Competition Market Authority and OFGEM

Is the Competition and Markets Authority (CMA) OFGEM’s equivalent of an ICBM?

The announcement last week by Ofgem that the ‘Big Six’ energy suppliers are to be investigated by the Competition and Markets Authority has been welcomed by commentators, householders and businesses alike.

For a long time distrust of the big six has been rife, particularly since some of them have announced record profits whilst simultaneously the prices for consumers have been going up. Critics believe they have almost monopolistic powers; indeed there has been speculation in the past that some level of collusion on price fixing must be happening given the way prices seem to almost rise in unison. Certainly they have been directly and frequently accused of not passing on savings to their customers. They defend themselves saying that with the commodity cost of crude oil and natural gas on the increase, especially since 2011, they have had no choice but to pass on that increase to customers. This argument is augmented by the carbon tax, green agenda cost rationale which also gets spun into the mix.

We shall return to the commodity cost Red Herring shortly but first it is important for us to understand who the CMA are, how they came to the party and what realistically they can do?

The CMA is a new government body that will be established on 1 April 2014, so today in fact. The CMA will become the UK’s lead competition and consumer body, bringing together the existing competition (as well as certain consumer protection) functions of the Office of Fair Trading, and the responsibilities of the Competition Commission, as amended by the Enterprise and Regulatory Reform Act 2013.
The CMA has powers, not available to OFGEM, to address any structural barriers that would undermine competition. OFGEM believes referral to the CMA is necessary as the latter’s more extensive powers can address any long-term structural barriers to competition and an investigation into vertical integration practices can conclusively determine whether this is in consumers’ interests or whether there should be more separation between the largest companies’ supply businesses and generation arms. This raises the prospect of the Big Six companies being split up.

As a non-ministerial government body, the CMA will be responsible for:
• investigating mergers which could restrict competition
• conducting market studies and investigations where there may be competition and consumer problems
• investigating where there may be breaches of UK or EU prohibitions against anti-competitive agreements and abuses of dominant positions
• bringing criminal proceedings against individuals who commit the cartels offence under the Enterprise Act 2002 (EA02)
• enforcing consumer protection legislation under the Consumer Protection from Unfair Trading Regulations 2008 to address practices and market conditions that make it difficult for consumers to exercise choice
• cooperating with sector regulators and encouraging the regulators to use their competition powers
• considering regulatory references and appeals and carrying out other competition roles when these powers are transferred from the Competition Commission (CC) and the Office of Fair Trading (OFT) in April 2014

My guess is that if the CMA digs hard enough; with an understanding of how individual actions and inactions can seem innocent or simply inefficient when considered in isolation but can in fact be designed to frustrate or stymie competition in aggregate; they are going to find a market that is anti-competitive and in need of pretty serious reform.
Therefore this all depends upon how encompassing is the investigation and how smart are the investigators. Whilst we would hope that there will be an extremely vigorous level of focus upon the vertically integrated nature of the market (refer to our blog post here); there needs to be equally strong focus on the little things that are done to frustrate or eliminate competitive forces. Let me proffer a few examples, hard-earned personally by MyUtilityGenius being a company trying to enter a regulated market and shake things up a bit. But first, in order to evaluate the examples one first needs to make an assumption (your hypothesis) against which you can then test various different actions and behaviours to determine whether they disprove the hypothesis. The hypothesis follows this explanation of the thinking underpinning it.

There is no reason to doubt that at a middle management level in many of the Big Six suppliers there is a genuine appetite, and indeed even a KPI, that hinges upon securing new business sales. However at both an executive board and an operational board level if the name of the game is profits and shareholder value, then the 6 companies each need to retain their share of the Big 6’s 95%-98% market share.
Most (approximately 85%) of this incumbency business is highly apathetic and has rolled onto each company’s standard variable rates, which are by far and away their most profitable. As long as the market remains inert within that 95%, with few people changing supplier, and demonstrates even less churn for customers trying to leave the 95% (“I have never heard of this new supplier so I will stick with my love-hate relationship with a Big 6 supplier”), then this market consists of:

• 6 supply businesses playing pass the parcel with 10% (the savvy market still with them)
• 6 supply businesses sitting on a further 85% of the apathetic market making their substantial % turn year in year out.
• 12 other suppliers haggling over the savviest 5% of the market – at best.

As a Big 6 player why would you rock the boat and put the numbers of households on your golden goose tariff at risk when your principle financial consideration is not your customers but your shareholders?
After all, it is the perception of competition that counts and that can be easily managed by a savvy PR strategy.
Indeed if you want to see a savvy PR campaign at work then look no further than the recent “Price Freeze” announcement that apparently heralds the coming of a new age of trust and goodwill to all men.
Firstly; this freeze was conducted in an environment where the wholesale market between the last price rise in October-ish 2013 and today has fallen off a cliff – see the graph below. So prices are frozen at a price substantially more profitable currently than it was when the prices were set.
Secondly the price freeze only applies to the Standard Variable tariff – the one that apathetic customers are on which probably costs £200 more than the best deal in the market at any point in time. Yet somehow this freeze has been presented as some kind of capitulation and an example of how suppliers can be made to bow to the will of Milliband or Osborne depending upon your frame of reference.

Bearing all of the aforementioned in mind the hypothesis runs as follows:
“A Big 6 supplier is largely uninterested in acquiring new business because this may involve innovation and therefore a potential loss of control of the market. It is duty bound to its shareholders to utilise every legally available avenue to frustrate any new business acquisition strategy that materialises on the market to threaten its retention business; even one from which its sales team could benefit. Where this strangulation strategy fails it will use its market dominance to ensure that any new approach cannot be used to bolster the chances of any supply business with interests divergent to its own objective of retaining the status quo (namely a non-Big 6 supplier as the others also have retention as a principle objective).”

To support this hypothesis let me present a number of facts in the comparison market:
1. Suppliers pay comparison sites; they are the principle source, if not the only source, of revenue.
2. Consumers want to switch to Big 6 suppliers as they are the brands they know.
3. Comparison sites which have no commercial agreement with a supplier are technically unable to switch you to that supplier – even if they try to do it for free.
4. If, as a comparison site, you don’t have the Big 6 suppliers signed up there is a hole in your switching capability which hurts your conversion rate.
5. You none-the-less have to display these suppliers tariffs because OFGEM makes you do that – to protect you the consumer you understand.
6. The total online switches driven per annum are perhaps 1.2million.

Comparing our experience with one Big 6 supplier and one small supplier when we approached both parties with a view to being able to switch consumers to their brands is enlightening; and the contrasting attitudes can be illustrated quite well in numbers as demonstrated on the table below:

It would seem that the small supply business with limited bandwidth and resources was able to engage with the business remarkably quickly. Why? Is it because they saw the opportunity of making sales and did not see a down side to the engagement? How is it that a small business was able to do this with no guarantees of switches whilst a massive utility employing thousands of people was simply unable to engage unless being guaranteed 2% of the switching market by a start-up business? Either they are so massively inefficient that the channel management cost argument holds water somehow; (highly implausible) or more likely that the prospect of new sales held minimal attraction for them (Opportunity) but the “idea” might just work which makes the new channel dangerous (a Threat) to their retention business and so they set up hurdle rates (thousands of switches) and administrative barriers knowing that a comparison business will probably wither if they don’t sign up with the Big 6 supplier.

Either way our experiences would suggest that the CMA might have quite a lot to go at as they take up their new role. If they don’t succeed then, to paraphrase Orwell; “imagining the picture of our energy future you should imagine a size 6 utility boot stamping on the windpipe of competition – forever.”

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