How to use non-traditional business models in the energy industry.

The world of energy and business are going through interesting transitions.

The growth in renewable energy generation has caused problems for operators of traditional generation such as coal, who have struggled to compete. Nuclear power, on the other hand, has been either faced with policy challenges, such as Germany’s decision to phase out its fleet, or Japan’s decision to turn off its generators following the Fukushima disaster.

Almost every business needs electricity. It is hard to imagine what one could do without any form of power.

And power is the operative word here. For a long time, control of the electricity system was control of power, and the institutions that delivered power had power over the businesses that relied on them. This reality is shifting, especially in the UK, where we are moving from a single source of power to multiple sources. This means that power is shifting from generators to consumers.

The energy industry is becoming customer-centric

Customer centric.png

Previously, you were supplied grid power by the local network and billed by your supplier. There was only one source of power, and it came through the wires connecting you to the local grid.

Now, you have more options. For example, you could generate some of your own power using solar panels. Or you could have a wind turbine. Alternatively, you could still get your power through the grid, but instead of having to negotiate a price with your supplier, you could agree a price with another generator and pay that price instead. Finally, if you are able to control the way in which you use power, then you could benefit from selling that flexibility to people who need it.

Because you have more options, suppliers have to compete for your business as never before. The result of this is that business models in the world of energy are going from linear models, where you have one contract with a supplier, to a customer-centric model, where many suppliers compete to give you multiple options for how you get your energy.

In this scenario, you move from being a consumer of electricity to a consumer of a bundle of power related benefits. It’s a more complicated set of choices, but there is more power in your hands than there was previously.

Suppliers recognise this and are changing the way in which they work. In 2016 E.ON announced that it would split its business into two. 40 GW of fossil-fuel fired and hydro generating assets would be moved to a new company called Uniper, while E.ON would build its business around renewables, energy efficiency and network services. It’s rival, Npower, also announced similar plans.

The energy industry is talking about the need for new business models

People in the industry talk about the need for new ways in which energy businesses need to operate – so called Non Traditional Business Models or NTBMs.

In 2015 Ofgem published a discussion paper to ask how NTBMs could impact the energy system. The responses to this paper suggested that NTBMs could achieve outcomes like:

  • Increase competition.
  • Give more value to consumers.
  • Engage consumers more.
  • Make the system more resilient.
  • Result in lower bills.
  • Reduce environmental impact.
  • Improve the quality of service.

The NTBMs that were suggested, however, were not new. They have been around in some form for a long time. Key issues included more flexible capacity from generation, storage and demand side response and more local generation. The other issues raised around diversity, innovation are a little fuzzy and good consumer protection and service is simply good business.

Ofgem’s definition of a NTBM is:

“Business models offering new products or services, or new ways of delivering these, that are different to those traditionally provided in the existing energy market. Those offering such services have diverse motivations (technological, financial, social and environmental) and ownership arrangements, and operate at various scales.”

This, slightly counter-intuitively, defines a non-traditional business model as one that is not traditionally provided in the existing market. So, it’s not that the model is not well known, it’s just that it hasn’t been tried yet – perhaps because the regulations make it hard or the structure is not understood by consumers yet.

How many business models are out there?

A business is a system. In its simplest form, you can represent a system as something that takes things in, transforms them, puts things out and changes how it does things based on feedback,

System model.png

If a business does this then a business model tries to figure out how to get value from this activity.

There are three key players in this ecosystem: producers, middlemen and consumers. Perhaps the second lot should be called middlepeople if one wants to be politically correct…

Consumers pay for everything. The way in which they pay is the business model. This article in the Harvard Business Review goes into the idea of a business model in more detail and has a number of different definitions.

It seems to me, however, that the way in which consumers pay for something is the essence of a business model.

The same article has a list taken from a book by Mark Johnson called “Seizing the White Space”, where he lists a number of forms of basic business model. This list is shown in the picture below, adapted slightly.

I think you could argue that there is a difference between how you pay and what you pay. The first is more like a model and the second more like a strategy or tactic.

That may be a little pedantic, but the picture shows the first kind in red and the second in green.

Readers may disagree – but the point is that these are some of the standard, and hence traditional models that one can identify in businesses now.

Business models.png

The models are based around the idea of the three players: producers, middlemen and consumers. The main models (in my opinion) then are:

  1. Freemium: Where you get some things for free and have to upgrade for others, like with LinkedIn.
  2. Advertising: Google has possible created this category online but this started a long time ago with newspapers that carried adverts to lower costs to consumers.
  3. Direct sales: Selling direct to consumers – the model that Dell pioneered with computers.
  4. Pay as you go: Pay for what you use based on a rate and metered usage – the standard energy company charging structure.
  5. Product to service: There are terms now like software as a service, data as a service, infrastructure as a service.
  6. Subscription: A popular model for content – magazines have done it this way for a long time.
  7. Royalties: Paying a fee to someone for what they have or for access to who they know.
  8. Brokers: Facilitating transactions between two parties.
  9. Auction: One of the oldest models around – from cattle auctions to Ebay.
  10. Fractionalization: Timeshares to NetJets – making it possible to have shared use of something.
  11. Leasing: Making it possible to use something for a time and then move on without ongoing commitment.
  12. Bartering: Exchanging something of value – for example permission to email you in exchange for useful content or a sample product.

The price strategies on the other hand have to do with trying to work with the costs of the operation. The razor / Kindle strategy used by Gillette and Amazon is to sell products such as a Razor cheaply in order to make money on large numbers of low margin products, such as razor blades or sell products such as the Kindle cheaply to make money on higher margin products such as books. Benefiting from lower costs through economies of scale, standardising products to reduce operating costs and getting paid by consumers before you have to pay suppliers are cash flow and pricing strategies – but are they business models?

Summary – more models that could be used in the energy business

Going back to the HBR article, the one that most applies to the energy business is the Pay as you go model, where you pay for what you use. There is already a lot of innovation in how much you pay, as there is a traded market in the UK and the price you get depends on how you manage your portfolio.

The idea of flexible energy systems through the use of generation, storage, demand side response and more local generation are all technological innovations rather than business models. Batteries have only recently become good enough to consider for grid scale applications. Demand side has become possible through cheaper interconnected equipment and falling networking costs. Local generation is possible through falling costs due to a push globally to create a low carbon economy.

Which means there could actually be a huge amount of potential to apply real NTBMs to the industry.

Take bartering for example. Let’s say you have a site that runs a process that generates waste heat and a site nearby that needs heat but also produces excess electricity. Perhaps there could be a trade there.

Auctions have been used in the energy business before, but perhaps they could become more innovative. Traders already trade energy, but perhaps it might be possible to make it easier for end users to put in bids for energy at certain times.

The response to Ofgem’s paper publishes a number of ideas that came back from energy market participants. They do seem, however, to be relatively traditional still, driven either by technology or a rearrangement of responsibilities between parties. Could any of the models listed above be useful as well?

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