Insight - The power to go against the tide

Time will have to write the final judgement on the wisdom, or otherwise, of Scottish Power’s recent announcement that it would henceforth stick to its core competency, the energy game. But for now its move just looks a very bold one – especially as the rest of the sector has been assiduously chasing down the multi-product, up-selling and cross-selling path blazed – with considerable success, according to the analysts – by Centrica.

Prior to its unexpected announcement, Scottish Power had pushed the multi-product boat out a reasonable distance. At least two projects of note come to mind. It had invested considerable amounts of time and money in alliance with the Royal Bank of Scotland, providing an internet portal for small- to medium-sized businesses that looked promising. It was also exploring a partnership with its telco subsidiary, Thus, that would bring telco services to Scottish Power’s customer base.

However, the company’s deputy CEO and former finance director, Ian Russell, who assumes the CEO position in April, announced that to do the multi-product job properly, particularly in the internet space, the company would be in for a spend of “hundreds of millions of pounds”. This money, he said, would produce better returns if lavished upon Scottish Power’s core business instead.

Russell has taken a hard-headed and courageous business decision. But it is tough to pull against the tide, particularly when one has already paddled rather hard with it for a while – and there are many questions.

Nick Pink, a senior analyst with UBS Warburg, who specialises in the utilities sector, is impressed with the move. It fits with UBS Warburg’s view that utilities companies which are moving into retail face a clear choice between getting bigger and better at this business or getting out of it.

Scottish Power’s problem, he points out, is that there is a real downside to being a one-product utility company. If energy is all you have to sell, then by definition, the rest of the pack are going to swarm down upon your customer base to provide them with everything else. If they get a good return from that, there is nothing to stop them attacking your one product area of expertise with deep discounts paid for from the margins gained from the cross-selling exercise that you have rejected. Ergo, you wind up with a severe case of churn and are trapped into competing on a commodity price basis.

Even if you don’t bleed to death, you are going to have a hard time proving to the City that it would be mistaken to down-value your customer base rather sharply. At Centrica, customer value might be climbing towards the #500 per person mark. But that of a lone product utility could well slide downwards to the #70 per person level and below.

Faced with that kind of decline, Pink says, many boards would opt to sell the business while they could still get a decent price per customer.

This does not, of course, mean that one should expect Russell to put Scottish Power up for sale – but it does illustrate the strength of the tide he is rowing against.

On the plus side, the company recently won a $70m increase in rates from the Utah regulator to solve pricing difficulties in its US subsidiary, which possibly shows what focusing on one’s strengths can achieve.

Nick Fisk, supply finance director at Yorkshire Electricity Group confesses to being surprised by Russell’s move. “One cannot argue with the idea that, in the short term at least, they can probably get better returns from spending on their core business. But the plain fact is that in this game your customer base is worth a lot more if you can make them loyal.

The only route to do this is to sell them more. A single product strategy is ultimately a very high risk strategy,” he says.

Fisk is astounded at the sums Scottish Power seems to feel that it would be necessary to spend to achieve a multi-product goal. “It goes to show that when you get two large organisations like Royal Bank and Scottish Power collaborating, the big team approach can generate high costs. We are confident that it makes sense for us to add product to our portfolio, and we know we can do it by alliances, at a fraction of the sums that Scottish Power had in mind,” he says.

How long will it be, one wonders, before we find out who is right?