Early termination fees in Victoria

By Faith Taylor and Katherine Mallik.

Key Points:
A decision to limit early terminations fees has implications for both retailers and customers and may prompt similar changes in other jurisdictions.

The Victorian Essential Services Commission ("ESC") released a draft decision in October 2006 which proposes to amend the Victorian Energy Retail Code by limiting the costs which energy retailers may pass on to their customers in the form of Early Termination Fees ("ETFs"). This decision has implications for both retailers and customers and may prompt similar changes in other jurisdictions.

What are ETFs?

ETFs are fees imposed by energy retailers on consumers where a consumer terminates its energy supply contract prior to the end of the term of the energy contract. The retailer's right to impose an ETF is contained as a term of the energy contract.

Currently, ETFs are governed by the provisions of the Victorian Energy Retail Code and the Code of Conduct for Marketing Retail Energy in Victoria. The calculation of ETFs is also restricted by the general legal principle that an ETF, as a penalty clause, will not be enforceable unless it represents a genuine pre-determination of the loss or damage arising from the early termination of the energy contract.

The Victorian Energy Retail Code currently allows ETFs to be imposed if the customer's energy contract includes the amount of, or method of calculating, the ETF and the ETF represents a fair and reasonable pre-estimate of the damage to the energy retailer as a result of the customer's early termination. In practice, this pre-estimate will usually include the cost of the energy that the customer would have been likely to consume and pay for under the contract if the contract had not been terminated prematurely and other costs incurred by the retailer in marketing energy to the customer and administering the customer's account.

The ESC draft decision

The ESC considered the current method of calculating ETFs (and submissions from stakeholders in relation to ETFs) and reached a view that energy retailers should only be able to recover through ETFs those costs that have been incurred directly as a result of the retailer's transaction with the individual terminating customer. This means that any expenses generally incurred by the retailer in marketing the electricity and administering customer accounts cannot be recovered. Instead, the ESC determined that ETFs should be no greater than the value of:

• the unamortised cost of any gifts, inducements or other benefits offered to customers in exchange for signing the relevant energy contract; and
• any costs incurred by the energy retailer as a direct result of the particular customer's early termination, such as final meter reads, bills brought forward in time and any hedge book imbalance costs for that customer (where each of these costs, if passed through to the customer, is capped at $20).

This would mean that energy retailers cannot use ETFs to recover the cost of any profit that would have been earned by the retailer over the remainder of the term of the contract.

Implications of the draft decision

The ESC decision is currently in draft form and the ESC considering stakeholder submissions relating to the draft decision (the closing date for submissions was 17 November 2006). If the ESC finalises the draft decision, the Victorian Energy Retail Code will be amended to reflect the ESC's decision so that energy retailers will be bound to change the way in which they calculate ETFs. Stakeholder concerns about such limits on ETFs expressed as part of earlier rounds of consultation on this issue included:

• increased costs of energy supply services to consumers and fewer discounts offered to consumers by energy retailers, as costs previously recovered through ETFs are passed on to consumers in the form of higher energy prices
• increased customer management system costs, as retailers implement changes to their infrastructure and staff training in line with the decision
• difficulty for retailers in ascertaining required energy loads because of the uncertainty surrounding whether customers would honour the term of their contract in the absence of an onerous ETF
• a reduction in the variety and number of energy supply products on the market due to further restrictions on the ways retailers may recover the cost of providing energy
• fewer fixed or minimum term energy contracts offered to customers by retailers, as retailers will not be able to enforce the fixed or minimum term by imposing an ETF; and
• confusion regarding the status of ETFs in current energy contracts.

The ESC decision may also prompt similar legislative reform in other States. There are currently no specific restrictions in New South Wales limiting the costs that may be recouped by energy retailers through ETFs.