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Elsam

20. juni 2007

4/0120-0204-0038/ISA/MOL The Council Meeting 20 June 2007

On June 20th 2007 the Danish Competition Council decided that the Danish electricity production company Elsam A/S (Elsam) had abused its dominant position by imposing excessive prices on the wholesale market for electricity in Western Denmark in the period from January 1st 2005 till December 31st 2006.

The case was a follow-up on a similar case from 2005 concerning the period from July 1st 2003 till December 31st 2004, where the Danish Competition Council decided that Elsam had imposed excessive prices.

Prior to this case the Danish Competition Authority had received complaints regarding an alleged abuse by Elsam in 2000 and 2001. Seeing as the electricity market had recently been liberalized and therefore still in a state of development and adjustment the Danish Competition Council chose to solve the matter by agreeing to certain commitments from Elsam concerning bids placed by Elsam on the Nordic Power Exchange Nord Pool thereby closing the first case. Elsam did not honour the commitments, however, and the Danish Competition Authority terminated the agreement on June 23rd 2005.

The relevant market in the current case has been defined – as in the previous cases – as the wholesale market for electricity in Western Denmark. This is due to the limited capacity on the transmission cables through which electricity is transported between Western Denmark and the surrounding areas.

The limited capacity means that electricity producers outside of Western Denmark are unable to put pressure on electricity producers in Western Denmark, which in effect means that Elsam is subjected to very limited competition from foreign electricity providers.

Up until July 1st 2006 (on July 2nd Elsam sold two central plants in Western Denmark to the Swedish Electricity producer Vattenfall) Elsam owned all central power plants in Western Denmark and a number of local heating and power plants and windmills.

As a result of the limited capacity on the transmission cables to Western Denmark and therefore the limited amount of imported electricity, Elsam was – in a substantial number of hours – the sole electricity provider capable of meeting the demand in Western Denmark. Therefore Elsam – by virtue of its position as residual monopolist – had the ability to act independently of its competitors to a very large extent.

On the wholesale electricity market physical electricity is sold directly between the parties on OTC (over the counter) terms or through the Nordic Power Exchange Nord Pool on spot terms. On the spot market hourly power contracts are traded daily for physical delivery in the 24-hour period of the next day.

The price mechanism on Nord Pool is used to regulate the flow of power corresponding to areas where there are capacity restrictions between the Nordic countries. Price calculation is based on the balance between bids and offers from all market participants. In case of discrepancies between bids and offers in one area, Nord Pool directs the flow of power to that area up to the maximum capacity of the cables. Taking account of the maximum imports to the area, Nord Pool sets a special – higher – price for the remaining sale in that area.

The bid-strategy used by Elsam on Nord Pool illustrates that Elsam did in fact possess market power in Western Denmark in the investigated period. This fact was made evident by the lack of connection between the bids made by Elsam and the production costs. The bid-strategy furthermore enabled Elsam to cause or prevent bottlenecks on the transmission cables. This means that in some hours – when highly profitable – Elsam caused bottlenecks on the connections to Norway and Sweden effectively making Western Denmark a separate high-price area on Nord Pool. While at other times the bidding strategy was used to prevent bottlenecks to Norway and Sweden thereby assuring that Western Denmark did not become a separate low-price area.

Elsams market power is confirmed by the fact that Elsam has a market share of 30-50 pct. based on the combined production on all plants and a market share of 47-79 pct. based on production on the central plants.

It is the assessment of the Competition Authority that when looking at Elsam’s actual market power it is the market share of the production on the central plants which is the most appropriate indicator. This is due to the fact that Elsam’s competitors mainly have inflexible production capacity at their disposal. Inflexible production is characterized by not being connected to and dependent on the market price of electricity, but rather the demand for central heating in the case of electricity produced on local combined heating and power plants and how hard the wind is blowing in the case of electricity produced on windmills. The production from inflexible plants is therefore quite predictable – thus allowing Elsam to foresee when it is possible to take advantage of the residual demand – and incapable of adjusting to a higher demand, which puts Elsam in a very advantageous position.

As of January 1st 2006 Elsam has – as a commitment for the Elsam/Nesa merger – offered 250 MW of virtual capacity (VPP) for sale every hour to its competitors through a VPP-auction. The amount for sale will be 500 MW in 2007 and 600 MW in 2008 and thereafter, which is approximately 25% of Elsams hourly capacity.

Statistics for 2006 show that the winners at the VPP-auctions have chosen to produce electricity in 99 pct. of all hours in 2006, which means that Elsam can predict the amount of VPP-production – and hence the competitive pressure – with close accuracy. Furthermore the amount of capacity offered as VPP in 2006 has not had an impact on Elsam’s position as residual monopolist.

Thus the Competition Authority concludes that Elsam holds a dominant position on the relevant market. This is the case before July 2nd 2006 as well as after seeing as how Vattenfall’s bids on Nord Pool show that there has been no clear or competitive strategy behind Vattenfall’s bidding practice as of the day of the takeover on July 2nd 2006. This means that the presence of Vattenfall in Western Denmark has not sufficiently improved competition on the market.

The analyses carried out by the Competition Authority show that the prices charged by Elsam in a large share of hours during the period substantially exceed Elsam´s total costs (fixed and variable) including an estimated mark-up.

The Competition Authority has found that the assessment of the question of whether Elsam has abused its dominant position by charging excessive prices, i.e. Article 82 of the Treaty and Section 11, subparagraph 1 of the Danish Competition Act, shall be based on the United Brands judgement of the Court of Justice of the European Communities.

Based on the analyses carried out the Competition Authority concludes that Elsam has abused its dominant position, cf. Article 82, subparagraph 1, cf. Article 82, subparagraph 1, lit. a of the Treaty and Section 11, subparagraph 1, cf. Section 11, subparagraph 3, no. 1 of the Danish Competition Act, by operating the price strategy in question when placing bids on Nord Pool resulting in excessive pricing during the period January 1st 2005 to December 31st 2006.

The analyses show that Elsam’s bidding practice has resulted in excessive prices in 1.484 hours in the investigated period and that the abuse has inflicted a loss of 111 million DKK upon the end consumers.

As of January 1st 2006 a system for carbon dioxide (CO2) emission allowance was introduced with the purpose of facilitating a reduction in the emission of such gases. As part of this system Elsam was given a certain quantity of allowances for the period free from the state. As a precaution and a means to overcompensate Elsam in relation to the United Brands test regarding when a price is excessive the Competition Authority chose to include the value of the free allowances in the analyses of whether the price imposed by Elsam was excessive.

In case the analyses had been carried out without including the value of the CO2-allowances the number of hours in which Elsam had imposed excessive prices would be 7.964 with a corresponding loss to the end consumers of 783 million DKK.

The decision from the Danish Competition Council is expected to be followed by a class action suit from more than a 1.000 companies with a claim of more than a billion DKK.