Competition and
Markets Authority
investigation into the
UK energy market
Considerations for successfully
managing the operational impact
Summer 2015
Executive summary
Executive
summary
Over the last few weeks, as the outcomes of the Competition
and Markets Authority (CMA) investigation have been digested,
some commentators have suggested that the findings have
not had the far reaching consequences on the industry that
many expected. If, however, the findings are considered in light
of their impact on the day-to-day operations of organisations
within the industry, this picture is too simplistic. To successfully
address and implement the 18 CMA remedies into suppliers’
business operations will require significant thought and effort,
and those that implement these changes effectively will create
competitive advantage. This publication sets out our point of
view on the likely impacts on the market and the operational
changes energy suppliers will have to consider as they change
their focus from regulatory response to one of operational
readiness and action.
Highlights
Whilst the CMA did not find
evidence of collusion between
the six large suppliers, it did
identify find some adverse
effects on competition,
predominantly in retail
markets and current industry
regulation which we expect to
have the following impacts:
Wholesale proposals will require
generators to revisit their generation
strategy to reflect new locational
charging and review their investment
plans for new sites in line with
new regulations
Changes proposed for energy retailers
will have lasting consequences and
will drive companies to revisit their
commercial models and increase the
pace of product innovation
Moving to half-hourly settlements will
be a significant step change for the
industry and may require significant
investment to implement. This,
alongside smart meters, will be the
key to long-term tariff innovation
Suppliers will need to use the next
five months carefully in order to
fully analyse the impact on their
businesses and to prepare to deliver
significant changes
Executive summary
CMA
findings
On 7 July, the CMA
published their provisional
findings and remedies
aimed at addressing
weak competition in the
energy market.
As expected, the CMA did
not find any evidence of
collusion between the six
large suppliers in the UK.
Additionally, through their
investigation, the CMA have
not found any evidence to
support the initial theories of
harm relating to either vertical
integration or the operation of
the wholesale market.
The CMA have found that
there are some adverse
effects on competition in the
energy market, predominantly
focused on two areas:
1.Weak competition in retail
for domestic and Small or
Medium Enterprise (SME)
customers
Wholesale
1.The adoption of locational
prices for electricity
The CMA did not propose
any remedies that would
lead to major structural
changes to wholesale
electricity markets.
Rather, the CMA have
proposed two remedies:
2.Changes to the process
for allocating low-carbon
subsidies through the
Contract for Difference
(CfD) mechanism
Third-party
intermediaries
(TPIs) and
price
comparison
websites
(PCWs)
We expect that the locational
pricing remedy is likely to
redistribute costs between
generators and consumers
and will impact on the
incentives to operate different
plants in different locations.
The intent of proposals around
the CfD is to encourage the
uptake of more of the most
For both domestic and SMEs,
TPIs and PCWs are a clear
area of focus for the CMA as
they seek to drive greater
transparency for consumers
and increase the ease for
customers looking to find the
best deal.
We can expect the range
of remedies, from greater
quote transparency for TPIs
through to the creation
of an independent Ofgem
2.The regulatory framework
and the role of Office of
Gas and Electricity Markets
(Ofgem)
Energy
suppliers
These findings have the
potential to drive significant
enduring change across
the industry and, whilst the
findings have not been as
initially disruptive as some
initially thought, the next
six months will be critical to
ensure that the final proposals
create a fair platform for all.
The CMA have proposed
a range of remedies
designed to promote
greater customer
engagement, switching
and pricing in domestic
and SME markets.
They also specifically
propose the introduction
of a ‘regulated safeguard
tariff’ which will replace
standard variable tariffs
for a transitional period.
Our publication sets out EY’s
point of view on the likely
impacts of the proposed
remedies, as well as the key
questions companies will
need to consider as they
prepare their organisations
for further change.
comparison site, to put further
pressures on price and channel
margins. At the same time,
by relaxing some of the Retail
Market Review rules, we could
see greater innovation and
variety across these channels,
with suppliers and third
parties potentially entering
into specific commercial
agreements to create bespoke
sales offers and tariffs.
Additionally, there is a clear
focus on providing incentives
to move to improved
settlement mechanisms for
electricity and gas to enable
greater tariff innovation in
a smart-meter world. The
investment required for
these changes is likely to
be significant, and we can
expect the costs to be met
by suppliers and recovered
through consumer bills.
After many years of living with
the complexities of the energy
industry in the UK, we expect
the larger suppliers to feel
the impact of these changes
most acutely, especially given
the size of their incumbent
customer bases. Independent
suppliers tend to have far
cost-effective low-carbon
generation technologies.
However, this is potentially at
odds with current government
policy for onshore wind, and
therefore the full extent to
which this proposal will impact
future generation technology
investments is not yet certain.
Overall, we expect that
generators will need to revisit
their generation strategy in
light of the new geographic
pattern of charging and
also potentially review their
bidding strategies for CfDs
and the Capacity Market.
We expect the impact of
these remedies to reduce
the gap between standard
variable tariffs and contract
or fixed prices and, as a
result of driving increased
customer engagement, put
increased downward pressure
on prices to maintain market
competitiveness.
Operational
considerations
Whilst it is not yet clear
how the CMA proposals
will be implemented, what
is already apparent is that
the changes will require
significant planning and
understanding before
implementation and
suppliers will need to
carefully evaluate the
impacts across their
entire organisation.
Using our operational impact
framework, we have set out
the key topics and questions
suppliers should consider
during this process.
To respond effectively will
require an effective and
co-ordinated organisationwide response to influence
the latter stages of the CMA
process and to prepare the
business for change in 2016.
From our experience of other
sectors that have gone through
similar regulatory change,
those that have been most
successful are the companies
that pro-actively considered
simpler business models
than the larger suppliers and,
whilst having to bear the
same level of implementation
cost, stand to gain from these
changes as greater levels
of switching creates the
opportunity for them to grow
their customer bases.
As a result of the downward
pressure on margins, we
expect suppliers will need to
reconsider their commercial
models and decide whether
in the future they will look
to retain and attract
customers through:
• Being as efficient as
possible and translating a
low cost base into low
consumer prices.
• Consistently delivering
great customer service
and having high customer
satisfaction.
• Offering a wider range of
products and services to
meet broader customer
needs.
not only how to comply but
how to incorporate regulatory
change into their core strategy
and business plans, and have
rapidly translated this into their
day-to-day operations.
Contents
In this
report
p3
p7
p29
p32
Operational impacts
of the CMA findings
Remedies
Lessons learned
from other industries
For further
information
Wholesale electricity market rules and regulations
Remedies to address weak retail
competition for domestic consumers
9
12
Remedies to address weak retail
18
competition for SMEs and microbusinesses
Domestic and SME half-hourly
settlements
24
The regulatory framework and
role of Ofgem
26
Operational
impacts of the
CMA findings
We have used our operational impact
framework to identify the potential impacts
of the CMA findings for energy suppliers.
This covers the entire spectrum of potential
impacts and changes; from commercial
strategy through to technology decisions
and operational readiness.
2
Competition and Markets Authority investigation into the UK energy market | Summer 2015
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Operational
impacts
Operating model
• Determine the changes required to the current
model and organisation design, e.g., impacts of
delivering regulatory or green obligations
• Assess new operational requirements and what
impacts they will have on existing business
architecture and operational (locations and contact
levels) capacity and capabilities
Funding
• Raising of capital for strategic investments
• Evaluate whether there is organisational bandwidth
(leadership and operations) to implement the
changes while running the business
• Funding of projects —
­ IT investment
• Funding of additional operational activity
required to deliver changes
Employees
• Identify changes to current ways of working and
the required skill set of operational teams
Regulatory/policy
• Assess what is needed from a cultural change
perspective, e.g., working within tighter
regulatory controls
• Interpreting and designing
a suitable response to the proposals
• Engaging and aligning solution with
the regulator
• Assess existing reward and incentive schemes
and determine whether they need to change,
e.g., to deliver an increased focus on compliance
• Maintaining and demonstrating
sustained compliance through
implementation into day-to-day
operations
Commercial
• Translating policy into operations
• Review key commercial relationships (white
labels/partnerships) for associated impacts
• Identify downstream impacts on core
business processes and key business
metrics (e.g., working capital)
Technology and asset
• Changes to core IT systems,
e.g., customer relationship
management platform
Customer management
• Data and insight requirements
• Evaluate retention strategy and identify
actions to drive customer retention, e.g.,
compete on non-price-related items such
as customer satisfaction
• Development of digital solutions
• Generating technologies e.g.,
solar pv, wind, conventional
• Identify requirements for new customer
management capabilities, e.g., changes to
core customer journeys
Business processes
• Establish customer communication
requirements, e.g., mass market mailings
to communicate changes to core terms
and conditions (T&Cs)
• Review end-to-end business
processes
• Identify changes to operational
procedures and guides
• Assess impacts of changes to
business controls and reporting
Products and services
• Redesigning/evolving core product range
and any associated non-energy propositions
Legal
• Repositioning standard variable/evergreen
tariffs within the portfolio
• Legal entity or
structural changes
• Creating new points of differentiation/USPs
(non-price) in the marketplace
• Adjustments to
corporate governance
• Managing the portfolio effectively given
growing importance of non-energy products
• Understanding the impact on green/
obligation offerings and market approach
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Competition and Markets Authority investigation into the UK energy market | Summer 2015
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Remedies
6
Competition and Markets Authority investigation into the UK energy market | Summer 2015
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Five
categories
Due to the cumulative
nature of many of the
remedies, we have
considered these in the
following five categories:
1
Wholesale
electricity
market rules and
regulations
The regulatory
framework and
role of Ofgem
5
4
Domestic and
SME half-hourly
settlements
8
1
2
3
Remedies
to address
weak retail
competition
for SMEs and
microbusinesses
Wholesale electricity market
rules and regulations
Remedies
to address
weak retail
competition
for domestic
consumers
As expected, the CMA did not propose any remedies that would
lead to major structural changes to wholesale electricity markets.
Rather, the CMA has proposed the adoption of
locational prices for electricity and changes to
the process for allocating low-carbon subsidies
through the CfD mechanism, where the
CMA argues that the current arrangements
are resulting in some inefficiencies in the
production of electricity and, therefore, higher
prices for consumers.
The proposal around locational prices is
expected to redistribute costs between
generators and consumers and will impact
on the incentives to operate different plants.
As such, generators will need to revisit
their generation strategy in light of the
new geographic pattern of charging (and
potentially also their bidding strategies for
the CfD and Capacity Market).
The intent of proposals around the CfD is
to encourage the uptake of more of the
most cost-effective low-carbon generation
technologies. However, this is potentially
at odds with current government policy for
onshore wind, and therefore the full extent
to which this proposal will impact future
generation technology investments is not
yet certain.
Competition and Markets Authority investigation into the UK energy market | Summer 2015
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Remedies | Wholesale electricity market rules and regulations
Wholesale electricity market
rules and regulations
Absence of locational pricing for losses —
CMA findings and proposals
The mechanism for allocating CfDs —
CMA findings and proposals
Current regulation and position
Proposed CMA actions
Potential outcomes
Current regulation and position
Proposed CMA actions
Potential outcomes
Electricity is lost during the
process of transmission, and these
losses vary by geography.
Under the current regime, the cost
of these losses takes no account
of the location of generators or
consumers
Remedy 1
Introduction of a new standard
condition to the licenses of
electricity generators, suppliers,
interconnectors, and transmission
and distribution operators to
require that variable transmission
losses be priced on the basis
of location in order to achieve
technical efficiency
Will result in a redistribution of
costs between consumers and
generators: for example, costs are
likely to increase for generators
that are located farther away
from centres of higher demand,
e.g., Scotland, and fall for
generators that are located closer
to demand centres
Subsidy for low-carbon generation
is provided through CfDs. This is
currently allocated to generators
through a range of mechanisms:
Remedy 2(a)
Department of Energy and Climate
Change (DECC) to undertake and
consult on a clear and thorough
impact assessment before awarding
any CfD outside the CfD auction
mechanism
Allocating CfDs exclusively through
a single technology-neutral auction
would result in more of the most
cost-effective technologies, being
brought forward, e.g., onshore
wind and solar, at the expense of
more costly technologies such as
offshore wind farms and biomass
The CMA findings suggest that
this creates inefficiencies in
terms of location and deployment
of generation assets
Will impact investment decisions on
the location of new generation and
decisions on the running of existing
generation assets
Operational impacts and considerations
10
• Bilateral negotiations,
e.g., contracts awarded under
Financial Investment Decision
enabling for Renewables
(FIDeR)
• Technology-specific auctions
CMA believes that current
arrangements deliver a less
cost-effective mix of low-carbon
generation and higher costs for
consumers
Remedy 2(b)
DECC to undertake and consult on
a clear and thorough assessment
before assigning technologies
between pots (i.e., to the “pot”
of subsidy that is available within
a particular auction) and the CfD
budget to the different pots
There is a lack of alignment
between the CMA proposals
and current government policy
regarding onshore wind
Operational impacts and considerations
Commercial
Regulatory
Business process
Commercial
Technology and asset
Regulatory
An evaluation of existing fleet
generation strategy will be required
to optimise output by geography
Support of the industry process of
developing and implementing the
new regulation
Will need to consider the potential
for knock-on regulatory impacts —
e.g., possible changes to
Transmission Network Use Of
System Charges (TNUOS) to
avoid double penalty/reward for
certain plants
Investment plans for low-carbon
generation will need to be reevaluated — in particular, firms
will need to reassess CfD auction
prospects as a function of
technology
Review of planned spend on
generation mix to ensure plans are
aligned with likely future investmentpriority areas
Supports the industry process of
developing and implementing the
new regulation
Investment plans for conventional
and low-carbon generation capacity
will need to be re-evaluated – firms
may need to revisit their bidding
strategies for the Capacity Market
and CfD
Creation of changes to business
processes in light of locational
pricing — e.g., updates to
procedures, controls and
management information
systems (MIS)
May be a need to refocus future
investments into more cost-effective
generation capability (in particular,
solar and onshore wind) as a
result of the new approach to
auctioning CfDs
Greater investment of time to
demonstrate economic cases for
new projects to DECC and Ofgem
Competition and Markets Authority investigation into the UK energy market | Summer 2015
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Remedies | Remedies to address weak retail competition for domestic consumers
Likely impact on domestic suppliers
2
The proposed remedies could fundamentally
change the commercial model for many suppliers.
Remedies to address weak retail
competition for domestic consumers
Summary of CMA findings
The proposed CMA remedies in relation to
domestic energy customers are aimed at
driving competition. These remedies, while
not finalised in terms of how they will be
enacted, include:
• A safeguard tariff will likely be implemented
in a way that provides price reductions
to many customers on Standard Variable
Tariffs (SVTs) today while leaving sufficient
room for proposition innovation to increase
customers’ engagement and switching.
• Repeal of simpler choices will likely result
in a wider range of propositions to facilitate
both acquisition and retention of customers.
• An acceleration of smart metering for
prepayment customers is likely to be
proposed.
• Further discussion is expected on
developing proposals to drive customer
engagement and awareness and thereby
promote competition.
12
The CMA believes that customers could have
saved ~£1.2bn per year between 2009 and 2013,
yet it also believes the entire profit pool for energy
supply was £1.6bn in FY13, leaving just £400m
of profit to be shared across all suppliers (similar
to FY08 levels). The regulated safeguard tariff will
have the effect of placing a price ceiling on the
market, in all likelihood at levels below the SVT
many customers are on today. Other remedies
are designed to promote greater customer
engagement, switching and pricing and will also
have a similar effect in putting downward
pressure on the “price floor”, likely reducing
margin and placing pressure on indirect costs.
As a result, the commercial model of large
suppliers will need to change to reflect the
reduction in customer lifetime value (LTV) for
both existing and future customers.
Additionally, if effective, the introduction of
these remedies will have a number
of implications from a customer management
perspective; these include:
• Increased focus on customer retention, with
an ability to differentially invest at point of
renewal/win-back to retain a customer, based
on forward-looking LTV
• A need to engage prepayment customers
and create the right incentives to enable the
installation of smart meters
• The need to improve and simplify customer
communications through the entire life cycle
and not just specific communications like
bills; Improved customer communications at
key points in the life cycle not only impacts the
customer experience but drives out avoidable
contact and cost
In the future, increasing customer LTV will be
largely driven through improving customer
tenure as a result of providing customers with a
compelling reason to stay, such as a competitive
price enabled through a low-cost base or great
customer service. The introduction of an Ofgem
PCW may also put downward pressure on
acquisition costs through reduced commissions
and fees charged by other PCWs and TPIs.
The impact will be dependent on whether
Ofgem charged a commission to provide the
service, and the extent to which the site provides
information or enables switching itself. PCWs will
likely compete and retain customers by offering
customers a broader range of switching services,
for example, insurance or telco.
Competition and Markets Authority investigation into the UK energy market | Summer 2015
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Remedies | Remedies to address weak retail competition for domestic consumers
Remedies to address weak retail
competition for domestic consumers
Strategic implications of the CMA findings for domestic suppliers
The introduction of these remedies will require suppliers to fundamentally rethink and make choices as to
how they choose to compete and win in the market going forward. We see three viable strategic alternatives:
1
2
3
Invest to achieve the
lowest cost base driven
through simplification
and standardisation
across the whole of
the business
Invest to deliver truly
great customer service
through having the
best customer insight,
which allows mass
personalisation
Invest to develop and
offer the best product
and services that
meet a wider range of
customer needs than
just supply
We would expect that the likely margin pressures from a combination of increasing price-driven competition
and the “safeguard-regulated tariff” will mean suppliers will only be able to invest to achieve one of these
strategies. Success in this new regime will come from making tough choices.
The suppliers’ chosen strategy to win in the market will drive the design and implications for
existing operating models:
Lowest cost base
through greater standardisation
across the operating model
to provide cost efficiency and
protect margins. Beyond the
typical investments in systems
and process, this should extend
to include areas, such as channel
migration, data quality, use
of outsourcers and suppliers,
performance management and
incentives, people capability and
property consolidation
14
Best insight and service
through mass personalisation
enabled through investment in
customer insight, people, data
and technologies, such as digital
and CRM. When we look at other
markets, such as supermarkets,
banking and insurers, typically
we find that the best service
providers tend to have niche
positions in their respective
markets
Best products
through innovation to develop
new energy and non-energy
propositions. The key
consideration for how these
products and services are
delivered will determine when to
build capability, buy capability
or partner to gain access to
capability, e.g., distributed
energy or home automation.
Generally “build” or “buy” will
favour those with scale, either in
the UK or internationally
Practical
considerations
for operating
model and
operations
Those suppliers that choose to compete by offering
the “best products” will be able to increase LTV by
commercialising the customer relationship through
providing a range of higher-margin products and services
and, by doing so, be able to invest more to acquire and
retain customers. Proposition development will focus on
specific customer segment and channel needs, for example,
PCWs or partnerships. We would expect some suppliers
to invest in innovation and to provide bundled tariffs that
include non-supply products and services, such as boiler
servicing and distributed energy.
Measuring return on acquisition investment over the lifetime
of the customer will become an increasingly important and
core commercial competency. Equally, we would expect the
proliferation of propositions and tariffs will make proposition
life cycle management a core business competency in
order to minimise avoidable operational costs and remain
compliant, making all tariffs available on Ofgem’s price
comparison website.
The prioritisation of smart metering deployment to
prepayment customers will need to be carefully considered
when designing the future operating model. In our
experience, a large risk in smart meter business cases
relates to engineer access to properties. Generally,
prepayment has been imposed on customers in Great
Britain to manage bad debt, therefore, some of these
customers are disengaged, meaning their properties may
be harder to gain access to. This will also mean revisions
to the development and deployment of the smart metering
implementation program to prioritise prepayment
customers ahead of other customer segments.
Competition and Markets Authority investigation into the UK energy market | Summer 2015
15
Remedies | Remedies to address weak retail competition for domestic consumers
Remedies to address weak retail
competition for domestic consumers
Domestic — CMA findings and proposals
Operational impacts and considerations
Current regulation and position
Proposed CMA actions
Potential outcomes
Operating model
Products and services
Technology and asset
At least 53% of customers are still
with an incumbent supplier for at
least one fuel
Remedy 3
Remove from domestic retail
energy suppliers’ licenses the
“simpler choices” component of
the RMR rules
The proposed CMA remedies
are designed to promote greater
price-driven competition. Should
customers become increasingly
engaged and more price-aware,
it will put downward pressures on
margins. This will require suppliers
fundamentally to review and
decide how they will compete in
the market. We see three viable
strategic alternatives:
Review of commercial strategy and
future operating model options —
what capabilities are needed and
should they pursue a buy, build or
partner approach?
Redesign product portfolio to
incorporate regulated tariff and
adjustment of hedging/pricing
strategy
Development of existing systems to
handle new regulated tariff and other
specific communication changes
CMA estimated substantial gains for
consumers remain unexploited
3% average domestic margin across
suppliers
Recent major reform with the
introduction of the four tariff rule
under the Retail Market Review
(RMR) has not had the desired
impact. It is perceived to have
restricted innovation and the
ability of suppliers to provide
new and competitive products.
There has been no evidence of an
increase in market activity since the
introduction of these rules
Remedy 4(a)
Measures to address barriers to
switching by domestic customers
(consultation)
Remedy 4(b)
Changes to current exemptions
in place for two year inspection of
gas meters
Remedy 5
Requirement that energy firms
prioritise the rollout of smart
meters to domestic customers who
currently have a prepayment meter
CMA research indicates that while
price comparison websites are
widely used in the domestic market,
they are not used by lower income
households
Remedy 6
Ofgem to provide an independent
price comparison service for
domestic (and microbusiness)
customers
Evidence of some technology
constraints impeding choice for
specific customer groups, e.g.,
prepayment
Remedies 9 & 10
Improved communication and
prompts to engage
Remedy 11
The introduction of a transitional
safeguard-regulated tariff
for disengaged domestic and
microbusiness customers
• Invest to achieve the lowest
cost base, driven through
simplification and
standardisation
• Invest to deliver truly great
customer service via strong
customer insight and mass
personalisation
• Invest to develop and offer the
best products and services,
which meet a wider range of
customer needs than just supply
We would expect that the
likely margin pressures from
a combination of increasing
price-driven competition and the
safeguard-regulated tariff will mean
suppliers will only be able to invest
to achieve one of these strategies
Impacts on operations teams — both
for initial delivery of the changes, for
example, managing the migration to
the regulated tariff, and longer-term
customer servicing in a significantly
more cost focused environment
Commercial
Analysis and development of
alternative growth and revenue
forecasts based on new market
conditions and lower margins
Evaluate investment plans in
innovation and consider bundling
products to include non-supply
products and services, such as boiler
servicing and distributed energy
Suppliers will likely need to
accelerate and prioritise the
development of smart prepayment
proposition(s)
Customer management
Review of current commercial
partnerships, e.g., white label
products and price comparison
websites, to align to new commercial
environment and requirements
Consideration of new partnerships
with innovative technology
companies to diversify product range
Creation of new acquisition
and retention strategies and
identification of the operational
changes required to execute
Changes to customer journey for
renewal, acquisition and billing
activities
Communication of initial migration to
new products and revisions to T&Cs.
Subsequent management of the new
regulated tariff price-change process
in line with regulator-driven process
Decisions as to whether to build
or buy to develop new proposition
capability
Regulatory
Consider changes to sales
compliance processes and
procedures in light of changes to
RMR simple choices regulation.
What controls will be needed
to manage a broader range of
incentives and promotions?
Business process
Creation of new processes and
interfaces with Ofgem to manage
the regulated tariff effectively, for
example, for future price-change
events
Creation of new operational
procedures for renewal and
acquisition teams, e.g., call guides
and procedures
Remedy 13
The introduction of half-hourly
consumption data in the settlement
of domestic and SME electricity
meters
Remedy 14
Ofgem to develop a comprehensive
“market-orientated” regulatory
accounting framework under which
the large domestic and SME energy
generators and retail suppliers
should report
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Competition and Markets Authority investigation into the UK energy market | Summer 2015
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Remedies | Remedies to address weak retail competition for SMEs and microbusinesses
3
Remedies to address weak retail competition
for SMEs and microbusinesses
Likely impact on SME customers
Summary of CMA findings
The safeguard tariff will likely be implemented
in a way that provides price reductions to many
customers on default tariffs today while leaving
sufficient room for proposition innovation to
increase customer engagement and switching.
We expect the safeguard tariff to have the
effect of placing a price ceiling on the market,
in all likelihood at levels below the default
tariff of today. In addition, we expect the other
remedies, such as TPI code of conduct, disclosure
requirements and an Ofgem PCW, also to put
downward pressure on the price floor and likely to
reduce margins and place pressure on
indirect costs.
The proposed CMA remedies in relation
to SME energy customers are aimed at
driving competition. These remedies, while
not finalised in terms of how they will be
enacted, include:
• A safeguard tariff will likely be
implemented in the same way as proposed
for domestic consumers
• Greater transparency of pricing,
with suppliers likely to be required to
publish their prices online and a greater
requirement for TPIs to be clearer on the
type of contract being sold
• Removal of the ability of suppliers to
automatically roll over customers onto
a new contract and lock them in without
their conscious choice
18
The proposed remedies will have impacts in
terms of both customer management and the
commercial model adopted by suppliers.
The need to roll over contracts onto flexible
terms and notice periods if a customer does
not actively choose a new contract will have to
be considered and may have implications for
SME hedging and pricing strategies. The overall
commercial model for SME suppliers will need
to change to reflect reducing customer LTV for
both existing and future customers. Suppliers
may have an opportunity to renegotiate the
commercial relationships with TPIs to reflect
a more transparent environment where LTV is
lower and, more generally, measuring return on
acquisition investment over the lifetime of the
customer will become an increasingly important
core commercial competency. Finally, as with
domestic customers, proposition development
will also become an increasingly core competency
as smart metering and half-hourly settlements
enable the development of integrated
propositions using improved consumption data
and introducing time of use (ToU) tariffs for SMEs
and microbusinesses.
Competition and Markets Authority investigation into the UK energy market | Summer 2015
19
Remedies | Remedies to address weak retail competition for SMEs and microbusinesses
Remedies to address weak retail
competition for SMEs and microbusinesses
Strategic implications of the CMA findings for domestic suppliers
The introduction of these remedies will require SME suppliers to fundamentally rethink and make choices
as to how they choose to compete and win in the market going forward. To the extent these measures are
able to increase customer engagement and switching, if suppliers do nothing, they will reduce their margin
from the most profitable part of the supply market. To mitigate and replace lost margin, we see three viable
strategic alternatives for SME suppliers:
1
2
3
Invest to achieve the
lowest cost base driven
through simplification
and standardisation
across the whole of
the business
Invest to deliver
truly great customer
service through the
best customer insight,
which allows mass
personalisation
Invest to develop and
offer the best products
and services that
meet a wider range of
customer needs than
just supply
We would expect that the likely margin pressures from a combination of increasing price-driven competition
and the safeguard regulated tariff will mean suppliers will only be able to invest to achieve one of these
strategies. Success in this new regime will come from making tough choices.
The suppliers’ chosen strategy to win in the market will drive the design and implications
for existing operating models:
Lowest cost base
through greater standardisation
across the operating model
to provide cost efficiency and
protect margins. Beyond the
typical investments in systems
and process, this should
extend to include areas such as
channel migration, data quality,
performance management and
incentives, people capability
and property consolidation.
For many suppliers, we would
expect the opportunity to drive
greater synergy for SMEs
by leveraging historic
investments in both domestic
and corporate capabilities
20
Best insight and service
through mass personalisation
enabled through investment in
customer insight, people, data
and technologies such as digital
and CRM. When we look at other
markets, such as supermarkets,
banking and insurers,
typically we find that the best
service providers tend to
have niche positions in their
respective markets
Best products
through innovation to develop
new energy and non-energy
propositions. The key
consideration for how these
products and services are
delivered will be when to build
capability, buy capability or
partner to gain access to
capability, e.g., distributed
energy or bundled energy
efficiency products. Generally
“build” or “buy” will favour those
with scale, either in the UK or
internationally
Practical
considerations
for operating
model and
operations
There are a number of practical operational factors that
need to be considered as a result of the CMA changes.
For example:
There will be a need to better understand the differing
needs of SMEs and microbusinesses to support more
effective proposition development for acquisition and
retention of customers, with increased proactive customer
engagement at point of contract renewal to migrate
customers onto a new retention tariff. The ability to improve
and simplify customer communications through the entire
life cycle and not just point communications such as bill
formats will be increasingly important in this sector.
We expect there will need to be changes to billing and
customer management systems to implement these
remedies — for example, automatic contract renewals,
the safeguard tariff and the introduction of half-hourly
settlements. Given the likely growth of TPIs and PCW
channels in this sector, the cost of acquisition and role of
existing sales channels will need to be considered.
New flexible propositions and tariffs will need to be
developed to support new contract rollover requirements.
We would expect integrated energy efficiency, distributed
energy and supply propositions to become more prevalent
in the future. These types of propositions have the potential
to be win-win, reducing future energy consumption
for customers, while also providing increased margin
opportunity for suppliers. New propositions that are
delivered either in part or fully by third parties and partners
may require system investment to maintain a single view
of customers across all products and services. Customer
demand may also result in the need to prioritise the
deployment of smart meters to microbusiness (profile 3-4)
to allow them to benefit from new propositions such as ToU
tariffs once half-hourly settlement is introduced.
Suppliers can expect new and increased focus on managing
customers compliantly, especially in key areas such as
acquisition and retention. New regulatory requirements
for financial reporting of supplier SME businesses may also
have implications for existing financial report processes,
definitions and legal-entity structuring.
Competition and Markets Authority investigation into the UK energy market | Summer 2015
21
Remedies | Remedies to address weak retail competition for SMEs and microbusinesses
Remedies to address weak retail competition
for SMEs and microbusinesses
SME and microbusiness — CMA findings and proposals
Current regulation and position
Proposed CMA actions
Potential outcomes
At least 41% of SME customers have
never switched, compared to 19%
for large business
Remedy 6
Ofgem to provide an independent
price comparison service for
domestic (and microbusiness)
customers
Larger energy suppliers are
likely to feel the impact of these
remedies most acutely as they
are likely to have a greater
proportion of customers on nonnegotiated tariffs.
CMA analysts suggest that the
SME and microbusiness segment
today accounts for ~10% of supplier
revenue yet generates ~25% of
supplier profit (EBIT). Currently,
the average SME margin is 8.6% vs.
3.3% for domestic
However, when viewed on a perunit level, SME EBIT decreased by
almost 40% between FY09
and FY13
Within the SME segment,
microbusiness appears to
be particularly disengaged
(microbusinesses are defined by
Ofgem as those whose annual
consumption is up to 30x domestic
consumption)
The CMA found that 45% of
microbusinesses are on default
tariffs that had not been actively
negotiated (such as a new or
retention contract). Default tariffs
can be categorised as a rollover
contract, out-of-contract (OOC) or a
deemed contract:
• A rollover contract was ~33%
higher than a retention contract*
• A deemed contract was ~32%
higher than a rollover contract
and 75% higher than a retention
contract* (*comparison for
electricity)
TPIs have an important role in
helping SME customers engage in
the market, however; there have
been a number of complaints to
various official bodies concerning
alleged TPI malpractice, and some
TPIs may not have incentive to
offer SME customers the best
deal possible
22
Remedy 7(a)
Introduction of a new requirement
in the licenses of retail energy
suppliers to provide price lists
for microbusinesses on their
own websites and to make this
information available to PCWs
Remedy 7(b)
Introduction of rules governing the
information that TPIs are required
to provide to microbusiness
customers
Remedy 8
Introduction of a new requirement
in the licenses of retail energy
suppliers that prohibits the
inclusion of terms that permit the
auto-rollover of microbusiness
customers onto new contracts with
a narrow window for switching
supplier and/or tariff
Remedy 11
The introduction of a transitional
safeguard regulated tariff
for disengaged domestic and
microbusiness customers
Remedy 13
The introduction of half-hourly
consumption data in the settlement
of domestic and SME electricity
meters
Remedy 14
Ofgem to develop a comprehensive
“market-orientated” regulatory
accounting framework under which
the large domestic and SME energy
generators and retail suppliers
should report
• The regulated safeguard tariff
will have the effect of placing
a price ceiling on the market,
in all likelihood at levels below
the default many customers are
on today
• The other remedies, such as
TPI code of conduct, disclosure
requirements and an Ofgem
PCW, will have the effect of
putting downward pressure on
the price floor, likely reducing
margin and placing pressure on
indirect costs
• The commercial model of large
suppliers will need to change to
reflect reducing customer LTV
for both existing and
future customers
Therefore, we believe the
introduction of these remedies
will require large suppliers to
fundamentally rethink and make
choices as to how they choose to
compete and win in the market
going forward
CMA proposed additional
requirements on TPIs to disclose
information to customers on
coverage and incentives they are
receiving from suppliers. These
remedies will build on Ofgem’s draft
code of conduct for TPIs and should
increase transparency on pricing
and commissions and, in doing so,
build greater trust Operational impacts and considerations
Operating model
Customer management
Organisations need to consider
where microbusinesses should sit
in the future — as a result of system
and operational synergies between
them and domestic customers.
Should the current SME model
change to split between domestic
and corporate operations based on
size of customer and profile class?
Review of segmentation and
customer profitability models and
incorporating into future hedging/
pricing decisions as churn increases
and customers become more
price conscious
Assessment of sales channel model
and the focus on internal vs. external
as TPIs increase transparency and
potentially interact with a greater
percentage of microbusinesses
Communication of initial migration
of evergreen customers onto
the new product and revisions to
terms and conditions. Subsequent
management of the new regulated
tariff price changes process in line
with regulator-driven process
Technology and asset
Commercial
Review of how to generate profits
from the B2B supply base with
increasing pressure on shrinking
supply margins?
Opportunity to revisit/negotiate
relationships with TPIs in what will
be a more transparent environment
Products and services
Is there an opportunity to expand
portfolio to sell additional products
and services to maintain margins
and retention rates? Work with other
parties, e.g., new entrants for white
label bundled products?
Changes to billing and customer
management systems to implement
remedies — for example, to support
renewal changes. What systems
and interfaces will be required for
new products and working with
third parties?
Regulatory
Review of overall compliance on
key sales activities in line with
domestic practices
Agreement on new mechanisms for
submitting costs and business data
to the regulator to enable effective
price-setting of the regulated tariff
Business process
Changes to renewal process and
local procedures — call guides and
advisor training
The CMA remedy that Ofgem
should run an independent price
comparison service, providing the
whole of market coverage, will likely
put pressure on the existing PCW
and TPI commercial models
Competition and Markets Authority investigation into the UK energy market | Summer 2015
23
Remedies | Domestic and SME half-hourly settlements
Settlements — CMA findings and proposals
4
Potential outcomes
Domestic gas customers do not
have their meter read daily, and
settlement is done on the basis of
an annual quantity review
Remedy 12(a)
Requirement to implement Project
Nexus in a timely manner
Creates additional incentives for
suppliers to create more innovative
tariff options, e.g., time-ofuse tariffs where consumption
behaviour can be reflected in
settlement process
CMA argues that the inaccuracy
of the settlement process for
electricity and gas fails to provide
the correct incentives to suppliers
to encourage customers to reduce
their consumption
The CMA has found two adverse effects on
competition concerning the regulatory framework
for SME and domestic markets.
24
Proposed CMA actions
Electricity settlement is done
on a half-hourly basis based on
general profile classes, meaning
reconciliation is not based on actual
customer behaviour
Domestic and SME
half-hourly settlements
First, the current method of gas settlement
is not effective in its allocation of costs to
the different affected parties, and there is
opportunity for the current process to be
subject to gaming. Second, for electricity,
the CMA has identified the lack of a clear
plan for domestic and SME settlements
Current regulation and position
to move to half-hourly settlements in the
future to be a problem as it does not support
the development of new smart-time-ofuse propositions, and therefore it limits
the opportunity for the industry to shift
consumer demand load to non-peak times in
the future.
Remedy 12(b)
Introduction of a new license
condition on gas shippers to make
monthly submissions of annual
quantity updates mandatory
Remedy 13
Requirement that domestic and
SME electricity suppliers and
relevant network firms agree a
binding plan for the introduction of
a cost-effective option to use halfhourly consumption data in
the settlement of domestic
electricity meters
The overall savings expected
from generation would only be
realised toward the end of the
smart metering rollout and the
widespread adoption of time-of-use
tariffs by consumers
The move to electricity half-hourly
settlements will be a significant
step-change improvement for
the industry; however, the overall
costs of the programme across the
industry are likely to be significant
and will need factoring into
supplier costs
Operational impacts and considerations
Business process
Commercial
Technology and asset
Review of teams and business
processes to ensure business as well
as IT readiness for Nexus delivery
in 2016
Reviewing of settlements
performance and ensuring
management of any exception
processes are up to date ahead of
the cutover to Nexus, as well as
that suitable controls are in place
to manage commercial risks around
new processes being implemented
The Nexus project represents major
systems changes for suppliers and
will replace systems and processes
that have operated since 1999.
The programme is complex and will
require rigorous internal and market
testing as part of the implementation
planning process
Ongoing monitoring of business
controls and purchase vs. sales
performance
Longer term, there will be a need to
build the capability and/or capacity
and insight to be able to handle
and interpret half-hourly data for
domestic customers
Products and services
Market testing and development
of smart time-of-use propositions
and other demand-side
management offerings
Competition and Markets Authority investigation into the UK energy market | Summer 2015
25
Remedies | The regulatory framework and role of Ofgem
Regulatory framework and role of Ofgem — CMA findings and proposals
5
Current regulation and position
Proposed CMA actions
Potential outcomes
The CMA’s provisional view is that
the current framework for financial
reporting could improve and that
a market-orientated approach
would allow the regulator to assess
profitability more accurately across
the value chain
Remedy 14
Remedy to improve the current
regulatory framework for financial
reporting
These remedies will have the effect
of creating greater transparency
with consistent market reporting
and will clearly sharpen Ofgem’s
remit to represent the consumer
and drive greater competition in
the market
The CMA also observed there was
insufficient communication around
policy decisions and their impacts
on the consumer
The regulatory framework and
role of Ofgem
The CMA has found that there is a lack of transparency and
clarity on roles regarding regulatory decision-making, with
the risk of poor quality decisions that could have an adverse
impact on competition.
The CMA has made a number of
recommendations to clarify the different
roles and approach to policy-making as part
of its proposed remedies.
The CMA has also found that
Ofgem’s goal of encouraging
competition may have been eroded
by other competing objectives.
Additionally, it observed that
overlaps existed between DECC’s
and Ofgem’s roles, with no formal
mechanism in place to resolve
disputes
Finally, the CMA considered the
current governance of industry
code had limited incentives for
participants to drive change and
therefore stifles innovation
and progress
Additionally, the CMA has identified conflicts
of interest in the industry code management
process and that Ofgem had insufficient
powers to manage the pace of the process
effectively.
Remedy 15
More effective assessment of tradeoffs between policy objectives and
communication of impact of policies
on prices and bills
Remedy 16
Revision of Ofgem’s statutory
objectives and duties in order to
increase its ability to promote
effective competition
The changes to the industry code
governance will also enable Ofgem
to more effectively manage the
pace and direction of ongoing
industry development and reform
Remedy 17
Introduction of a formal mechanism
through which disagreements
between DECC and Ofgem over
policy decision-making can be
addressed transparently
Remedy 18(a)
Recommendation to DECC to
make code administration and/or
implementation of code changes a
licensable activity
Remedy 18(b)
Granting Ofgem more powers to
project-manage and/or control
timetable of the process of
developing and/or implementing
code changes
Remedy 18(c)
Appointment of an independent
code adjudicator to determine
which code changes should be
adopted in case of dispute
Operational impacts and considerations
Regulatory
Review internal procedures and
resourcing for code modifications
in light of potential new license
condition in this space
26
Competition and Markets Authority investigation into the UK energy market | Summer 2015
27
Lessons
learned from
other industries
The energy market is continuing to face
challenge and change like never before.
Parallels can be drawn and lessons learned
from other industries that have faced similar
regulatory scrutiny in recent years.
These include the financial and consulting
sectors. From our experience of working with
clients in these industries, we have seen that
those that have been most forward-thinking
in the way they have responded to the
regulator and prepared to implement the
changes across their operations
have fared better.
28
Competition and Markets Authority investigation into the UK energy market | Summer 2015
29
Lessons learned from other industries
1
Had active CEO and boardlevel engagement advocating
the need to change from
the outset
2
Recognised that many
remedies cut across
functional boundaries, and
aligned the operating model,
incentives and scorecards
of senior management to
deliver the right outcomes
for customers, the regulator,
employees and shareholders
3
Our
experience ...
of advising and working with clients in sectors that have
been highly impacted by regulatory change has shown that
those who have succeeded in the implementation of major
regulatory change have typically:
30
Sought to achieve
competitive advantage from
compliance, rather than just
“bolting it on” and revisited
their commercial strategy
for how their business will
compete and win in the new
market environment they find
themselves in, and realign
investment appropriately
4
Approached design and
implementation with a
“transformation” mind-set,
realising their business will
need to look and operate
differently in the future from
how it does today. In doing so
they have invested time up
front in defining a clear “end
state” or operating model for
the business to enable the
commercial strategy
5
Had one source of the “truth”
through a single integrated
roadmap to manage the
transition and change from
current state to future end
state combining all the
change (regulatory and nonregulatory) that the business
must deliver
6
Sought the identification
of synergies and benefits
to drive value, e.g., SME
customers leveraging historic
investments in domestic
capability
7
Revisited their resourcing
model for delivering business
change to ensure the right
number of people, with the
right capability, at the right
time, with the right method
working in a consistent way
8
Created the right
organisational culture by
actively managing the
communication narrative.
This is key to realigning
internal mind-sets and
delivering sustainable
regulatory change
throughout the organisation
9
Ensured that all external
communications with
regulators, stakeholders
and other key parties are
coordinated, consistent and
intentional at all levels of
the company
Competition and Markets Authority investigation into the UK energy market | Summer 2015
31
About EY
Further information
Please contact ...
Rob Doepel
Tony Ward
[email protected]
+44 [0] 20 7951 5432
[email protected]
+44 [0] 121 535 2921
Ian Whitlock
Natalie Johnson
[email protected]
[email protected]
+44 [0] 20 7951 6790
Partner, Advisory
Services
Partner, Transaction
Advisory Services
+44 [0] 20 7951 0892
Partner, Head of Power
& Utilities for UK&I
Partner, Advisory
Services
Matthew Wynn
James Morris
[email protected]
+44 [0] 7831 137 026
[email protected]
+44 [0] 20 7980 9227
Mark Bennett
Jamie Torrens
[email protected]
+44 [0] 7768 115 636
[email protected]
+44 [0] 20 7951 2682
Senior Manager,
Advisory Services
Senior Manager,
Advisory Services
Director, Transaction
Advisory Services
Assistant Director,
Economic Advisory
Marketing enquiries
Media enquiries
Kevin Corcoran
Konstantinos Makrygiannis
[email protected]
[email protected]
Associate Director for Energy, Brand,
Marketing and Communications
Energy Media
Relations Manager
EY – delivering
the energy to
transform
Today’s energy environment is
characterised by persistent policy and
regulatory change in response to an
evolving resource and political landscape.
Successful energy companies will maintain
secure, environmentally robust, but above
all, affordable, supplies, by anticipating
change and reacting to it quickly.
EY’s Global Power & Utilities team brings
together over 4,400 professionals with
deep technical experience in providing
assurance, tax, transaction and advisory
services specifically in the energy sector.
Our team works to anticipate market
trends and challenges, identify their
implications and hence develop points of
view and shape responses to them – our
aim is to help our clients achieve their
ambitions and compete more effectively in
an ever changing world.
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32
Competition and Markets Authority investigation into the UK energy market | Summer 2015
33
EY | Assurance | Tax | Transactions | Advisory
About EY
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© 2015 EYGM Limited.
All Rights Reserved.
EYG no. DX0330
ED None
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Please refer to your advisors for specific advice.