The future of contract analysis will be an in depth scenario testing exercise, looking at the most unlikely situations such as a global pandemics where the world grinds to a standstill save for the essential services we require for such things as…you know… existing!
Imagine one year ago, stopping a supply contract signature because you were insistent that ‘except in the case of a global medical emergency’ was appended to a reforecasting clause? I expect such an unlikely addition would have made it through legal like a hot knife through butter… “Yeah, whatever dude; now sign the contract”. As with many great ideas, they come after the event.
We’re living out our very own 1970’s disaster movie, and the sequel, ‘Revenge of the Clause’, has us all engrossed in the script. Dusting off supply contracts, donning our spectacles and scrutinising every aspect of what seemed to be very simple areas: tolerance and reforecasting. This has become a lockdown pursuit for many flexible purchasing energy customers and their representatives.
But why have these clauses come to such prominence? Most suppliers have been quite relaxed about reforecasting in the past. So what’s the problem now?
The normal state of affairs is that you contract for a certain volume per day/month and then you consume somewhere in the region of that figure. You could have bought that energy two, three, even four years or more in advance. So, you didn’t realise the apocalypse was just around the corner? Shame on you!! You were one of, well… everybody, who didn’t see this black pterodactyl coming around the corner. Poor sales? Possibly. Low footfall due to cold weather? Perhaps. Major plant malfunction? I suppose there’s a chance. Global pandemic overwhelming all healthcare systems? Drama queen! But the unlikely has now become the reality and those volumes of energy you thought you’d need are now surplus to requirement.
Pre-corona days, suppliers held large portfolios where customers would sometimes use more than their monthly volumes, and sometimes they’d use less. Some customers always used more, but some would always use less. Some would unfortunately go insolvent, and not use anything. Fortunately, some landed huge contracts and doubled production. However, the effect on a suppliers’ portfolio would be: ‘balance’. That yin-yang nirvana of any electricity network, supplier and customer. Balancing supply and demand is a profitable business principle when done well. Done badly? You know the answer to that.
All those ardent clauses about reforecasting and tolerance breaches were generally advisories if you had a good relationship with your supplier. A nicely worded email, “Hi, how are you today. We’ve just noticed you’ve gone under your tolerance for a couple of months. You might want to think about reforecasting. Anyway, thanks, and have a great weekend.” – aah, those were the good old days.
The correspondence is more akin to a message from Darth Vader now with its virtual grip at your throat whilst it threatens to destroy your home planet for the 3.28% you went under your April forecast volume, demanding you either reforecast or deliver your first born at the altar (they’re not fussed either way). At least they’re flexible by name and nature.
The reality is, suppliers are scared. Their business models never envisaged a scenario where UK demand would be down by 21% to date on the previous year. Where their management fees have been obliterated and they’re left holding large volumes of energy that nobody wants or needs, but still have to be paid for. Years of building up relationships with customers and TPI’s have been tested over fraught reforecasting discussions. Obscure reading of commonly understood clauses, communicated by ashen faced supplier Relationship Managers, have received less than welcome receptions. The idea of struggling Energy Suppliers isn’t something the Great British public have much sympathy for, even if the narrative has merit this time.
So what now? The pandemic has kick started a volume consciousness we should have had anyway. As a result, reforecasting is here to stay and we need to adapt to ensure we can benefit from the new environment. Look out for new flex contracts with tolerance premiums where carefully managed volumes receive rebates, whilst offenders pay the price. Monthly reforecasting discussions with suppliers, the shifting of risk to customers and far more stringent tolerances will be the ‘new normal’.
What can we do? Firstly, check your current contract. I’m the bearer of bad news I’m afraid. One of the big 6 suppliers has a standard reforecasting clause which stipulates if you breach tolerance in any month, they then have the arbitrary right to reforecast any other month without evidence to suggest there will be a volume variance. Another supplier is suggesting that their reforecasting clause(s) supersede their tolerance clause(s) and that no tolerance protection is afforded, subject to their discretion. So, it’s vital to check and understand what your obligations are.
Going forward, it’s imperative to realise that managing your volumes is your responsibility:
- Check tolerance and reforecasting clauses are fit for purpose.
- Link consumption to production so you can understand what you’ll be consuming.
- Whilst coronavirus second and third waves are still possible, only hedge the volume you’d use if your business was affected by lock down rules.
- Explain to stakeholders that budget certainty (100% hedged positions) are now a risk.
- Utilise Day-Ahead and Month-Ahead markets.
- Sub-meter large consuming assets.
- Finally, don’t forget that in this time of risk, there’s also great opportunity. Secure a long-term flex contract and get ready to take advantage.
Our world has changed exponentially over the last few months, but, as always, it’s those who can adapt to the changing landscape who’ll reap the benefits.