Centrica Reports "Poor Performance" In North America Business (C&I) Segment; Cites Competitive Intensity As Well As Input Costs, Including Capacity Charges

Centrica's North America Business (C&I) segment delivered a, "poor financial result," in the second half of 2017, Centrica said in reporting preliminary results for the year ending December 31, 2017, due to increased competitive intensity and changes in market structure and input costs, including higher unit capacity charges

"North America Business delivered a poor financial result in H2 2017, with adjusted gross margin down 26% and adjusted operating profit down 68%. The drivers of lower gross margin were primarily in the power retail business. Total power adjusted gross margin was down 51%, reflecting increased competitive intensity, changes to the market structure and related input costs, including higher unit capacity charges, and the impact of warmer weather on consumption and a subsequent under recovery of unitised non-commodity costs," Centrica said

Such competitive intensity has put pressure on acquisition and renewal margins for the North America Business (C&I) segment.

Centrica also cited pressures from input costs such as, "capacity market charges, which have gone up."

Adjusted operating profit for the North America Business (C&I) segment was down 70% for the year 2017, at $87 million, versus $291 million in 2016. Total adjusted gross margin for the North American Business segment was £416 million for 2017, versus £562 million in 2016

In the North America Business (C&I) segment, Centrica reported, "our standard power offering suffered from changes to the market structure and related input costs including higher unit capacity charges and an under recovery of unitised non-commodity costs as a result of lower consumption. This further depressed our realised margins in 2017. In addition, low gas price volatility in North America resulting from the warmer weather reduced opportunities for gas optimisation and we also recognised a one-off non-cash post-tax charge of £46m (£76m pre-tax) relating to a reassessment of the historic recognition of unbilled power revenues in one of our billing systems going back to 2013."

Centrica further described the "weak" performance of the North America Business (C&I) segment in the second half of 2017 as follows:

• Power supply margins significantly lower

- Increased competitive intensity

- Market structure and capacity charges

- Volume reduction from energy efficiency measures

- Under recovery of non-commodity costs

• Poor visibility and forecasting of gross margin components

• Lower gas gross margin reflecting reduced optimisation opportunities

"[H]owever our [North America Business (C&I) segment] gas retail business performed well and overall gas gross margin was slightly up," Centrica said

In response to the poor performance of the North America Business (C&I) segment, Centrica is introducing a new standard product offering, and conducting a thorough review and investigation, among other actions

"In North America Business, in response to the performance issues we faced in 2017, we are moving away from the standard power product historically sold in the market to one that more closely matches input cost recovery. In addition, we have completed system enhancements to provide greater granularity of gross margin drivers and improvements to the processes and controls around our load forecasting and risk management reporting, and have strengthened key areas of capability," Centrica said

Providing further details on the changes for the North America Business segment, Centrica said, "In response to the challenges we faced in 2017, we have taken actions to drive improvements in profitability and reduce volatility in the retail power book. These include introducing a new standard product offering that more closely matches input cost recovery, completion of system enhancements to provide greater granularity of gross margin drivers, and improvements to the processes and controls around our load forecasting and risk management reporting. We also implemented several enhancements to our online customer platform during 2017, with improved response times on issue resolution and an enhanced digital journey for acquisitions helping improve the customer experience. Our digital Energy Portfolio platform, launched in H2 2016, has also given customers direct access to our energy expertise while providing dynamic energy procurement options. In addition, we made improvements to our billing processes and, reflecting all of this, complaints fell 38% compared to 2016 and NPS [Net Promoter Score] increased by 2 points to 33."

The North America Business segment reported a 68% fall in adjusted operating profit and a 69% reduction in adjusted operating cash flow. "Around half of the reduction in adjusted operating profit reflects the impact of the competitive environment, warmer weather, fewer optimisation opportunities and the impact of higher capacity costs, with the other half reflecting the one-off non-cash charge," Centrica said

The competitive environment impacted sold unit margins in the North America Business segment, which were down 20% in power and 22% in gas for new contracts.

Total customer account holdings in the North America Business segment decreased by 20,000 during 2017, which reflects a focus on higher value accounts and a reduction in small business accounts. The North America Business (C&I) segment had 570,000 customers as of December 31, 2017, versus 577,000 as of June 30, 2017 and 590,000 a year ago

Of the North America Business segment, Centrica said, "We continue to expand our offering into new geographies and delivered higher sales in our key growth areas of the US Mid-Continent, California and Canada."

Of the North America Business segment, Centrica said,"Despite recent performance issues, we retain a strong position in North America and the market plays to Centrica’s strengths. It is large and it requires sophisticated energy price risk management, with value-added services propositions increasingly important for customers. We see good growth prospects for the business. We are the second largest business energy supplier by market share in North America, with long-term customer relationships and a strong focus on choice, technology and service levels for our customers. We also have a large portfolio of pipeline capacity where we own the rights to move gas between multiple locations, allowing us to create value from optimising these positions. We see the opportunity to build on our strong position in the US North East and apply our business model organically and potentially through small bolt-on acquisitions in new regions."

North America Home Segment

North America Home adjusted operating profit increased by 28% and adjusted operating cash flow was up 5%.

North America Home adjusted operating profit was $156 million for 2017, up from $124 million in 2016

"Within this, energy supply gross margin was up 2% despite the fall in customer account holdings, reflecting our focus on more valuable customer segments, while adjusted operating profit was up 6% which includes the benefit of cost efficiencies," Centrica said

Centrica's energy supply customer count in the North America Home segment was as follows:

North America Home Energy Supply
Customers (In Thousands)

As of    12/31/17     12/31/16
Texas         654          701
Northeast     983        1,206
Canada        933          990

Total       2,570        2,897

As a further comparison, total North America Home energy supply customers had been 2.665 million as of June 30, 2017 (breakdown by region unavailable)

For the North America Home segment, "In the US North East, customer account holdings fell by 18%, driven by a competitive pricing environment and the loss of 108,000 low-margin aggregated auction customers. In Texas, customer account holdings were down 7% due to competitive pressure and a pause of door-to-door sales due to regulatory concerns. However, H2 2017 customer retention improved in Texas compared to H2 2016, reflecting higher levels of customer service and proactive renewal of customers on fixed contracts," Centrica said

"In Canada, regulatory changes required us to cease our door-to-door sales channel which contributed to a customer account decline of 6%," Centrica said

"However, we have now entered into a number of retail partnerships that will expand our number of sales channels," Centrica said

Concerning its Hive smart home/energy offering in North America, Centrica said, "Direct Energy is currently a key channel for Hive products in North America with 80,000 Hive hubs having been sold with an energy supply tariff. In 2017, 21% of energy sales were bundled with one or more product or offer, such as a protection plan or a Hive product, compared to 17% in 2016."