Big firms put knife into power market saying Meridian made $3.5b excess profit

Tuesday, 24 August 2021

Energy Minister Megan Woods says she is looking forward to discussing the profit study of Meridian, but Meridian questions whether the group that put it together has “credibility”.

Meridian Energy has made $3.5 billion in “excess profits” over the past 20 years, according to a study commissioned by the Major Electricity Users Group, which says high power prices are costing jobs.

It said Meridian’s excess profit over the past five years alone had totalled almost $2b, questioning whether that could be evidence of “persistent market power”.

The Major Electricity Users Group (MEUG) is calling for urgent measures to “curtail the near-term effects of high prices” before any decisions on a longer-term fix for the sector.

Energy Minister Megan Woods said the group’s analysis raised questions about whether the electricity wholesale market was operating as it should and said she looked forward to discussing it further and getting more advice.

“The electricity system must be fit for purpose in terms of security of supply and it must also be fair to consumers, whether they be large industrial users or residential users,” she said.

But Meridian disputed the conclusions of the study and said in a statement that it questioned the credibility of the MEUG, whose members include Fonterra, BusinessNZ, New Zealand Steel, supermarket group Countdown and brewer Lion.

* Flick Electric stops taking on new customers in blow to power competition

* 'Premature' to say whether $13 billion Meridian could be forced to shed assets

MEUG chairman John Harbord said Meridian’s rising level of profitability had “outperformed the level of profit-making seen in the Commerce Commission’s retail fuel market and ongoing supermarket studies”.

Some MEUG members spent tens of millions a year on electricity and had seen their power costs rise between 250 and 400 per cent over the past three years, he said.

They had lost confidence in the outcomes being delivered by the wholesale electricity market, he said.

Meridian chief executive Neal Barclay and then Electricity Authority strategy manager James Tipping discuss action to correct the 'undesirable trading situation' in 2019.

“It has certainly reduced investment into manufacturing and industry which doesn’t bode well for the future.”

Broker Forsyth Barr has estimated the combined operating profits of the big four ‘gentailers’, which also include Genesis, Mercury and Contact, edged down 2.6 per cent to just under $2.1b in the year to the end of June.

It has forecast Meridian will report a 20 per cent drop in its net profit to about $410m for the year to the end of June, when it releases its annual result on Wednesday.

But Harbord said that did not allay the MEUG’s concerns.

Its study was 15 months in the making and was conducted by financial advisor Ireland Wallace & Associates.

It looked at the returns Meridian made when compared with its ‘weighted cost of capital’, and was similar in nature, though not identical, to the way the Commerce Commission often assessed profitability, he said.

Ireland Wallace & Associates calculated that Meridian enjoyed an enviable 25.4 per cent return on capital last year.

That was after setting aside the upward revaluations Meridian had made of its power plants in its accounts and focusing instead on the “normal historic cost” of those assets.

Harbord said the Commerce Commission has provided grounds in the past for adopting that approach.

“It's quite a different type of reporting than the accounting profit metrics that the publicly-listed companies are using,” Harbord said.

Energy Minister Megan Woods downplayed the prospect of fast reforms of the electricity sector earlier this, but pressure for change from independent retailers and some big businesses has continued to build.

The MEUG had decided to single out Meridian’s profitability for study because it was the largest generator and its accounts were very well laid out, but it was nevertheless “not a trivial exercise”, he said.

“Because we haven’t looked at any of the other generators I couldn’t really comment on whether or not we would expect to see the same thing.”

Harbord agreed the recent extremes in Meridian’s profitability might be explained by the industry having long investment cycles.

“This may be a sort of ‘longish temporary situation’.”

But the fundamental issue was the loss of confidence in the wholesale market, he said.

Meridian chief financial officer Mike Roan said Meridian hadn’t had the opportunity to fully review the study which the MEUG supplied it with on Monday.

“What we can say is this report is radically out of step with the findings of the 2018 Electricity Price Review and independent analysis by PwC on this topic,” he said.

“The lack of transparency around the release isn’t usual form for the business community, which leads us to question the report’s credibility and the tactics behind its release,” Roan said.

The Government’s Electricity Price Review “looked into the profitability question and determined there was no evidence that companies in the electricity sector were making excessive profits”, he said.

The more detailed conclusions of the review – as reported by the Ministry of Business, Innovation and Employment – was that there were “ongoing questions about whether generators are making excessive profits at the expense of consumers”.

“This risks undermining confidence in the wholesale market,” it said.

“Whilst the review found no evidence to support this contention, it recommended the Electricity Authority require vertically integrated companies to report separately on the financial performance of their retail and generation operations using a common set of rules.

“This will assist market participants and others assess whether generators are making excessive profits,” it said.

The Electricity Authority, which regulates the power market, is due to complete a study into the wholesale market next month.

The MEUG represents big power users including Fonterra, NZ Steel, Countdown, Refining NZ, Lion and major sawmills.

There is speculation the authority may recommend Meridian be forced to divest some of its generation assets, most of which are hydro power plants, to reduce its market power.

The Labour Party campaigned for a much broader overhaul of the power market in 2013 when it proposed switching to a “single-buyer model” for the sector, but abandoned that after losing the 2014 election.

That model would have seen private sector firms compete to supply and retail power at the cheapest price, but with a new state-owned agency, NZ Power, sitting in the middle, paying generators only what power cost to produce plus a profit margin.

Harbord said the MEUG did not have views on that option, and was also “not for or against” structurally separating the big gentailers into separate generation and retail businesses, as has been proposed by some independent retailers.

But he said the future “looked very different now to when the wholesale electricity market was first established back in the 1990s”.

“It is clearly time to take a step-back and check that the design features of the market remain fit for this future – to ensure efficient adoption of cost-effective new technologies and support a just transition to meet our net zero obligations.”

Harbord said the MEUG was “reserving its opinion” on the wholesale review being conducted by the Electricity Authority, which in April defended the current structure of the industry, describing New Zealand’s power market as “well-regarded internationally”.

“We do have some concerns. But at the same time it's worth noting that the Electricity Authority widened the scope of its market review in March, and it subsequently included the issue of looking at profit-making on the supplier side,” Harbord said.

“We're taking them at face value that they are taking the issue very seriously. But ultimately we'll reserve final judgment until we see the quality of the work that they put out,” he said.

Harbord believed it would be cynical to think the Government would be reluctant to reform industry simply because it was a 51 per cent owner of Meridian, Mercury and Genesis.

“We know the minister is very focused on the outcomes the wholesale market is producing, and particularly concerned I think about the potential impacts on jobs, and for very good reason,” he said.

More businesses were also having to pass on the cost of higher power bills to consumers, he said.