How Perceived Risk by Consumers Effects Market Size

December 27, 2019

Last week, the below tweet came across my feed asking why retail energy choice has struggled to gain traction in its first two decades. 

Has anyone written a good piece on why America's (fitful, scattered) efforts at retail electricity deregulation have proven such a flop?

— David Roberts (@drvox) November 2, 2019

There are several reasons why consumer retail energy choice never exploded like regulators had planned, but for me it comes down to the two:

  1. Most states have a “default” choice that is the utility itself, so if a customer takes no action nothing changes (inaction = no risk of losing power)
  2. Customer fears losing power if they make the switch or being moved down the list to be turned back on during outages (action = risk of losing power)

That’s a double dose of bad news on the risk front if you are trying to get customers to switch.

If you are building any consumer product in critical sectors like energy, healthcare, insurance, and maybe even real estate, the customer’s perceived risk MUST be lower than the value they derive from the use of your product.

The Effect on Market Size 

In our retail energy example, if a customer switches providers they are likely to save somewhere between $5-15 per month depending on their circumstances.  In most cases, that value is simply not enough to overcome the fear of losing power or being de-prioritized when they do lose power.  

So what does this mismatch of risk and value created do to market size?

Only 15 states are deregulated energy markets, but those states cover roughly 35% of the US population or roughly 115M people.  I prefer to size markets from the bottom up, but those numbers are never as large as the top-down approach most pitch decks include. 

If we use a top-down approach and assume the average customer is worth $40 annually to a marketplace then the market size is ~$4.5B

Now for the catch, only ~40% of eligible customers have ever switched and the average customer only switches approximately once every 18 months. 

  • $4.5B * 40% = $1.8B
  • $1.8B * 50% (half of customers aren’t switching every year) = $900M

Obviously, $900M is a far cry from the $4.5B most founders believe is eligible for capture annually. 

This market is one that we regularly see entrepreneurs want to attack because of the $4.5B figure, but the structure of the market and psychology of the consumer quickly reduce the addressable market. 

Building product isn’t just about enticing numbers, in industries like energy where the product plays a mission critical role the structure of the market and consumer psychology matters just as much. 

Are there other industries like this?  How does this effect your customer?  How do you overcome it?

I’m curious to learn where else this principle of perceived risk and its affect on market size is at play.

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