UK Business Confidence Monitor: Energy, Water & Mining
Q3 2021: Business Confidence Index climbs to a record high.
- Pandemic-related social restrictions have resulted in a decline in demand for industrial and commercial utilities. However, household demand has held up, and a recovery is starting to build with the easing of restrictions over recent months.
- On balance, domestic sales are now marginally higher than a year ago. And businesses expect growth to accelerate in the year ahead as energy consumption expands in industrial and commercial sectors.
- This outlook for sales largely explains why the Business Confidence Index for the sector has risen to its highest level since the survey began.
- Businesses also expect selling prices to increase sharply in the year ahead. Part of this relates to increases in the price caps set by OFGEM as input costs rise for energy suppliers.
- On the downside, regulatory requirements are a widely cited concern. And the proportion of businesses reporting transport problems as a pressing issue is now at its highest ever rate for the sector.
- More encouraging are the investment plans of companies. Capital investment growth should markedly improve, while Research & Development budgets will continue to rise after holding up well during the pandemic. Spending rises here partly reflect the sector’s ongoing shift towards reducing emissions and more renewable sources of energy.
Before the pandemic, the Energy, Water & Mining sectors was already facing a number of challenges. Price controls and regulations, changing patterns of consumption, pressure to reduce CO2 emissions and, until the 2019 general election, the Labour party’s proposal to nationalise some sub-sectors, all weighed heavily on business confidence.
The sector saw a brief upturn in sentiment at the start of 2020, but confidence quickly plunged back into negative territory due to the outbreak of the COVID-19 pandemic. That, and subsequent social restrictions, caused a fall in commercial and industrial utility consumption and pushed global energy prices down. Overall contractions would have been steeper if not for the strength of demand from the residential sphere as many people worked from home, and most people spent much of their non-working time at home.
The situation remained very difficult into the early parts of 2021. Since then, the fast rollout of vaccines, and steady retraction of social restrictions, have clearly improved conditions. Industrial energy consumption quickly picked up as the production sector rebounded, and the gradual return of people to the workplace has helped to lift commercial power consumption.
Businesses now expect the recovery to gain further traction over the next year. Reflecting this, the Business Confidence Index for the sector has climbed in Q3 2021 to its highest level (+49.5) since the survey began in 2004.
Domestic sales growth and customer demand
In recent quarters, the Energy, Water & Mining sector saw year-on-year declines in sales. But in Q3 2021 domestic sales are at last marginally higher (0.4%) than they were a year earlier, with the sharp declines in sales during the earlier part of the pandemic offset by the upturn in activity over recent months. And with most restrictions now removed, businesses expect sales growth to accelerate. In the year ahead, domestic sales are projected to rise by 5.9%. If achieved, this would be the fastest rate of growth since the end of 2008.
The expected improvement in sales is underlined by customer demand easing as a growing challenge. In Q3 2021, 25% of companies cite this as an issue, compared to a pandemic peak of 41%. The current rate of incidence is also comfortably below the UK average of 33%.
Selling and input prices, and profits growth
Much of the Energy, Water & Mining sector has a very concentrated market structure and, partly for that reason, is heavily regulated, especially in terms of prices charged to consumers. Selling prices have been especially weak over the past year, mainly due to cuts in default price caps by the Office of Gas and Electricity Markets (OFGEM). These were mainly driven by a fall in the cost of energy inputs for providers, and also an over-supply of gas before the COVID crisis. However, as economic activity has picked up so too have the input costs for energy suppliers. In response, OGFEM announced a rise in the price cap in April, with a further increase set to come into effect in October. The latest BCM data confirms this. After seeing a limited rise over the last 12 months (0.4%), selling prices are forecast to increase by 2.0% in the year ahead. If this were to materialise, it would be the fastest increase in seven years. Input price inflation is also creeping up. This saw a 1.0% year-on-year increase in Q3 2021 and the rate is expected to climb to 1.5% over the upcoming 12 months.
Stronger selling price gains and a rebound in sales should also help to drive profits in the year to Q3 2022. These are projected to be 6.2% higher, which would be the sharpest increase in the sector for over a decade.
The ongoing uncertainties surrounding COVID mean that there are still clear downside risks, and businesses continue to report a range of challenges. Transport problems are the most widespread concern. 35% of companies cite increasing difficulties in Q3 2021, the highest rate seen in the sector since the survey began, and considerably higher than the UK average. COVID restrictions and shortages of transport capacity are likely reasons for this, as well as Brexit-induced disruptions.
The second most commonly cited challenge is regulatory requirements. This is particularly important for the sector as it must comply with strict consumer-facing regulations as well as stringent measures on the control and use of raw materials and supplies. 32% of companies report growing difficulties in Q3 2021, with challenges in this area likely to have been amplified by COVID-related precautions and new post-Brexit regulatory procedures.
More encouraging is that businesses plan to increase their investment spending over the year ahead. The Energy, Water & Mining sector is particularly capital intensive, with ongoing spending crucial for sustaining and expanding supply networks. Reflecting the challenges during the crisis, capital investment saw only a modest 0.3% rise over the last year. However, growth in the year to Q3 2022 is projected to be 2.1%. This improved rate will partly reflect the need for some businesses to invest in carbon reductions and a shift to renewables, which are required by law to become a larger part of total energy consumption.
Meanwhile, growth of 1.3% is planned for Research & Development (R&D) budgets in the year ahead. This follows an increase of 1.8% over the last 12 months, the strongest growth rate across all sectors, and reflecting the need to examine new ways of generating, distributing and selling energy.