OREANDA-NEWS. August 30, 2012. On 15 October 2012, SSE will introduce a series of changes affecting the level and structure of its tariffs.

SSE has stood by its pledge to hold its household energy prices at existing levels until at least October 2012. Unfortunately, sustained increases in the cost of using the electricity and gas networks, the costs of mandatory government-sponsored schemes that are passed on to customers and the price SSE has paid for energy in the wholesale markets for this coming winter now need to be reflected in household gas and electricity prices.

Prices for SSE’s household customers in Great Britain will therefore increase on average by 9% for both electricity and gas from 15 October 2012. After this change SSE is committing to cap household energy prices at this level until at least the second half of 2013.

Building on the measures already introduced in 2012 through SSE’s ‘Building Trust’ initiative1, which were designed to create a simpler and more transparent approach for customers, SSE customers will pay a simple fixed standing charge and single unit rate for their energy from

15 October 2012. In addition, a clearer fixed monetary discount will be provided to customers who choose lower cost options such as payment by direct debit and paperless billing.

Ian Marchant, SSE Chief Executive, said:

“In a time of economic difficulty, we have endeavoured to keep energy bills as low as possible. That is why we pledged last summer to cap our energy prices for as long as possible and until at least August 2012, and then in January extended this pledge to

October 2012.

“Unfortunately, the increases in costs that we have seen since making this pledge can no longer be absorbed and mean that we are unable to keep prices at their current levels beyond this autumn. An increase in our prices has therefore, regrettably, become unavoidable.

“We remain committed to offering a fair price for the energy we supply and providing a range of practical and financial support measures for those struggling to pay their bills. We will also continue to build on the initiatives introduced over the last year to create a simpler and more transparent approach for all energy customers.”

Price change

When did SSE last change household energy prices in Great Britain? SSE cut the unit price of gas by 4.5% in March 2012. It last increased gas prices in September 2011 and before that in December 2010, and last increased electricity prices in September 2011 and before that in August 2008.

How many customers will be affected?

Around 5.0 million household electricity customers and around 3.4 million household gas customers in Great Britain.

What will happen to customers’ bills?

From 15 October, SSE’s average standard dual fuel bill, for a customer who pays by monthly direct debit, will be₤1,274. This is up from₤1,172 and represents an increase of₤8.53 per month. This is based on the industry average annual household energy consumption adopted by Ofgem in November 2010 - 16,500kWh of gas and 3,300kWh of electricity - and reflects the changes to both the fixed standing charge and energy unit prices.

Does the commitment not to increase energy prices again before the second half of 2013 mean that prices will stay fixed at the 15 October 2012 level? Not necessarily. A sustained fall in wholesale energy costs would allow household prices to be reduced - as SSE was able to do in March this year.

What are the main costs that make up a typical ‘dual fuel’ bill? Three costs make up over 80% of a typical2 SSE dual fuel bill:

- cost of buying energy: 51%

- cost of delivering energy to a customer’s home: 25%,

- cost of government schemes (mandatory environmental and social costs): 8%.

When will SSE’s customers find out more about the price increase?

Energy suppliers are required to give every affected household customer at least 30 calendar days’ notice of any price increase. This means affected customers should receive a letter from SSE by 14 September 2012. In the meantime, information is available now on SSE’s customer websites3.

Why do prices need to go up?

Earlier this year, a typical2 dual fuel SSE customer benefited from a 2% reduction in their total bill as a result of SSE’s 4.5% cut in gas unit prices, but since last winter three things have been putting upward pressure on domestic energy prices:

first, the costs of using the energy networks to distribute electricity and gas to customers’ homes, which are determined by Ofgem and represent around 25% of a typical bill, are 9% higher than they were a year ago4;

- second, the cost of mandatory environmental and social initiatives that suppliers are required to fund and pass onto customers, like the Carbon Emissions Reduction Target (CERT) and the Warm Homes Discount, are 30% higher than they were a year ago5 and now represent around 10% of a typical bill.

- third, the average price6 in the wholesale energy markets to secure gas for the coming winter is around 14% higher than it was for last winter. The wholesale cost of energy represents around one half of a typical dual fuel bill.

Why is SSE putting up household prices when forward-looking wholesale prices appear to be lower than they were?

In the context of a global market for commodities, SSE has a responsibility to secure the gas and electricity that it supplies to customers in advance of them needing it. SSE does this by buying energy in the wholesale market up to two years in advance, which reduces customers’ exposure to the volatility that occurs in wholesale energy prices and enables them to budget on the basis of a more stable energy price. It is the rolling average cost of buying this energy that then influences the price a domestic customer pays.

While forward-looking wholesale energy prices had been falling, in more recent weeks they have been rising again. This is why it is the two year rolling average price that is most relevant in determining future domestic energy prices. The average price6 in the wholesale market to secure gas for the coming winter is around 14% higher than it was to secure gas for last winter.

These increased energy costs, when combined with the significant rises in non-energy costs, explains why SSE has concluded that an increase in household gas and electricity prices is now unavoidable.

What accounts for the 30% increase in the cost of government-sponsored mandatory schemes that are passed onto customers?

A typical customer is currently paying over₤120 to fund government-sponsored mandatory schemes.

The majority of the increase in the cost of these schemes in the last year is accounted for by the dramatic increase in the costs of meeting the Carbon Emissions Reduction Target (CERT). Under CERT (and CESP), energy suppliers are required to locate "hard to reach" groups of people and provide them with eligible energy efficiency measures, but have been given little information with which to reach these customers. As a result, the cost of individual measures eligible for inclusion in this scheme, such as loft and cavity wall insulation, have more than doubled in the last year and are continuing to increase as energy suppliers compete for the limited number of opportunities that will enable them to meet their targets ahead of the December 2012 deadline. In the last year SSE has seen these costs rise by over₤100m.

SSE firmly supports the principle of improving the energy efficiency of customer’s properties, but this must be done in a way that is cost effective for all customers. The artificial ‘cost bubble’ created by the way current targets have been set is placing an upward pressure on overall energy prices. SSE is no longer confident that GB domestic energy customers are funding a cost effective scheme and believes action must now be taken to review this. In addition, the Government should take these issues into account as it prepares to launch the new Energy Company Obligation (ECO) in October.

Why are these price increases bigger than those forecast by the Bank of England in its recent Inflation Report? The Bank of England forecast that energy prices would rise this year because of increased costs being faced by suppliers, but SSE believes that its estimate of the extent of the increase did not adequately reflect the impact of higher energy, distribution and social and environmental costs. For example, to cover the increase in non-energy costs during the last year alone requires a 6% or₤67 increase in a typical2 customer’s bill.

Why do smaller suppliers appear to be able to make smaller increases in their prices?

Smaller suppliers typically face a different set of cost pressures to larger suppliers. Smaller suppliers often have to raise prices more quickly and frequently in response to volatile wholesale energy prices or rising non-energy costs, but usually this means that the percentage increase for each change is lower.

In addition, smaller suppliers are also not required to fund the majority of government-sponsored mandatory schemes such as energy efficiency measures, feed-in-tariffs, and support for vulnerable customers. As a result they do not need to pass on these costs to their customers, which represents a current cost saving of around₤90 per customer. This also means that when the costs of these schemes are rising, as they have done over the last year, these increases do not have to be reflected in an increase in domestic prices by smaller suppliers.

Changes to standing charge

How much will SSE’s new standing charge be?

Customers will pay a standing charge of₤100 per year per fuel (inc VAT). This will be shown on a customer’s bill as a 27.41p (inc VAT) per day charge covering the period of the bill, so customers will be able to see exactly how it has been calculated.

SSE’s₤200 (inc VAT) standing charge for a dual fuel customer will be equivalent to the average of that currently levied by the other major UK energy suppliers who have a standing charge7, which range from₤130 to₤257 (inc VAT).

Over 60% of SSE’s customers currently pay their bill via Direct Debit. Under SSE’s new discount structure (see below), these customers will receive a₤40 per fuel, per year discount on their standing charge in future.

What is covered by the standing charge?

Around 50% of a typical dual fuel bill relates to the cost of the energy consumed. A significant proportion of the remaining part of the bill is made up of costs that are not linked to the level of energy consumed, but are applied at a fixed rate for each customer. These fixed costs include a proportion of the costs of using the gas and electricity networks to distribute energy to customers’ homes, metering and customer service costs, and the costs of some mandatory government-sponsored initiatives that energy companies are obliged to pass onto customers. It is these fixed costs that are covered by the standing charge.

Why are you changing the standing charge?

Many of the cost increases driving the rise in domestic prices are the fixed costs covered by the standing charge. As a result, the electricity standing charge for electricity is increasing and the standing charge for gas is reducing. This reflects changes in what makes up the standing charge for gas and SSE’s desire to match it to the electricity standing charge so that it is easier for customers to understand its charging structure.

The standing charges for electricity and gas are now set at a level which ensures a fair level of fixed cost is being recovered from each customer.

Why have you introduced a standing charge for all customers?

Customers, consumer groups and Ofgem have made clear that they want greater simplicity in the products all energy suppliers offer. SSE has already responded to this by significantly reducing the number of products and tariff choices it offers and is now changing the structure of its tariffs to make them easier for customers to understand and compare.

SSE’s tariffs have historically recovered the fixed cost elements of a customer’s bill either through a fixed standing charge or through a two tier unit rate Nil Standing Charge (NSC) tariff, - where the first block of units used incurred a higher cost than subsequent units and the difference between the two unit rates recovered the fixed costs.

It is clear that many customers find the two tier unit rate approach confusing. So in line with its commitment to create a simpler approach for customers, from the 15 October 2012 SSE will move the vast majority of its customers onto a simple fixed pence per day standing charge (equivalent to a₤100 (inc VAT) per year, per fuel) and a single unit rate for the energy consumed.

Will customers lose out because of this change?

SSE already has over four million customers on a standing charge tariff structure. The vast majority of the remaining customers should be better off or see very little difference in their bill as a result of the move to a simple standing charge and single unit rate. For some very low usage8 customers (approximately 400,000) who are currently on a NSC tariff structure this change could result in a higher bill. In line with its commitment to treat customers fairly, and because this group can include vulnerable customers, SSE will proactively identify and retain these customers on a NSC tariff unless they wish to move to the standing charge option.

Can other customers choose to remain on an NSC tariff?

Yes, they can request this by discussing with a customer service advisor the best option for their circumstances.

Changes to discounts

What changes have you made?

From 15 October 2012, SSE will introduce a single range of fixed discounts that will be deducted from a customer’s bill when they choose lower cost service options. These will replace the range of percentage discounts that currently apply. The main discounts are:

• Quarterly bill customers who pay within 10 days will receive a discount on their next bill equivalent to₤20 per fuel, per year.

• Customers who choose to pay by Direct Debit will receive a pence per day discount equivalent to₤40 per fuel, per year. This will be deducted from the standing charge on each bill.

• Customers who choose to receive paperless bills will receive a pence per day discount equivalent to₤6 per fuel, per year. This will be deducted from the standing charge on each bill.

What options will give customers the biggest discount?

As is currently the case, customers who choose to pay by Direct Debit and receive paperless bills can make the biggest savings. This reflects the lower costs SSE incurs in servicing these customer accounts. These discounts will reduce the standing charge an SSE customer pays by almost 50%.

What discounts will customers who remain on a NSC tariff receive?

NSC customers who pay by Direct Debit and/or choose paperless billing will receive similar discounts, but these will be applied through a reduction in the first block unit rate. The precise discount will depend on the level of units consumed, but all customers who use more than the initial block of units will receive a discount equivalent to that given to standing charge customers.

Impact of changes

How much money does SSE make from supplying electricity and gas?

In the last financial year, SSE made an operating profit of₤271.7m in its Energy Supply business, down almost 22% from₤347.7m in the previous year. Following this price change, SSE expects its average total profit from supplying energy to a domestic customer to be less than₤50 per fuel – and this is before the deduction of costs like tax and interest. Over the medium term, SSE expects its profit margin (ie operating profit as a percentage of revenue) in Energy Supply to average around 5%.

Will this decision lead to SSE making excess profits?No. For a start, SSE does not expect its profit margin (ie adjusted operating profit as a percentage of revenue) in Energy Supply to exceed 5% in this financial year.

Second, in each of the last four years, SSE's total adjusted profit before tax has been less than its total capital investment programme, which is designed to secure energy supplies and support the policy objectives of all the main political parties, and this will be the case again in 2012/13. This is being done at a time of difficult market conditions.

If SSE is a making a profit from activities other than energy supply, why can’t it delay price increases for longer?

SSE’s Wholesale business, covering electricity generation, energy portfolio management, gas production and gas storage, achieved an operating profit of₤607.9m in the last financial year. From operating profit, SSE has to do things like pay tax to the UK Government and pay interest on the money it has borrowed to finance its investment programme. Under that programme, SSE invested₤1.04bn in electricity generation, gas production and gas storage – more than it achieved in operating profit in its Wholesale and Retail businesses combined. Investment like this is needed if the UK is to meet its legally-binding energy policy objectives.

Won’t this increase result in more people being in fuel poverty?

All other things being equal this is likely to be the case and SSE is very sorry about the impact that rising energy costs, along with the rising costs of other essentials, is having on many households. As currently defined, fuel poverty arises from people having insufficient income, living in poorly-insulated homes and spending a significant proportion of their income on energy. SSE believes that continuing to invest in effective energy efficiency measures is crucial, as is giving practical help for vulnerable customers, and hopes that the insights from the Hills Review will allow the UK government to organise assistance and design policy in the most effective manner to help those in the greatest hardship.

What is SSE doing to help customers who may have difficulty in paying their energy bills?During 2011/12, SSE helped over one million customers who were either having difficulty paying their bills or wanted to reduce their bill by taking action to be more efficient in their energy use.

There are five main ways that SSE is continuing to help customers deal with rising energy prices:

- first, during 2012/13 SSE expects to spend around₤50m providing assistance to over 400,000 vulnerable customers through the Warm Homes Discount scheme;

- second, SSE provides tailor-made payment arrangements for around 600,000 customers to help them pay for the electricity and gas they use in a way that suits their circumstances;

- third, SSE expects to fund and manage over 340,000 installations of cavity wall and loft insulation in homes throughout Great Britain this year under the CERT initiative;

- fourth, between 1 December 2012 and 28 February 2013, SSE will again introduce its no disconnection policy covering all customers;

- fifth, SSE will build on its work with partners. including consumer bodies such as CAB and National Energy Action and voluntary organisations to help customers in an environment of rising prices.