PAPER B
Purpose: For Decision

Committee

EXECUTIVE

Date

12 JANUARY 2017

Title

CONSIDERATION OF INVESTMENT IN A LOCAL
ENERGY COMPANY

Report to

EXECUTIVE
MEMBER
FOR
REGENERATION,
HOUSING AND HOMELESSNESS, TRANSPORT

EXECUTIVE SUMMARY
1.

The council has been investigating how it can become involved in the provision of
energy services to residents and business. A number of other local authorities have
recently established local energy supply companies with a view to securing a
financial return, providing cheaper energy and wider community benefits.

2.

The council has received a proposal to establish a local energy company as a joint
venture. This arrangement allows the council to partner with an organisation that
holds gas and electricity supply licences and has the systems in place to comply with
the licence requirements.

3.

This report considers proposed Heads of Terms for a joint investment with
Community Energy Exchange Holdings Ltd in the local energy company (£208,250)
and, potentially, a further investment in the Community Energy Exchange (£200,000).
The total investment proposal will be subject to full due diligence and the preparation
of a business case.

4.

This opportunity offers many desirable outcomes, including, but not limited to,
increased revenue for the council, a more sustainable energy system and financial
benefits for residents.

BACKGROUND
5.

The retail energy market has been going through a period of rapid change with the
entry of many new suppliers challenging the dominant position of the “big six” energy
retailers (British Gas, EDF, E.ON, SSE, Scottish Power and Npower).

6.

A recent report from the University of Leeds (see Background Papers) suggests that
local supply arrangements could support local power generation, help to match
patterns of generation with demand, increase the take up of energy efficiency
programmes and retain energy value within local communities.
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 7.

A number of local authorities have become involved in the retail energy market. The
early movers were Cheshire East Council, Peterborough City Council, Nottingham
City Council and Bristol City Council. The first two established arrangements to
market supplies offered by an existing supplier, while Nottingham and Bristol councils
took a more ambitious route, setting up wholly owned companies with their own
supply licences.

8.

Numerous other public authorities are considering involvement in energy supply
including Liverpool and Leeds city councils and the Greater London Authority.

9.

To become a supplier of gas and electricity, supply licences must be obtained from
Ofgem. These require the licence holder to comply with a detailed and complex set of
regulations and codes which protect the customer and ensure the effective operation
of the energy markets. The regulations control such things as the buying and selling
of energy, customer relations, tariffs and any additional requirements which are
imposed through legislation or through the regulator’s delegated powers.

10.

The gas and electricity market on the Isle of Wight is valued at some £100 million per
year. There is an opportunity to retain some of this value in the local area through the
delivery of local energy services.

11.

The option of holding full supply licences is considered too onerous for the council
and other types of arrangements do not offer the potential for the council to gain a
return from investing in energy services or for the local community to benefit fully.

12.

The council has been approached by Reenergise Ltd (REL) which is establishing the
Community Energy Exchange (CX) to serve numerous local energy supply
companies. The proposal is for the council to invest jointly in a local energy company
(IOWEnergyCo) which will focus initially on the supply of gas and electricity to Island
residents and businesses.

13.

The Joint Venture partner would be Community Energy Exchange Holdings Ltd
(CXH), a Special Purpose Vehicle established by Reenergise Ltd to own and operate
the CX.

14.

Proposed Heads of Terms for the IOWEnergyCo are attached as confidential
Appendix 1 and can be summarised as follows:
•
•
•
•
•
•

An investment from the council of £208,250.
A shareholding in IOWEnergyCo of 49 per cent.
Isle of Wight Council to have two seats on the board of directors out of a total
of four. Board approvals with a simple majority.
IOWEnergyCo to be an approved agent of CX.
IoWEnergyCo or Isle of Wight Council may enter into power purchase
agreements (PPAs) with local energy generators to supply energy onto the
grid for consumption on the Isle of Wight.
When appropriate, to expand its activities possibly to include heat supply,
water supply, internet and telephone supply, demand side response services
(including time of use tariffs), energy storage, energy efficiency measures,
electric vehicle service and other suitable services.
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 •
•

An annual dividend will be payable provided that the payments do not exceed
cumulative profit and allow for sufficient cash to be retained in the business to
ensure the annual cycle can be covered.
Once the business is operating profitability both parties can consider offering a
proportion of their shareholding for community investment.

15.

The principal activities for the IOWEnergyCo will be the recruitment of customers and
the agreement, with CX, on the retail tariffs (within the rules of Ofgem). As the
business develops it will need to forecast the number and type of end customers to
be supplied over the forward purchase period and to begin to enter into PPAs with
local generators.

16.

The CX will maintain the gas and electricity supply licences. It will provide a regulated
full business services for the delivery of energy supply including demand forecasting,
energy trading and settlement, metering, customer billing, collection and debt
management and customer management and support. All customer services and
interaction will be badged as if coming directly from IoWEnergyCo. The CX will need
to exert sufficient control over the operations of IoWEnergyCo to ensure compliance
with supply licence regulations and obligations.

17.

The CX proposes to help establish a number of local energy supply companies
throughout the UK, based on local authority areas or communities of interest. The
aggregation of all of these customers allows it to achieve economies of scale and
therefore reduce the fees it charges for its services, benefiting all the local
companies.

18.

It is proposed that the CX infrastructure will be established on the Isle of Wight,
providing local employment. This infrastructure will comprise a call centre and
support offices which will service all the local energy companies as they are
established and, based on conservative estimates of growth, employment in the CX
facility will increase from 18 full-time equivalent (FTE) in 2017 to 66 FTE in 2022.
This will be new employment for the Island.

19.

The arrangement could help the council to achieve numerous objectives, including:
• benefiting from any surpluses generated by the business in order to support
ongoing service provision;
• influence over energy pricing and tariffs offered to customers;
• support for local renewable energy generation and providing greater local
benefits from this generation;
• job creation;
• the ability to reduce energy costs for vulnerable groups and ‘non-switching’
households;
• the ability to offer reduced prices as a business incentive to encourage inward
investment and support small, start-up businesses;
• providing the infrastructure for more flexible options in the future such as
domestic storage of electricity and time-of-use tariffs.

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 20.

As potentially the first area to participate in this model, the Isle of Wight Council has
also been offered the opportunity to invest in the CX, benefiting from the wider
operation as it expands nationally and becomes more profitable. An investment of
£200,000 would secure a five per cent non-controlling stake in the CX.

STRATEGIC CONTEXT
21.

This proposal supports Eco Island, the Isle of Wight Sustainable Community
Strategy, in particular the Thriving Island theme. It aims to retain a proportion of the
energy spend within the local economy and to reduce the energy costs for residents
and businesses. It is also hoped to link directly to local renewable energy generation,
ensuring its output benefits local residents.

22.

The current Corporate Plan (2015-17) contains, within Priority 1 – “Supporting
Growth in the Economy”, the following activity:
“Continue to investigate the potential for the development of an Isle of Wight energy
company to make use of the many sources of renewable energy on the Island and to
provide a cheaper alternative supply for Island residents.”
This proposal is the first step in taking this activity forward.

23.

It is anticipated that any investment would provide a return to support future service
provision, while also helping to alleviate fuel poverty. These outcomes support the
Corporate Plan priority 4 of ensuring that all the resources available to the Island are
used in the most effective way in achieving the Island’s priorities and that “income
generation maximisation is optimised”.

24.

The Isle of Wight has in excess of 6,000 households in fuel poverty – see
https://www.gov.uk/government/statistics/2013-sub-regional-fuel-poverty-data-lowincome-high-costs-indicator. The local energy company will seek to support those
households at greater risk of fuel poverty through a more appropriate range of tariffs
(for example, a lower differentiation between those paying by direct debit and through
prepayment meters) and through energy efficiency programmes which target the
more vulnerable. This will support the preventative health agenda and lead to a
reduction in health and social care costs.

25.

The national Community Energy Strategy published by the Department for Energy &
Climate Change in January 2014 states that “Government wants to see all authorities
showing leadership to help deliver community energy projects. There are a variety of
ways local authorities can catalyse and scale up activity that can also help them meet
their own goals. Key opportunities include….partnerships and investment…”

CONSULTATION
26.

The extent of interest in a local energy offer is based on the results of Community
Action Isle of Wight’s (CAIW) collective switching project, the Big Wight Switch, which
took place in 2013. This resulted in the registration of nearly 12,000 Island
households expressing an interest in cheaper energy through collective purchasing.
A total of 5,185 of these households reported that they had never switched their
supplier before. A final report on the project concluded “Collective switching was a
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 disappointment as energy companies chose not to engage with it in any meaningful
way. Greater competition within the energy sector needs to be encouraged to benefit
all consumers.” CAIW has been further consulted on the council’s intent to take
forward this agenda and are supportive of the aim to reduce fuel costs for residents.
They would like to see the community benefit as broadly as possible from the
retained share of the energy market.
FINANCIAL / BUDGET IMPLICATIONS
27.

A review has been undertaken by the council’s capital accountant of the operating
model and financial model for the Community Energy Exchange (CX) including the
assumptions on customer numbers, IOWEnergyCo profitability and the proposed
structure of the new legal entities for accounting purposes.

28.

Analysis of the current proposed operating and financial models suggests that these
potential investments could generate significant future returns for the council, as well
as supporting the provision of cheaper energy and wider community benefits.

29.

However there are significant gaps in the information in the operating model including
details of competitive advantage, marketing strategies and the capability of CX to
obtain the required licenses; these areas will need to be investigated further during
due diligence work.

30.

In addition, the financial model requires further scrutiny through due diligence work to
confirm the security of the council’s potential investments particularly with concerns
over the financial standing of the partnering company, the lack of trading experience
of CX, and the uncertainties of the ownership structure of CX.

31.

The reasonableness of the customer demand included in the financial model needs
to be tested and subjected to sensitivity analysis, in order to validate the potential
returns.

32.

Should the final proposal be approved by Executive, a capital bid will be submitted
for the 2017/18 programme to allow for timely implementation of the scheme. This
will be subject to approval by Full Council as part of the annual setting of the capital
programme.

33.

Further revenue costs will be incurred in-year, including expert support with
commercial negotiations, legal structure and financial due diligence for both the
IOWEnergyCo and CX investments. The estimated budget requirement is £75,000
and will be sourced from the Economic Development projects’ budget.

CARBON EMISSIONS
34.

The recommendation has no impact on the council’s Carbon Management Plan since
it does not impact on council buildings or services.

35.

The IOWEnergyCo will aim to include a significant proportion of renewable energy in
its electricity supply from both national and local sources. Recent negotiations
conducted by Reenergise Ltd indicate that this could be 100 per cent green
electricity.
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 LEGAL IMPLICATIONS
36.

There are a number of legal implications that will need to be fully considered as part
of the business case and due diligence which will include specialist legal advice. The
implications include consideration of the council’s ability to trade in this industry,
procurement matters, state aid, competition law and the regulations relating to the
power industry. Any subsequent report to the Executive for decision on this matter
will include full consideration of all legal implications.

EQUALITY AND DIVERSITY
37.

The council, as a public body, is required to meet its statutory obligations under the
Equality Act 2010 to have due regard to eliminate unlawful discrimination, promote
equal opportunities between people from different groups and to foster good relations
between people who share a protected characteristic and people who do not share it.
The protected characteristics are: age, disability, gender reassignment, marriage and
civil partnership, pregnancy and maternity, race, religion or belief, sex and sexual
orientation.

38.

A full equalities impact assessment (EIA) has been undertaken to assess the
potential impact of the establishment of the IOWEnergyCo, based on the proposed
Heads of Terms. This has concluded that the proposal will lead to no adverse
impacts on any protected groups with potential benefits in terms of reduced fuel costs
and alleviation of fuel poverty, particularly for older people and those with disabilities.
The EIA will be updated following the business case development and due diligence.

OPTIONS
39.

The options relate to both the establishment of the IOWEnergyCo and investment in
the CX:
•
•
•
•

Option 1 – do nothing.
Option 2 – to undertake a due diligence exercise and the development of a
business case into the investment in the local energy company on the
proposed terms outlined in this report.
Option 3 – to undertake a due diligence exercise and the development of a
business case into the investment in the community energy exchange on the
proposed terms outlined in this report.
Option 4 – negotiate different terms to those outlined in this report.

RISK MANAGEMENT
40.

There are potential financial and legal risks associated with the investment which will
be explored fully during the due diligence and business planning phase. A full risk
register will be developed and considered prior to financial close to ensure that risks
are mitigated and properly apportioned between the parties.

41.

The proposed investment partner for the IOWEnergyCo is the Community Energy
Exchange (CX), which is a new market entrant. There are some risks associated with
this and it will be important to ensure that the CX has systems in place to properly
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 manage the supply business and meet the supply licence obligations to protect
customers.
42.

The number of customers recruited is likely to be the critical factor in the long-term
success of the venture. For business planning purposes, modelling will be based on
the recruitment of 12.5 per cent of Island households after five years. The due
diligence process will consider the assumptions on customer numbers.

43.

The proposed business model is currently untested and there will be no conclusive
proof that this unique model can be executed until CX has an approved licence;
therefore, confirmation of award of the supply licences will be a pre-condition for the
council investment.

44.

It should also be recognised that there are ‘do nothing’ risks in that a decision to do
nothing will forego a potential long-term income stream for the council and wider
community benefits. This additional income stream cannot be easily replaced and the
aim to reduce fuel poverty and gain the same social and public health benefits may
not be easily achieved.

EVALUATION
45.

An initial appraisal suggests that the IOWEnergyCo could provide a revenue stream
to the council of over £300,000 per year from year five onwards. This figure relates
only to energy sales and does not include the many income streams that can be
derived from providing a wider range of energy services, particularly the opportunities
that are starting to arise for grid balancing services. A separate investment in the CX
opens up the possibility of an additional long-term income stream through dividend
payments.

46.

Option 1 – there is the option to do nothing should the council not wish to be
involved in energy services as described in this report. The council may also choose
to wait to see if any arrangements are developed by local authorities across the
Solent area and join in with these. At present Southampton City Council is
investigating the opportunity to implement a risk phased approach to setting up an
energy supply company; however, the final approach has yet to be confirmed and
approved. The model being proposed in this report allows local areas to set up their
own energy supply arrangements with some autonomy over tariffs, while providing
wider benefits to all communities through reduced CX fees as customer numbers
increase nationally. Therefore, there is the possibility of the CX model being utilised
by others in the Solent area.

47.

Option 2 – the proposal has the potential to provide a long-term income stream to
support general service provision while at the same time supporting a broader
agenda, from reducing fuel poverty to local renewable energy generation and job
creation. In providing a customer base it also allows the council to become more
actively involved in future innovations such as time-of-use tariffs and energy storage
which create a more resilient electricity network and improve the Island’s energy
security. It is believed that cheaper energy can be provided for the majority,
especially those that have not previously switched supplier.

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 Establishing the IOWEnergyCo provides greater benefits than basic promotion of an
existing supplier’s product, but does not require the investment or risk involved in
securing supply licences. Under this proposal it is the CX that is required to ensure
compliance with supply codes and regulations at all times. The licences themselves
ensure customer protection to the same levels that are required across the industry
from the “big six” to new market entrants. The CX will also provide all the back office
functions necessary for the operation of the company and will be the interface with
customers.
Further investigation of the proposal requires officers, with external expert support, to
conduct commercial negotiations along with the development of a full business case
and legal and financial due diligence. This will be based on the proposed Heads of
Terms provided (paragraph 14) and the results will be brought back to Executive for
further consideration. The total cost of the proposed work will be less than £75,000
and will be accommodated within the existing Economic Development budget.
48.

Option 3 – should it decide to invest in the establishment of IOWEnergyCo, the
council will have the opportunity to make an additional investment in the CX on
preferential terms, as outlined in paragraph 20. This recognises the role of the Isle of
Wight as the first community and allows the council to benefit as the CX grows. As
with the IOWEnergyCo investment, the proposal requires due diligence which,
because of the interrelated nature of the investments, is best carried out in parallel
with the work on the IOWEnergyCo investment. The proposed work will be included
in the £75,000 budget mentioned above (paragraph 47).

49.

Option 4 – the proposed Heads of Terms summarised in paragraph 14 and provided
in confidential Appendix 1 provide the basis for the joint investment with CX. They
state the objectives of the investment, along with the level of council shareholding
and associated investment and are believed at this stage to provide the best balance
of risk and reward. Heads of Terms are a set of agreed principles which are expected
to be reflected in the final contract; however, they may be altered through commercial
negotiation, only becoming binding on financial close. Executive may request
alterations to any of the proposed terms as the starting point for further
investigations, bearing in mind that the final terms will be subject to approval at a
later date should the case for investment be established.

50.

In conclusion, establishing the IOWEnergyCo has the potential to offer significant
rewards to residents, businesses and the council. The involvement of the council to
ensure a social benefit ethos for the business is considered to be a key factor in
attracting and keeping customers, as is the ability to demonstrate local benefits. A
final decision on whether to go ahead with the investment will only be made once the
commercial and governance arrangements are determined through the detailed
business case to be prepared and checked.

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 RECOMMENDATION
51.

Option 2 - To undertake a due diligence exercise and the development of a business
case into the investment in the local energy company on the proposed terms outlined
in this report.

52.

Option 3 - To undertake a due diligence exercise and the development of a business
case into the investment in the community energy exchange on the proposed terms
outlined in this report.

APPENDICES ATTACHED
53.

Appendix 1 – Proposed Heads of Terms for a joint venture to create an Isle of Wight
Energy Company. Confidential due to commercial sensitivity at this stage – This
appendix is exempt from disclosure by virtue of paragraph 3 of part 1 of Schedule
12A of the Local Government Act 1972 (as amended) as it, “relates to financial or
business affairs of any particular person”, (including the authority holding that
information). The public interest in maintaining confidentiality is outweighed by the
public interest in disclosing it. Disclosing the information could place the Council at
risk of legal challenge from individuals or other bodies identified in the report.

54.

Appendix 2 - Stage 1 Equality Impact Assessment – Initial Screening

BACKGROUND PAPERS
55.

“Local Electricity Supply: Opportunities, archetypes and outcomes”, Dr. Stephen Hall
& Dr. Katy Roelich, University of Leeds, March 2015. Available at:
https://research.ncl.ac.uk/ibuild/outputs/reports/local_electricity_supply_report_WEB.
pdf

Contact Point: Jim Fawcett, Principal Officer (Low Carbon Projects),
 01983 821000 e-mail jim.fawcett@iow.gov.uk
ASHLEY CURZON
Head of Economic Development

COUNCILLOR JULIA BAKER-SMITH
Executive Member for Regeneration, Housing
and Homelessness, Transport

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