 |
||||
|
|
||||
|
||||
|
Management
failure and the deficiencies in the structure of the Pre-Privatisation The roots
of British Energy’s failure can be traced back prior to the privatisation
of the electricity supply industry (ESI) in 1990.
The privatisation of the telecoms and gas sectors were widely seen as
having been very successful, with the government of Margaret Thatcher having
simultaneously removed huge swathes of spending from the Public Sector
Borrowing Requirement (PSBR) and massively expanded individual share
ownership. Flush with these
successes, the Government saw the ESI was the next logical target for
liberalisation and privatisation. However,
the ESI had one major problem - nuclear power.
In the 1988 White Paper, ‘Privatising Electricity’, the
Government accepted that the old Magnox nuclear stations, mostly built in
the 1950’s and 1960’s were so close to the end of their working lives
that they would have to stay in public ownership.
However, the more modern Advance Gas Cooled Reactors (AGRs) could,
along with the Pressurised Water Reactor (PWR) then being built at Sizewell
in Suffolk, be sold to the private sector.
Because the decommissioning liabilities associated with these power
stations were so large, it was necessary that the private sector entity set
up to own them would have to have a very large asset base to fund them.
As a result, National Power (NP) was made very large indeed with 64%
of Unfortunately,
despite the best efforts of the Government and its advisors, the City would
not accept the risk associated with the decommissioning costs of the AGR/PWR
fleet and so, to save the privatisation from failure, the nuclear stations
were pulled-out of National Power and remained in the public sector.
The Scottish power stations were placed in a Scottish registered
State-owned company ‘Scottish Nuclear’, whilst Sizewell B, the remaining
AGRs and the aging English/Welsh Magnox units, were owned by the State-owned
‘Nuclear Electric’. These
two State companies had independent headquarters ( Despite
being required to sell-off plant, NP and PG retained very significant
pricing power through most of the 1990s.
Indeed, the resulting imposition of an annual price ‘cap’ by
OFFER, the Regulator, merely served to highlight the pricing power of these
two dominant players as they managed the annual average
price of electricity to meet the cap, but increased the price of power
across the demand peaks (when they
had more of their plant operating) to increase company returns.
These high prices made the economics of gas generation appear very
favorable indeed, prompting a rapid growth in gas generation capacity
throughout the 1990’s. Privatisation In 1996,
following improvements to the output performance of the nuclear units
funded, in part, by receipts from a levy on all electricity suppliers, the
City could, at last, be persuaded to take-on nuclear liability risk and
British Energy was successfully floated.
It is, perhaps, because the key players from the 1990 ESI
privatisation had, by then, departed, that the BE team accepted that the
price of the long-term take-or-pay contract for AGR fuel reprocessing with
British Nuclear Fuels Limited (BNFL) should be linked to the Retail Price
Index. Ultimately costing over
£300M to service, this contract alone would have pushed British Energy into
a financially precarious situation. Unfortunately,
it was just the biggest of a series of major deals that, with the benefit of
hindsight, were disastrous for the Company. Although
it was the parent company for Nuclear Electric Limited (NEL) (Sizewell B and
the English AGRs) and Scottish Nuclear Limited (SNL) (Torness and Hunterston
B), Edinburgh-based British Energy was viewed with immense suspicion by the
management team of NEL who wished to remain in charge of their own destiny.
Relations between the two management teams remained bad with very
poor communications and considerable mistrust.
It was this failure by British Energy senior management to
successfully integrate their largest operating subsidiary that fatally
weakened the new company. It was
only in 2000 that NEL was brought to heel, by which time very considerable
damage had been done. Wholesale Market Change The ’97
Labour Government of Tony Blair had a very different set of priorities to
the outgoing Conservatives. The
view was now that the market power of the incumbent generators was excessive
as prices were not falling as they should and coal-burning generation was
not being adequately rewarded for its innate flexibility.
The existing wholesale electricity market (the ‘Pool’) was seen
as preventing innovation and change in the ESI.
It, therefore, had to be scrapped.
The Government announced its plans for new electricity trading
arrangements (NETA) in 1999. This
prompted a significant sell-off of generation assets by NP and PG as they
sought to position themselves for the new market.
Believing that flexible generation assets would be essential in an
otherwise inflexible nuclear generation portfolio, British Energy bought
Eggborough power station from National Power.
In hindsight, for a generator with no supply business to act as a
natural hedge, the purchase of more generation in a market where the
Government itself declared an aspiration to see prices fall by 10% was
remarkable. However, what
happened next seemed to defy common sense. Along
with all the other players in the market, British Energy had been seeking to
purchase a domestic supply business to provide itself with a hedge against
falling prices. Outbid by EdF
for both London Electricity and SWEB, BE finally purchase SWALEC for £105M.
However, within 12 months of the purchase, electricity prices had
fallen dramatically and the Company’s senior management lost the appetite
to fund the necessary investment to grow SWALEC to a size that was deemed to
be competitive. In a decision
that ultimately cost him his job, CEO Peter Hollins sold SWALEC to Scottish
& Southern Energy whilst retaining its largest liability – the
out-of-the-money take or pay contract with Teesside Power Limited (TPL). In the 36
months from October 1999 to September 2002 wholesale electricity prices fell
some 35% from £24/MWh to £15.50/MWh. Whilst
some of this was almost certainly due to aggressive speculative
‘shorting’ (prices had recovered to £22/MWh by the Summer of 2003), the
effect of the significant amounts of gas generation, developed as a result
of the high electricity prices of the 90’s managed market, were finally
being felt. The effect on
British Energy was dramatic. With
3 major contracts now firmly out of the money and nuclear fuel back-end
costs rising with RPI, the company need to renegotiate its contract with
BNFL to stay solvent. Unfortunately,
the senior management at BNFL were, themselves, obsessed with their own
planned privatisation. The BE
contracts were critical to the acceptance of this privatisation by the City.
BNFL miss-read the situation at BE and refused a compromise. The
result was a Government emergency bail-out for BE and, ultimately, its
restructure into an exclusively UK focused nuclear operating company in
which the UK Government is, effectively, the largest stakeholder, taking 65%
of the Company’s free cashflow. For
BNFL, the much hoped-for privatisation was abandoned. The Lessons The
failure of British Energy owed a great deal to the poor quality of
decision-making, over several years, by its senior management team.
However, the Company would almost certainly have survived without
restructure if the market price for its product had not fallen by over 30%
in 3 years. This price collapse
was, itself, the product of a radical change in market design unenvisaged
when the Company was floated just 3 years previously, and also generation
developers investment decisions based upon prevailing prices in the
‘managed’ market of the 1990s – itself a creation of Government. Electricity
is a commodity in the Article by Phil Levermore. phil.levermore@clara.co.uk |
||||
| top | Back to MZINE | |||
