Internationally, gas markets have been progressively liberalised driven by a desire to deliver lower prices and improve service quality and innovation. In the European Union (EU), this process is at an advanced stage, with the majority of EU member states' gas markets now open to competition. Gas-to-gas competition across the EU is intensifying and of increasing importance for gas price determination.
This paper presents results from PA Consulting Group's (PA) annual gas market survey for Germany (see footnote #1). A country where the gas market has been open to competition for over a decade, yet up until 2008, was unable to attract new market entrants. The 2009 results show that competition is beginning to develop within the German gas market and provides some context for why it has only recently started to evolve. Based on the survey results and drawing on PA's gas market expertise, this paper concludes by providing insight on how competition in other EU gas markets could unfold.
PA's survey results show competition is increasing
Prior to 2007, competition in the German gas market had been slow to develop, restricted by limited access to transport, distribution capacities, long-term supply contracts in the wholesale market, and access to liquidity. These were all addressed in 2007 with the amendment of the Energy Industry Act.
According to PA's 2009 survey results, gas-to-gas competition in the wholesale and retail market is now increasing. In the wholesale market, new suppliers such as gas companies from adjacent countries and traders are the main drivers for competition. In the retail sector, competition stems from incumbent regional and local distribution companies entering new geographical markets.
Survey results taken over the last three years show four emerging trends that support competition is increasing in the German gas market.
1. New pricing mechanisms for long term contracts
In Germany, the market value/netback principle (see footnote #2) has been the main methodology employed to determine the gas price of supply contracts for RDCs and LDCs. However, since 2008 a small but increasing share of gas is now being priced based on trading point quotations, such as the Dutch TTF, the German NCG or GUD and Belgian Zeebrugge. According to PA's survey results, these new pricing mechanisms are mainly being applied by new market players.
2. Incumbents are entering new markets
Gas-to-gas competition in the retail market has particularly intensified in 2009 due to incumbent RDCs and LDCs entering new geographic markets. The 2009 survey results showed that more than half of the participating utilities had entered new markets in that year. All survey respondents indicated they had experienced losses in traditional 'home' markets and were entering new markets to compensate.
3. Pessimism in traditional markets and optimism in new markets
Since 2007, the majority of survey participants reported increasing pessimism towards traditional 'home' markets. The share of surveyed companies expecting losses from traditional markets of more than 5% of their total sales volumes increased significantly from 30% to 60% over the last three years.
This increased pessimism is mirrored by an increased level of optimism towards new markets. Since 2007, survey participants indicated they expected steady volume growth in new markets outside the traditional supply region.
As suppliers seek growth opportunities in new markets to compensate for losses in their traditional 'home' markets, competition is destined to increase.
4. Improved market framework
The pre-2008 survey results identified regulatory and legal barriers preventing new market entrants from trading in the German gas market. Some reasons for this are very specific, for example uncertainties regarding transport tariffs. However, for competition to foster and flourish, there must be in place the right market framework, and this was not the case pre-2008.
The 2009 survey results show that many of the legal and regulatory barriers have since been resolved and the market framework continues to improve the prospects for greater competition. Competition is expected to grow now that the prerequisites are in place to support an open and competitive gas market.
Implications for German and other EU gas markets
All EU member states are required to develop competitive market conditions in line with the EU legislative framework. With the implementation of the Third Legislative Package, this is a process that will continue to develop until a truly open and competive gas market across the EU is firmly established.
It is likely that in the long-term, all EU gas markets – including those where competition is not yet established – will follow a similar pattern as identified in the German market.
But competition in the German gas market is only at the early stages of development, For example, the UK, a gas market which was fully liberalised in May 1998, provides an indication of what a mature competitive gas market could look like, where the former gas incumbent invested in its electricity offering and is now the leading dual fuel supplier, leading gas supplier and leading electricity supplier for the country. Internationally, gas suppliers have followed a similar approach by diversifying outside of their core 'home' markets to become energy solution providers offering a range of energy and energy-related products and services.
Based on PA's 2007-2009 survey results, we can determine three necessary factors for gas-to-gas competition to evolve and become established.
1. Access to transport and distribution capacities
Although many EU gas markets were liberalised in the 1990s, gas-to-gas competition only developed in a few markets, for example in the UK. The German gas market officially opened in 1998, however, undesirable network access fees deterred new entrants from trading. In 2007, network access fees were reduced and regulatory amendments were made which enticed new entrants, hence competition began to evolve. Unfettered access to transport and distribution capacities is therefore required to encourage new entry. Other EU member states therefore need to ensure they have effective regulatory frameworks to address network access issues.
2. Willingness of customers to switch suppliers
As energy bills have become an increasing proportion of household bills, customer willingness to switch gas supplier has also increased significantly. The oil and gas price peak witnessed in 2008 gave customers the incentive to "shop around" for cheaper gas prices. As customers began switching suppliers, competition grew within the market as companies tried to capture those that switched.
3. Access to gas / market liquidity
As liquidity is still relatively low in most EU gas markets, primarily only the large gas importing / producing companies have necessary access to gas. Some of them have already started to sell gas in markets outside of their traditional geography. For example; ENI/Distrigas is present in France, Germany, the Netherlands, Spain and the UK; E.ON in Italy, Spain and the UK; Gasterra in Germany; GDF Suez in Belgium, Germany, Netherlands; and DONG Energy in Germany and the Netherlands. These players are currently the main drivers of competition in markets outside their traditional geography, illustrating that access to gas is essential for companies to enter new markets and foster competition
4. Access to import capacities
A high number of import facilities are currently planned, under construction and being commissioned throughout the EU. For example, the import capacities will significantly increase in the upcoming years. This is expected to enable more market participants to bring gas to their target markets in the future and enforce gas-to-gas competition across Europe.
The evolution of the German gas market provides powerful insights for developments in other European gas markets.
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Footnote #1:Background on PA's German Gas Market Pricing Survey
Since 2007, PA has conducted an annual survey of 70 local distribution companies (LDCs) and 30 regional distribution companies (RDCs) that operate in the German gas market. This is the third year the survey has been conducted. The survey considers responses from approximately 100 of 700 companies and is considered representative of the market. It is a requirement of the survey that participants remain anonymous.
Footnote #2: Market value/netback principle
This calculation has been used throughout Continental Europe to determine the price of gas for supply contracts. It is the break-even price that makes natural gas competitive against the best alternative fuel prices such as gasoil, fuel oil, coal, etc.
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