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Will the falling oil price affect my business energy costs?

In theOil Pumps latest in our series of Ask the Boss we ask Business Juice bosses the topical question of:

Will the falling oil price affect my business energy costs?

Business Juice:

Whilst many naturally expect a direct correlation between the price of oil, which quite frankly is tanking, and the cost of gas, the truth is somewhat more involved.

The significant fall in the global oil price that has been in train for the last few months will have a softened impact in the gas market. There will however be an impact, though a far slower one than the immediate fall in the crude oil indices.

In the UK there is no oil indexing for gas supply contracts therefore no correlation (other than general economic considerations) link the two, that means that gas “in the UK” will not see a direct impact from the oil price falls.

In Europe, where traditionally gas supply was directly indexed to the oil price, only a third of all contracts are now operated in this way.

As a result again the impact of the fall in oil price on the cost of gas is muted.

Those contracts that do index the oil price typically have a 2-6 months lag on the impact of the oil price on its price direction.

Already therefore we have a minimal sample (1/3 of contracts), subject to a lag of anything up to 6 months. Therefore even in Europe where the impact will be felt most and earliest, it is at best muted.

For the UK, the balance of imports further diminishes the impact.

In 2013, 424TWH of gas was indigenously produced, whilst 535TWH was imported, or 56%.

Of that 56% we can assume that a maximum of 1/3 will be from Europe on oil indexed contracts.

This therefore suggests just 18% of all UK gas will have a direct influence from the oil price.

And with wholesale gas only constituting around 46% of the overall retail price of gas in the UK this would suggest that even when the impact of the oil price indexed contracts filter through after 6 months, just 8% of the price will be impacted.

And with gas being the energy source for 26% of electricity generation in 2013/14, and the wholesale cost of electricity constituting just 35% of the full retail price, we can assumed that just 3% of the price will be impacted.

As an investor note from RBC Capital recently commented:

“The sharp drop in oil over the last 3-4 months will be filtering down as a lower input cost to utilities in late Q1 and they will then be able to pass it through to customers from Q2 onwards”

So in conclusion, the oil price tumbles of recent months will not be felt in the same magnitude or frequency in the UK gas market or the electricity market, and any reduction will be on a very small element of the overall retail price of 8% (gas) and 3% (electricity) with even a 20% price fall resulting in just a 1.7% fall in the cost of gas, and 0.6% in the cost of electricity on prices that have already fallen 30% and 18% respectively over the last 12 months.

There is no big win on the horizon.