs, so prices should be checked against the REC market.
If your chosen supplier is seen to beneath the market bid on RPS obligations, then you could potentially be getting a fantastic deal. Bad trades in the REC market can be avoided by making the supplier take renewable energy credits from the spot market.
Contract Types
Generally, there are four main types of energy contracts in the US.
The first is a contract with a regulated tariff. It is often surprising to hear, given the common association with the US and ‘free markets’ – but out of the 50 states, only 13 have 100% deregulated markets for gas and electricity,
In deregulated markets, the least advanced contract type is a fixed price contract. Similarly to UK fixed contracts, there is only one true ‘hedge’ so not much scope for risk management. These contracts are most suitable for customers with small annual consumption and spend.
Once a consumer has reached significant consumption levels, they can benefit from access to block and indexed contracts, and load following block and index contracts. These contracts are where customers lock capacity blocks at opportune moments, and when customers purchase in percentages of their annual consumption, respectively.
Negotiating
Regardless of which negotiation tactic you choose to employ, communication is key to success.
Having a clear strategy before beginning your search will help immeasurably when delving into US energy markets. Look at possible suppliers – who and how many will you enter negotiations with?
The most difficult thing is to ensure you are comparing things that can in fact be compared. Are the deadlines the same, for example?
There should be an attempt to find a middle ground between asking for a specific product and keeping your options open. Too wide a scope and the task of comparing becomes impossible but too narrow and you risk missing out on a standard contract that suits all of your needs. Too many special requirements and requests may even cause suppliers to whack a premium on top of their offers.
It is important to not only receive the best possible offers from suppliers, but also some type of overview of the current energy situation and possible future developments.
Finding a new energy contract is definitely daunting, make no mistakes about it. However, if you demand transparency and keep market fundamentals in mind – it makes the task a little less insurmountable. It’s not considered malpractice to ask suppliers about their retail adder pricing, and in doing so you will reveal any premiums.
Remember, transparency forces honesty.