No Crash Landing at Birmingham International Airport

Birmingham International is the UK's sixth largest Airport, third largest for charter traffic and has the highest proportion of business traffic second only to London Heathrow. In 2006, it handled over nine million passengers through its two terminals and acts as the Midlands' premier gateway to Europe, Scandinavia, North America, the Middle East and the Indian sub-continent.

The turbulence witnessed in UK energy prices in recent years would have been enough to leave even the most seasoned long haul traveller feeling nauseous.  The feeling was not dissimilar for those of us tasked with managing energy costs on the ground, reflects Tony Dunning, Purchasing Manager for Birmingham International Airport (BIA).

"The challenge facing BIA was how to deliver year on year consistency in energy costs, without forgoing the opportunity to participate in favourable market price movements which have the potential to significantly impact the airports financial performance and even its long term viability".
"When we sat and deconstructed this problem we identified the following key issues that would need to be resolved in order to find a solution".

Year on Year Consistency:

This implied we needed to take a long term view. We rationalised that we were not going to achieve price consistency by luck so we needed to do it by design.

Don't forgo Opportunity:

Of course year on year consistency is easily achieved by doing a fixed price deal, so we could have simply entered into a three or five year fixed price contract. However, when the market prices are moving by up to fifty percent year on year, such a strategy is bound to forgo opportunity; therefore a different solution was required.

Participate in falling markets:

This indicated that we needed to be able to increase our participation in falling market price movements. This was in contradiction to the objective of achieving price consistency which seemed to require a fixed price solution.

"As we considered the problem, we realised that year on year consistency and the effect of a fixed price could be achieved by setting a consistent risk limit.  The risk limit had to be higher than the current market but should allow us to create a stable cost expectation without having to fix the price for a long time into the future. The challenge was how high to set the risk limit".
"Creating the correct trade off between risk and reward is a challenge that faces all businesses and creating a strategy that remains consistent with that balance is even more difficult.  We use a third party service provider to help us with this part of the process".

“Encore help us translate the risk limits we set into the consequential amount of the portfolio that needs to be fixed.  As the market changes and our business evolves we can either adjust the proportion of the portfolio in a fixed price or we can change the amount of  risk that we are prepared to take and adjust the risk limits accordingly.

More importantly, by using a risk limit to achieve the year on year price consistency instead of a fixed price, we don't forgo opportunity and we have the ability to participate in market  falls should they occur as  illustrated in Figure 1".

“To be most effective and allow full benefit, this process needs to be able to unlock or unfix prices as well as fix them  Whilst initially quite intimidating, it is  logical that you require the tools to optimise your portfolio under falling market conditions as well as in a rising market.

We operate this process on both our gas and power portfolios controlling our risk up to four years forward - the level of control and consistency we now have has been very liberating".