ourEconomy: Opinion

The sector secretly profiting from the cost of living crisis

No one’s talking about the UK’s hugely profitable energy distribution networks. They should be publicly owned

Joseph Baines Sandy Brian Hager Adam Peggs
5 May 2022, 12.01am
Electricity and gas prices have increased markedly in the UK

Jon Super/Alamy Live News

Labour leader Keir Starmer argued again this week that now isn’t the time to nationalise energy companies – despite news that both Shell and BP have recorded huge profits in the first three months of this year.

It’s right to scrutinise the profiteering of energy firms and their role in the cost of living crisis.

But focusing solely on these businesses lets another key player get away scot-free: the distribution network operators (DNOs) and gas distribution networks (GDNs).

As part of the privatisation of the UK’s energy sector during the latter part of the Thatcher era, the electricity and gas distribution networks were sold off to the private sector and organised into a series of regional monopolies. These networks control the pipes and cables that supply homes and businesses with energy. It is surprising how little attention they have received in the inflation debate, given their status as natural monopolies, meaning they would struggle to function effectively if broken up into competing organisations.

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Though these networks are regulated by Ofgem, which sets prices and is supposed to act in the interests of the public, they are recording enormous profit margins several times the FTSE 100 average. A recent report for the think tank Common Wealth takes a closer look at the DNOs and GDNs, and finds that these energy networks are, according to one key measure, more profitable than any other sector in the UK economy. In the last five years their operating margins have risen to an average of 49.2% for the electricity networks and 42.5% for the gas networks.

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Using the distribution networks’ own preferred measure of profitability – ‘return on capital employed’, or ROCE – also offers a galling picture: with the DNOs average ROCE amounting to 6.9%, and the GDN’s amounting to 7.1% over the past five years, their profitability is almost four times the level recorded by the FTSE 100 average in the same period.

Alongside eye-watering profit margins, the sector is also characterised by concentrated market structures. In the case of both gas and electricity distribution networks, six companies have a market share of 94%. Among the gas networks, one operator has close to 50% of the total market share.

As energy companies profit amid the crisis, the average household is now paying nearly £700 a year more than before the price rise in April. With another price cap rise in the offing for October as many as 40% of households could face fuel poverty by the year’s end. The crisis in living standards is rooted in energy, with its social consequences borne by those on lower incomes.

Guaranteed returns for investors

With tens of millions of households dependent on these companies for electricity and gas, their ultimate owners are in effect guaranteed returns on their investments. Examining the ultimate owners of these companies reveals an equally narrow group of investors. Their ownership of this essential infrastructure is delivering outsized returns, with more than £8bn handed to shareholders since 2012.

The four major gas networks are privately held by consortia comprising multinational conglomerates (such as CK Hutchison Holdings), sovereign wealth funds (Qatar Investment Authority), Canadian and Australian pension funds, and investment managers. The richest person in Hong Kong, Li Ka-shing, also has a major stake in the GDNs’ ownership network, with 12.3% of Northern Gas Networks and 36.4% of Wales & West Utilities.

The ownership of the electricity networks is similar. SSE, of which 8.1% of overall equity is owned by the giant US-based asset manager BlackRock, is the only major electricity network that is publicly listed. The remainder are privately held, with prominent shareholders including multinational conglomerates like Mitsubishi, overseas energy corporations like Iberdrola and high-net-worth individuals such as Warren Buffett, the sixth richest person in the world and the ultimate owner of 38.5% of Northern Powergrid Holdings.

In this context, it is important to underline that the key beneficiaries of the current ownership model of the UK energy networks are giant corporations and the super-rich. Those who could expect to lose out if the sector were reorganised around the public interest could comfortably afford to do so.

Windfall tax to help struggling households

A windfall tax on the energy networks could be introduced rapidly and help provide much-needed support to hard-pressed households facing the worst drop in living standards for decades. Alongside windfall taxes in other parts of the energy sector, such as the oil and gas producers, this could raise substantial funds to financially support households through the worst of the energy crisis.

With the UK government’s current package of relief far too small and reliant on a ‘discount’ that households will be compelled to repay, a windfall tax could play a pivotal role. As households struggle to pay for essentials, more support could not be needed more urgently.

But windfall taxes alone cannot fix an energy system that is undemocratic by design and has consistently failed to deliver for society’s needs. Given there are severe limits on the amount of competition that could be introduced to the market to try and lower prices for consumers, the case for public ownership of the DNOs and GDNs is clear.

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And the case for public ownership applies more widely in the energy sector. Given the comparative success of publicly owned energy suppliers in Europe and the long-term failures of suppliers in the UK, it is not just the monopolies that require transformations of their ownership structures. The need to democratise and de-marketise energy extends far beyond the distribution networks, encompassing transmission, generation and supply.

This can be best achieved through democratic public ownership of energy. Rather than a return to the top-down model of public ownership which prevailed in Britain in the post-war decades, we need to see a transparent, participatory and accountable model of public ownership fit for the challenges of the 2020s.

In light of the climate emergency – particularly the need to plan for a fair and rapid transition to a green economy – and the need for essential services to be governed in the public interest, the case for this kind of change is stronger than ever.

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