A1 Energy

Energy Procurement: Long Term vs Short Term?

06.05.20 11:18 AM By Jon

The process involves using several techniques to secure reliable, lower-cost energy supplies in the commercial, industrial, and agricultural sectors. In deregulated utility markets like the states in the northeast and mid-Atlantic area, cost reduction in utility spending is acquired through careful planning, historical analysis, and forecasting. However, highly competitive rates and many alternative suppliers exist in these markets. For example, Pennsylvania energy rates are 18% lower than the national average (EIA), yet there's still room to find even better energy bargains through strategic energy procurement.

 

Supply contracts can be complicated and require a specialist to navigate strategies for the energy markets. The first step for any facility is to determine if they have adequate skills in house and the allocation of time to properly shop and maintain the supply management on a regular basis. 

 

Supply pricing will depend on your commercial or industrial facility load profile, risk tolerance, and strategic timing of the market. The longer your run hours and the higher your load, the more critical it will be to assess your historical data and the future market forecast to make the right decision for a short or long-term contract. There are various reasons to decide on a short-term or long-term contract. Here we will help you explore some of the pros and cons for each, and highlight when it might be best to choose either.


Factors that govern energy pricing

The most critical component of successful energy procurement is timing the market and capitalizing on "buying" opportunities when they present. What are the components that dictate the actual price of electricity? The price averages for electricity, according to EIA, are based on generation (58%), distribution (29%), and transmission (13%). Beyond these factors are weather, demand, regulations, power plant costs, usage, time of day, energy history, and other factors that go into a tailored energy strategy, and subsequent contract offers.

energy bill components

Factors that govern natural gas pricing

When it comes to natural gas, offers will be given in dollars per dekatherm (DTh), therm (Th), or dollars per million British thermal units (MMBtu). It's critical to know what's included in the quote you receive. Natural gas pricing is determined by the commodity itself, basis (the cost difference of two liquid trading points in your state), and fuel or losses (cost of replacing gas lost in translation).

 

With so many factors to consider, is strategic energy procurement for the long term or short term better? Let's look at the pros and cons.

Short-term strategic energy procurement for commercial business

person looking at watch

Short-term contracts are those that last between 3-6 months or go month to month. These are some of the reasons and most significant factors to consider when determining long vs. short-term market prices.

 

Reasons for short-term energy procurement:

 

● The current and/or future market pricing is high

● Tactical execution of the business

● Day to day sourcing needs

● Meets needs of today

 

Pricing

When the current market pricing is high, the strategy should be to stay on the utility default rate if lower than what the market is offering or to enter into a short-term contract to meet the need until the market comes down. One of the most common mistakes is that energy prices are lower in the spring or the fall. Energy futures react to many factors, and there is no seasonal pattern to rely on. It is essential always to be monitoring the markets for the opportunities to purchase.

 

New to the market

For newer commercial and industrial operations, there is less ability to calculate historical data and utility demand over time. Historical data is needed to strategize the best long-term contract. In this case, a facility might be better served to engage in short-term contracts while determining the full scope of utility needs for the business once up and running with more than 1-year data to incorporate into strategic procurement models.

 

Time at property

Similar to being a newer operation, if the time at your current property is less than a year, it may benefit your overall strategy to use shorter-term contracts. At the same time, data will build to give insight on demand, loads, and other factors that can help develop a more structured long-term plan.

 

Transfer of business ownership

Though negotiable, something to consider when finalizing bids is whether business ownership will transition in the near future. Most often, contracts do not carry over, and early termination fees will apply. If there's an expected transfer, you can work this into the agreement, and with proof of transfer or movement, add a clause for cancellation fee waivers.

 

Time frame for renewal

With shorter time frames in place, there is more room for error. If your administrative staff is already spread thin, relying on additional time spent on continual contract renewal can be tedious. It's recommended to address renewals in advance of expiration dates; however, with such short time frames, administration runs the risk of missing renewal dates which can result in higher rates and less negotiating room.

 

Overall short-term contracts are helpful in certain situations. However, they leave out room for longer-term strategies that align with business objectives over a period of time. Short-term energy procurement meets the needs of today but can leave money on the table. Now that we've seen some situations that are best suited for short-term energy procurement, let's look at the circumstances best suited for long-term energy procurement.

Long-term strategic energy procurement for commercial business

View of power lines from beneath

Long-term energy procurement can offer commercial and industrial business budget predictability. You can lock in rates for a year or more. Most long-term contracts are 12-36 months long.

 

The primary reason to go long on the supply contract is to take advantage of an opportunistic market.  

 

Price

Hands down, predictable costs will be a benefit to most facilities looking to keep expenses as a reliable line item. While you may not be able to lock in at the lowest dips in the market – your average price will be lower if you or your procurement consultant has factored in all negotiable terms in your favor. 

 

Utility usage and historical data

Determining the length and structure of the long-term contracts is aided by compiling your operation's historical usage data. Your utility can often give you access to hourly/monthly data to assist you in modeling and preparing the RFP.

 

Smoother operations

With long-term contracts in place, administrative time handling the contract renewable process will be less. Operations and balance sheets can run more predictably. The utility bills should be monitored to ensure the terms of the contracts are being adhered to and again the markets should be continually monitored to be able to capitalize on the next buying opportunity

 

Renewable energy

Longer-term contracts favor renewable energy sources. If your company is pursuing carbon reduction efforts and has set goals for implementing renewable energy as part of your utility procurement, there are benefits to using a longer-term contract.

Final Answer: Which is better for strategic energy procurement, long-term or short-term?

When it comes to meeting long-term business objectives and applying the most strategy, long-term strategies allow for the most factors to be considered. Short-term energy procurement is also necessary for certain circumstances. Individual business circumstances will dictate the optimal direction to go; however, in most cases, long-term strategies will prevail as long as you are able to navigate the complicated process successfully.

 

While helpful as a standalone endeavor, strategic energy procurement can be better strategized as part of a larger energy picture. The A1 energy team presents a three-pronged approach to help deliver the most adventurous methods for achieving energy resilience and minimizing utility costs. By addressing energy efficiency, strategic energy procurement, and exploring on-site energy generation, even greater energy outcomes can be realized.