Energy Supply Margins: Commentary on Ofgem's SMI

29 January 2015
By George Anstey, Matthew Mair, and Soren Christian

Energy UK Commissioned a NERA team to review the methodology for Ofgem’s Supply Market Indicator (SMI). This report provides an independent assessment of Ofgem's analysis.

Since February 2009, Ofgem has produced a series of reports examining margins earned by energy suppliers in Great Britain. The initial method relied on gross margins and relied on a number of assumptions which did not accurately reflect suppliers' revenues and costs. In late 2009 and for a series of subsequent reports, Energy UK commissioned NERA to calculate alternative estimates using more realistic assumptions.

Ofgem's methodology has changed significantly over time. This brief report reviews Ofgem's latest methodology and identifies potential biases in Ofgem’s approach. Although a detailed quantification and estimate of margins is beyond the scope of this report, where possible, NERA identified the possible magnitude of these biases. The report also highlights the uncertainty around Ofgem's estimates by pointing to cases where Ofgem uses unreliable data or approaches which may bias its estimates of net margins in either direction.