Microbusinesses and the energy market - The potential impacts of Ofgem's strategic review

Posted: 25th July 2019

Small businesses are rightfully lauded across many industries, especially in an age in which high-tech start-ups, influencers and entrepreneurs are rapidly taking market share from large and incumbent players.

But there’s a subset of the “small business” category that doesn’t make the news quite as often: the microbusiness. And it is these tiny powerhouses that Ofgem is currently working to assist as part of its continuing ‘Strategic review of the microbusiness energy market’.

What is a microbusiness – and what does energy supply mean to them?

Ofgem, the UK energy and gas regulator, defines a microbusiness as one that:

• employs fewer than ten people and has an annual turnover or balance sheet no greater than €2 million
• uses no more than 100,000 kWh of electricity per year; or
• uses no more than 293,000 kWh of gas per year

Microbusinesses are central to the UK economy, despite the lack of attention they receive compared to small and medium sized enterprises.

They are, by far, the most common form of business in the UK, with over five million of them offering a variety of products and services. According to Government data, they employ a third of the UK’s workforce and represent 21% of total turnover. It is, thus, vital to the continuing health of the UK economy that these businesses are encouraged to flourish and protected from the worst of economic storms.

The Competition and Markets Authority (CMA) took a keen interest in this kind of business in 2015, launching an investigation into the energy market that found about 45% of microbusinesses were stuck on suppliers’ expensive default tariffs.

Because energy suppliers only tend to publish full lists of available tariffs for domestic customers, it was found to be exceedingly difficult for microbusinesses (that rely heavily on keeping overheads low to survive) to compare and switch energy deals. Automatic rollover and the “loyalty penalty” that creeps in through this contribute to the pain of these businesses.

Ofgem takes action

In early May, Ofgem announced that it would be undertaking a strategic review of the microbusiness retail market.

The review is set to look at the access that microbusinesses have to the energy market and their engagement with it. In addition, the regulator aims to identify the measures that can be used to improve outcomes for microbusinesses.

Some of the major concerns that the regulator is now hoping to address emerged from the CMA research, others it has come to through its own investigation. In general, Ofgem suspects the market is not working as well as it should for microbusinesses, that they are not engaging with the market as much as other sectors of the population, that microbusinesses are not switching, and that they are paying far too much for their energy and gas supply.

This is not to say that positive steps have not already been made off the back of the CMA research, though. In 2016, the CMA ordered suppliers to provide clearer pricing to microbusiness customers through a web-based quotation tool. Ofgem then implemented this remedy in 2017, an action that has somewhat improved the level of price information available but has had little impact on some of the “fundamental problems in the market”.

Ofgem’s “theories of harm” represent areas where there is evidence of detriment to energy and gas consumers. For the microbusiness sector, the regulator theorises that:

• Some microbusinesses cannot effectively engage with the current market due to complexity. They are disadvantaged by their size and occasional lack of expertise
• The cost of disengagement for microbusinesses is higher than it is for domestic customers (typically because they require more access to supply), meaning that the so-called “loyalty penalty” will bite particularly hard
• Microbusinesses also typically face more opaque – or at least more complex – contracts, often ending up on disadvantageous terms with their supplier
• There are barriers to accessing, using and sharing consumption data, hampering switching decisions
• Pricing is still not fully transparent in this market

Microbusinesses, so often caught up in the busy day-to-day of operations and lacking the human resource of larger business, also often rely heavily on brokers to switch energy or gas providers. Weak broker regulation has allowed for, in Ofgem’s words, “sharp practices”. Current customer redress mechanisms also aren’t seemingly holding up to protect customers from harm.

Though the call for input in this review has now closed, Ofgem is continuing its analysis and expects to publish findings and recommendations in the winter of 2019.

Some potential remedies on the horizon

Ofgem suggests that transparency rules will be strengthened in the future. Further to that, there is a very real likelihood that the currently unregulated broker market will become regulated.

The regulator has also presented its “vision for a positive microbusiness customer journey” as part of the Opening Statement of its review, laying out the practical principles that should apply to each stage of the journey:

• Aware – Microbusinesses should be aware they can switch to better deals
• Browse – They should be able to browse the market for offers easily and quickly using the channels that are right for them
• Contract – The switching process should be smooth, transparent and not overly-complex
• Dialogue – Microbusinesses should benefit from open dialogue with service providers
• Exit – Contracts should be able to exited without fees, obstacles or complications

It is yet to be seen how Ofgem will implement its vision and how it will encourage suppliers to follow suit. In any case, however, utilities businesses need to start preparing now for a raft of potentially impactful change.

Preparing for change

There is little doubt that Ofgem will implement some changes in its rules and processes to allow microbusinesses more equal access to the UK energy and gas market. The scale of this change is only to be guessed at right now, but we can assume that suppliers will need to adapt quickly to any proposed changes.

First of all, business owners actually need to be better at identifying what kind of business they run. While Ofgem and energy suppliers could potentially assist in this by providing online tools or checklists that businesses could use to compare themselves, business owners need to ensure that they are classified correctly in the eyes of regulator and Government.

Utilities brokers will likely need to accept new regulatory rules as part-and-parcel of future operations. Firms in this space should certainly not be panicking, but should be taking a look at other regulated businesses (including brokers across financial services, for example) and taking cues as to how they can restructure their operations and models accordingly. They will also have to be prepared to meet any new transparency rules that may be implemented.

Suppliers, and the businesses that they serve (no matter the size), will also have to start looking at their conduct models and pricing practices, ensuring they are fit for purpose in a changing landscape and continuing to deliver good, fair outcomes for everyone in the value-chain.

Finally, suppliers should consider ‘beefing up’ complaints and customer contact departments, perhaps creating specialised microbusiness contact teams where they don’t already exist. Employees within these teams will need to be empowered with the specialised knowledge of their company’s products and be authorised to offer more suitable solutions to the microbusinesses that come calling.

As this topic becomes more prominent in the media and word-of-mouth circles, there will surely be more businesses coming forward to complain about the treatment they receive, or have received, from their supplier. Though these suppliers may have done everything ‘by the book’ so far, changing expectations among business customers will come to force their hand.

Suppliers need to be ready, with contingency resource at hand, for when Ofgem releases its findings and strategy. Things will surely change quickly through this next winter and into the new year.

An energy market that works for microbusinesses is one that really works

Microbusinesses are a critical part of the UK economy, so it stands to reason that if they are given every opportunity to thrive, the markets and industries around them will thrive as well. It’s encouraging to see Ofgem follow up on the CMA’s earlier recommendations and potentially expand their regulatory remit to see that they are delivered upon.

However, the transition won’t be simple. Suppliers need to ensure they have adequate resource and training needed to comply with any potential new regulation, and brokers will have to take long, hard looks at their business models if they are to continue growing at pace.

After all, from little things, big things grow. A bolstered microbusiness marketplace will pay large dividends in the end.