Contrary to conventional wisdom, electricity demand isn’t immune to price elasticity, and rate designs can encourage conservation. In particular, inclining block rates coupled with dynamic pricing...
Electric Retailing: When Will I See Profits?
Wait for the "second wave," when new products help suppliers escape the trench warfare of pricing.
Ever since electric customers were given choice of provider in the United States, much has been written about how few customers have switched providers. More volumes have been written about how risky and unprofitable is the business of electric retailing as compared to generating and wholesaling electricity. 1 Taken together, these two developments might constitute an obituary for energy retailing. Perhaps because they share these sentiments, some vertically integrated utilities have exited the retailing business, and become pure distribution companies.
This article is intended both to dispel these myths and encourage fresh thinking about energy retailing. Far from converting electricity into a commodity business riven by price wars that destroy shareholder value, customer choice offers energy service providers (ESPs) the opportunity to innovate their products and better serve customers. The fact that ESPs to date have failed to implement new designs does not preclude tomorrow's suppliers from introducing them. If anything, it creates an opportunity for "fresh blood" to enter the market and seize its commanding heights.
Tomorrow's ESPs are likely to make a number of innovations:
- Exploiting new technology , such as digital controls and optical networking (photonics), in developing new products and services that add value to commodity energy;
- Using new communications channels , such as the Internet, for reaching customers and enhancing physical distribution;
- Segmenting and targeting end-users more creatively than has been done traditionally through rate classes such as "large, medium, and small light and power."
The experience of other industries that have been deregulated during the past two decades, in the United States and abroad, suggests that competition always has brought price reductions and significant innovations in products and services. 2 Electricity retailing will follow this rule before long, and suppliers that lead in these areas can profit.
First, however, companies in the competitive business of retailing energy need to rethink their opportunities. One can only reorganize a company so many times. Management fads such as downsizing, business process reengineering, and omnibus corporate repositioning are just the latest trends aimed at cost cutting. As one consulting firm aptly notes in its ads, "You cannot shrink your way to greatness."
As utility franchise areas throughout the nation gradually open to competition, incumbent monopolies will lose market share to new entrants. They need to think about what share they want to lose, and engage in strategic listening. Among other things, that involves abandoning customer segmentation by rate class for segmenting by actionable clusters. For example, they may want to group their customers along two axes: (1) the risk that the customer will switch to a new entrant, and (2) the profitability of that customer. That will allow them to concentrate on keeping customers that are both highly profitable and highly risky. Energy companies need to let go of the customers that are risky yet not profitable.
In order to keep the profitable and risky customers, they need to