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Improving Energy Costs in a World of Diminishing Returns

The energy side is often overlooked when trying to optimise costs and improve operational efficiency, which is surprising as, in some cases, energy (gas and electricity) constitutes up to 30%-40% of the overall operating costs (e.g. cement industry). In some industries, this is a company’s second biggest cost. The main goal of cost optimisation is, naturally, a margin increase. It will, in turn, increase the ROCE and valuation of your business, amongst other benefits.

I have talked about the significant leverage of savings on energy costs in my previous post. In this post, I will focus on the different layers of your energy budget as it is becoming less relevant to mitigate the commodity component of the energy costs. We will soon see the commodity element reach 30% of the overall energy costs whilst the remaining 70% will be the non-commodity elements (network and policy/green legislation costs). Just a few years ago, this split was 80%/20% (commodity/non-commodity). Your stakeholders, however, are unlikely to be interested in the details around that increase of the non-commodity element and the associated loss of mitigating power of your energy budget. They are interested in savings of the operational costs, increasing margins, returns on assets, and capital employed. I will, therefore, review the dimensions to look at to reach further savings within your energy budget.

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Where Does Energy Risk Management Add Value?

Improving margins and consequently company valuation can be achieved through the increase of sales or the reduction of operating costs. Alfa Energy has no influence on the former element, but we specialise in the latter.

Improving your margin

Say your cost structure shows that 10% of the overall cost budget is spent on energy: gas and power. Envisage you lower these costs by 10%. Your saving on the overall operating costs is then 1%, from 10% down to 9% of the cost total. This improvement flows down directly to the bottom line. So if your margin was 3%, it is now 4%– an increase of 33%. You have hence just improved your margin through mitigating the energy costs.

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Insights Into Flexible Procurement

The primary aim of flexible procurement is not to beat the market. It is, however, a tool to procure your energy smartly and to mitigate the risks associated with market fluctuations. In other words, it is a way of managing the price risk.

Flexible procurement used to be an approach only accessible to large users. The shift in the industry now accommodates users with consumption down to 2 GWh. Still, the larger the consumption, the more flexible products available. In clients’ mindsets, this was perceived to be a risky strategy and still is. Yet, what is riskier: taking just one bet or taking a series of bets on the price to average the outcome? History and experience show that the latter usually gives better results.

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