There have been significant changes in energy resource procurement, particularly biomass, over recent years. While previously those who secured the necessary resources for the entire heating season in a single transaction could consider themselves winners, now they only purchase a portion via long-term contracts, buying the rest on the short-term market.
This was stated in an interview by Vaidotas Jonutis (Vaidotas Jonutis), Head of Trading at the international biomass exchange Baltpool. He points out that procurement is currently seen as critical, because any strategic error comes at a very high price that must be paid by heat consumers.
What changes have biomass and biomass product procurement in the Baltics experienced in recent years?
The days when a procurement officer was simply a legally trained person who would launch a single tender to buy all the resources needed for an entire heating season are over. Today, procurement is handled mostly by professionals in their field, who have a strong analytical team following the energy resource market situation not only within a specific territory, but at the Baltic, Scandinavian, and European level. At the same time, this team does not just have data on past deals and an analysis of what happened in the market, but also makes the best possible forecasts for the near future. In effect, the quasi-Soviet era of procurement, where a specific resource was purchased from only one supplier, is over.
At one time, of course, there was no competition, there were no offers, and the procurement procedure itself was not aimed at competition, but rather focused on the formalisation of the purchase.
Currently, there are many more choices in the market and, at the same time, a higher cost of error, especially in a situation where market prices for energy resources are experiencing significant volatility. First of all, there is no longer just one single supplier or trader. Free market principles have begun to operate, where the price is not set by the local government, as in Soviet or post-Soviet times, nor by the buyer or seller, but by the specific market situation. Another significant change in this system is the local exchange, which reflects transactions and their prices, thereby providing an objective picture.
Although biomass—wood chips for burning—is used as an energy resource for heating in many places, accounting for about 70% of a power station's total costs, one can often see that district heating tariffs for end consumers differ between locations, sometimes by as much as 20-40%. The answer, it seems, lies in the energy procurement system and the vision of the managers of specific companies, even though last year, geopolitical influences certainly played a role. Of course, a situation where all residential areas have an identical heating tariff is unlikely to ever happen.
Which are the expensive errors with a very high risk price?
Times are changing, the market is evolving, and specialists are becoming more knowledgeable and professional, yet the geopolitical situation played and continues to play a significant role in the energy sector. At the same time, trends in the procurement of energy resources, particularly biomass, have changed significantly in recent years. Specifically, it was once very popular and considered a very appropriate and beneficial solution for customers (consumers) for heating companies to launch a tender in, for example, May, and purchase the biomass (wood chips) required for the entire heating season. However, resource sellers were also preparing for this, and the result was transactions where the price obtained was adequate for the situation, and others where it was nevertheless higher.
Consider just two diametrically opposed examples that show how much analytics and the ability to properly understand the situation matter. For example, by purchasing wood chips in the spring of 2022, they were 50% cheaper than if the exact same volume had been purchased in the autumn. Conversely, a completely different situation occurred in the spring of 2023, when some heating companies launched biomass tenders and purchased the energy resources needed for that heating season at approximately 32 EUR/MWh, whereas other heating companies making a similar purchase in the autumn obtained a significantly lower price—around 22 EUR/MWh.
Why such a significant price difference when effectively doing the exact same thing? Because the situation was different. And one must also take into account that in previous heating seasons there were precedents where procurement contracts for the entire heating season were signed in the spring, but as the energy resource became significantly more expensive, the supplier broke the contract, and the heating company was left with small reserves and a small penalty fee for the withdrawal. But you cannot heat a specific town with a contractual penalty, so either reserve biomass or another supplier was needed. The best solution at that time was negotiations between the buyer and the seller regarding the indexation of energy resource prices. Such precedents were no longer surprising in recent years, especially last year.
What is the best energy resource procurement solution at present?
The situation does not stand still, and the current best practice is considered to be when part of the procurement is carried out for the entire heating season, while the rest—the shortfall—is purchased via short-term transactions. What the optimal proportion between long-term and short-term procurement transactions is depends not only on the size of the heating company and its management's vision, but also on the forecasts of its analytical team.
Biomass auctions on the Baltpool exchange show that the volume purchased for the entire heating season could range from 60 to 80%, while the remaining 20-40% was left for short-term market purchases. Of course, the most significant modifier of these purchases was, is, and will be climatic conditions, which no one really undertakes to forecast in the long term anymore, because if it is cold, the demand for energy resources will rise, whereas if it is not so freezing, the demand for resources will be lower.
And also, unlike in the distant past when price fluctuations in the European biomass market were watched, the biomass exchange in the Baltics currently makes the work of both potential biomass buyers and their sellers easier in a way. Of course, one must take into account that Latvia, Estonia, Finland, and Sweden are countries rich in wood resources that can supply themselves with energy wood, and therefore the prices of this resource can be different there compared to countries that cannot provide these resources themselves and therefore need imports. The year 2022 was unique in that the war in Ukraine changed the entire energy sector in one moment, initially causing a shock when large heating companies started raising procurement prices to redirect resource flows to themselves, but the situation has now normalised.
It should be remembered that several years ago, professional international biomass buyers were able to purchase resources not at the current market price, but at an even better price than that in the market. Unfortunately, this is no longer possible, because such suppliers could simply go out of business, which would leave the buyer as a loser, as they would be left without the necessary resources and would have to search for other suppliers, while competition among suppliers would have already become significantly lower. This just means that in the current circumstances, biomass buyers themselves are interested in having healthy competition among suppliers, and therefore procurement must take place at market prices, not at prices better than those in the market.
Most of these energy buyers are aware that the price of the error of trying to purchase as cheaply as possible is already high, and it is not worth sacrificing future seller competition for the sake of a larger short-term gain. It should be reminded that biomass (wood chips) is the cornerstone on which district heating in the Baltics is based, and it was, is, and will continue to be necessary.
For information
The international biofuel exchange Baltpool is an electronic trading platform where auctions for the sale of standardised biofuel products take place. Baltpool belongs to the Lithuanian state-controlled energy group EPSO-G.