Executive Summary
Authors: James Brackley, Thejo Jose, Adam Leaver, Daniel Tischer
Between January 2021 and February 2022 thirty-one energy firms exited the energy market, affecting more than two million consumers.
The Office of Gas and Electricity Markets (Ofgem) estimated the cost of energy supplier failure and market exits to be £2.7 billion, or an average of £94 per customer.
One cause of failure was Ofgem’s decision to relax market entry standards, leading to the emergence of a large number of thinly capitalised and often unhedged suppliers who were unable to withstand the increases in wholesale prices in 2021.
However a less well understood cause was the enrolment of unwitting company auditors into the central macroeconomic oversight processes of the sector: as Ofgem relaxed entry standards, they increasingly deferred to energy companies’ audit reports as a proxy indicator of their financial resilience.
This report argues that whilst director statements and audit reports are no substitute for proper sectoral oversight and governance, auditors should still have been able to identify and articulate the economic vulnerability of these companies. There was, in other words, widespread audit failure.
To reinforce this, we present an accounting analysis of 15 energy suppliers who exited the market.
Our key findings are:
- 10 out of 15 companies reported negative operating and net income in their final year’s accounts before entering administration. Two others did not disclose earnings.
- In terms of cash and liquidity, many suppliers relied on customer prepayments to remain cashflow positive, leaving suppliers with an obligation to supply. This model was always vulnerable to wholesale price rises.
- 11 of the 15 companies were ‘balance sheet insolvent’ in their final year’s accounts – that is, they reported negative shareholder equity positions (or its equivalent – negative net assets). Collectively, these fifteen energy suppliers had a total negative equity of £373.8 million.
- Many had other signs of cashflow stress, such as the unfulfillment of Renewables Obligations.
Despite these important signs of financial stress and business model vulnerabilities, auditors generally failed to comment upon the seriousness of these risks or raise concerns regarding their ongoing viability.
Only two companies out of the 15 that went into administration received a negative going concern opinion in their final year’s accounts.
This study emphasises the urgent need for audit reform to provide earlier warning systems that could help prevent systemic and costly failures in the future.