This report examines the strategic decision by Bord Gáis to enter the domestic electricity supply market in Ireland in 2007. The 1996 European Union Electricity Directive, adopted in 2005, provided the background for the deregulation of the energy sector in Ireland and across the EU.
Using the PEST and Porter's 5 Forces to analyse the prevailing macro environment, the report notes that the decision by Bord Gáis was a strategically important move for all stakeholders, including end consumers.
2.0 Introduction
In 2007 Bord Gáis made the significant strategic decision to enter the market for supply of electricity to residential customers in Ireland and in the process becoming a full service energy company. Bord Gáis Energy successfully entered the residential electricity market in early 2009. Since then it has grown its electricity customer base to nearly 407,000, in addition to the 468,000 gas customers it also serves. As well as selling gas and electricity to all market segments, it is also responsible for related activities including call centre management, billing and sales and marketing. Through its Home Services Team it offers customers a wide range of products and services to help increase their overall energy efficiency. (Anon., 2011). This report will examine market forces of the day relating to the company's decision by using the PEST (Political, Economic, Social & Technological) and Porter's 5 Forces Analysis techniques.
3.0 PEST Analysis
PEST analysis refers to Political, Economic, Social, and Technological analysis and describes a framework of macro-environmental factors used in the environmental scanning component of strategic management.
Political
EED & Deregulation
Kyoto Protocol, 2005
Open European Market
Competition & right to choose
Economic
EU Directives
CCGT benefits
EIB Grant Aid
Social
Boom & Strategic Timing
Carbon Footprint & Kyoto
Freedom to choose supplier
Duel Fuel Supplier
Technological
Innovative production
Innovative Supply Chain
State Agency, Eirgrid
3.1 Political
Some key factors that have a bearing on the actions and decisions of Bord Gáis in 2007 are briefly discussed below.
1996 Electricity Directive. This Directive required all EU member states to open their retail markets for large users and distributors of electricity. According to European legislators the opening of energy markets will help achieve an internal structure that will bring competitive prices, improve security of supply and provide customers with the right to choose their supplier and the possibility to switch suppliers without incurring any costs. In addition, they will also help protect the environment, by encouraging companies to innovate in the field of environmentally-friendly energy. The counter argument is it could also cause fragmentation within the industry.
To implement the directive the Commission for Energy Regulation (CER), an independent body responsible for regulating and overseeing the deregulation of Ireland's energy sector was established (Joskow, P. L. and Schmalensee, R., 2003 [i] ). The directive compelled the monopoly supplier of electricity to Ireland, ESB, to begin reducing its share of the market from 100% to 60%. The Kyoto Protocol adopted in 1997, and entered into force in 2005 gave EU government's ample warning of their environmental commitments regarding production of harmful C02 emissions. The ESB decision to close their Tarbert station in 2006 led to significant reduction in harmful emissions and provided an avenue for the government to meet its commitments to the Kyoto Protocol. It also offered a major incentive to Bord Gáis to build one of the first Combined Cycle Gas Turbine (CCGT) Power plants in Ireland, which has capacity to generate electricity in a more efficient manner.
3.2 Economic
Key macro-economic issues of the day (2007) are highlighted below.
In the lead up (1999) to 2007, Ireland was experiencing strong economic growth, and the economy was widely seen as one of the most successful in the world. Favourable demographics and improvement in the level of education gave rise to an increase in the number of workers entering the labour market and higher productivity levels from the labour force.
Inward Investments. The arrival of the EU single market made Ireland an attractive location for inward investment, especially from the US, and helped boost Irish exports.
Low interest rate and low inflation rate regime in Ireland (and EU) led to rapid expansion of credit, which fuelled property values and increased activity in construction, which in turn accounted for a much larger share of the economy and employment than was previously the case.
Funding / Financial Aid. A combination of strong economy growth, strong employment, low interest rate and inflation rate, and government budget surplus provides a healthy environment for Bord Gáis to undertake the CCGT project, which cost €400 million. Firstly, research on the economics of the project showed that a CCGT plant would be the cheapest to run at maximum capacity since gas is one of the cheapest fuels. Furthermore, a Gas CCGT plant could be built in 2 years which was half the time it would take to build a coal burning plant (Anon., 2009). The project was part funded by a grant aid of €200 million provided by the European Investment Bank, as part of financial support package to assist member states in line with the Bank's policy of supporting the achievement of EU Policy objectives (http://www.esri.ie/pdf/WP168_Market%20size.pdf, 2008).
3.3 Social
Factors affecting the energy sector includes health and safety initiatives on site, environmental issues (reduction in carbon emissions) and traffic management during construction of the Plant. Furthermore, consumers value the freedom to choose their utility supplier (Implementation of EU directives (Anon., 2006)), and can shop around for competitive rates, which results in increased competition in the sector.
3.4 Technological
Factors include technological aspects such as R&D activity, automation, technology incentives and the rate of technological change. They can determine barriers to entry, minimum efficient production level and influence outsourcing decisions. Furthermore, technological shifts can affect costs, quality, and lead to innovation as outlined below.
The development of CCGT brought significant change to the energy sector in Ireland, including a reduction of fuel consumption, significantly improved efficiencies and lower carbon emissions from gas with alternative energy sources such as wind-generated (contribution to national grid to power up to 1.3 million homes) currently growing in popularity.
The Irish government, through its State Agency, Eirgrid has developed REFIT 2, which is designed to incentivise the addition of 4,000MW of new renewable electricity capacity to the Irish grid. In addition, EirGrid and the National Digital Research Centre (NDRC) announced an innovative new collaboration, the Smart Grid Innovation Hub, to assist companies, entrepreneurs and academics with Smart Grid propositions to access support from both the energy and ICT industries in Ireland and Northern Ireland, towards new products and services that will realise the Smart Grid (Anon., 2012).
4.0 Porter's 5 Forces Analysis
Porter's five forces analysis is a framework for industry analysis and business strategy development. It draws upon industrial organisation (IO) economics to derive five forces that determine the competitive intensity and therefore attractiveness (overall industry profitability) of a market. These forces are examined below in relation to Bord Gáis.
4.1 Threat of new competition
The threat of new entrants is low due to the high barriers to entry. These are discussed briefly below.
The capital intensive nature of the sector due to significant requirement for infrastructure, extensive legal requirements due to security / safety issues and extensive supervision presents high barriers to entry. Furthermore, as the Irish market is a small peripheral market, only a few players may be able to operate profitably.
The full opening of the Irish market in 2005, and no switching costs means that consumers can switch to competitors (ESB and Airtricity) with relative ease. Furthermore, advent of prepay (pay as you go) services offering complete control of their electricity bills to consumers presents additional challenges to the success of Bord Gáis.
4.2 Threat of substitute products or services
The threat of a substitute product is low as outlined below.
Development of alternative energy sources such as wind, solar, hydro and nuclear power plants are yet to gain solid footing in Ireland.
However, this may change in the foreseeable future with the introduction of the Emissions Trading Scheme (ETS) in 2005. Utilities providers such as Sweden-based Vattenfall (rated A-) and Electricitee de Frances (rated AA-) have seen doubling of net profits principally as a result of their large proportion of hydro generation and nuclear generation respectively.
4.3 Bargaining power of customers
The bargaining power of customers is also described as the market of outputs: the ability of customers to put the company under pressure, which also affects the customer's sensitivity to price changes. The buyers power is low.
The individual consumer has little to no pressure on Bord Gáis. The main competitors, ESB and Airtricity are priced almost the same as Bord Gáis, inspite of marketing initiatives claiming savings on energy bills upon switching.
Price plans (business customers) and residential tariffs are no longer regulated and approved by the CER (each EU country has regulators in place to ensure suppliers operate correctly as part of a wider EU energy strategy aimed at tackling climate change, ensuring the security of supplies and encouraging more energy efficient usage (Anon., 2007)), with prices now to be set in the same manner as all other suppliers, however due to absence of switching costs customers of Bord Gáis can switch to competitors, especially with discounts / rebates designed to woo them. The possibility of bad press due to payment enforcement methods may also result of switching by the vast majority within small community markets.
4.4 Bargaining power of suppliers
The bargaining power of suppliers is the market of inputs, and is high as discussed below.
The primary input for CCGT is gas (although it is designed to also run on low sulphur distillate oil as a back-up). The major suppliers of gas in Europe are OPEC (Organisation of Petroleum Exporting Countries), Russia and Ukraine (and to a lesser extent Moldova).
OPEC determines production levels to suit demand / supply characteristics as well as to achieve a desired price for its members.
The gas struggle between Russia and Ukraine in 2005 led to severe shortages of supply to many European countries including France, Austria and Italy (Stern, 2006a). Ireland sources most of its gas supply from Britain, albeit supply can be volatile as it is extremely sensitive to emerging nations' politics and activities and US global politics and national subsidies to industry. Furthermore, due to the formation of cartels in the oil / gas production countries, the cost of switching to new suppliers is high as a result of political considerations.
4.5 Intensity of Competitive Rivalry
The degree of competitive rivalry in the energy sector in Ireland is virtually non-existent in 2007. However, following the deregulation of the sector in 2005, the competitive rivalry can be viewed as high for the following reasons.
The main competitor is ESB, which operates an extensive electricity network throughout Ireland (seven thermal stations and ten hydro stations). Both Bord Gáis and ESB are the predominant suppliers of energy (electricity) and commit heavily to sponsoring outdoor events and activities, including sports (Team Ireland at the 2012 London Olympics, Irish Rugby), music and community support initiatives.
Possibility of electricity (large) suppliers entering domestic market- established business market. Since 2000 up to 1,600 of the largest electricity customers have been eligible to purchase power in the independent market, and hence chose their own supplies.
The full opening of the electricity market occurred in 2005 with potential new entrants (established UK / NI suppliers) into the market.
