Resource
For Business

Fixed or index: Which energy product is right for you?

Bill & Rates
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Sophia Cowles
December 5, 2023
Resource
For Business

Fixed or index: Which energy product is right for you?

Bill & Rates
No items found.
Sophia Cowles
December 5, 2023
Table of contents

Energy costs are something that can’t be avoided. But if not managed correctly, energy can become a shockingly large portion of a business’s operating budget. More than one in three businesses report that energy is one of their three biggest expenses. 

While it may feel like your business is beholden to unpredictable energy costs, if you operate in a deregulated energy market, it’s possible to get this expense under control. Doing so requires understanding how different energy plans work and what is available to you.

As you navigate the energy market, there are two primary energy products that you are likely to run into, each with its own benefits and challenges. There are fixed-rate plans, which provide predictable pricing and variable pricing, which is tied to the real-time fluctuations of the energy market. Choosing which is right for your business will depend on your appetite for risk.

Making a choice about your energy plan 

As a business owner, you may assume you are locked into the electricity rates that your local utility company offers. However, there are alternative options available in a dozen plus states across the United States that have deregulated their energy markets, breaking up regional energy monopolies and allowing customers to buy from alternative providers. 

The following states have deregulated energy markets, according to the U.S. Environmental Protection Agency:

  • Connecticut
  • Delaware
  • Illinois
  • Maine
  • Maryland
  • Massachusetts
  • New Hampshire
  • New Jersey
  • New York
  • Ohio
  • Pennsylvania
  • Rhode Island
  • Texas
  • Washington, D.C.

In these states, businesses now have options when it comes to choosing an energy supplier.

While it may seem like a major change, switching your energy provider in a deregulated market can be quite simple. If you are currently on a default supply rate plan from your utility company, you can likely switch providers at any time. If you are already locked into an energy contract with a provider, you may have to wait for that agreement to expire or face paying an early termination fee for exiting the contract early.

If you are unsure if you are operating in a deregulated energy market or have questions about navigating your options for retail energy providers, you may want to consider working with an independent energy advisor. These are experts in the space who can help you navigate the market and make a determination as to which supplier and plan makes the most sense for you. 

At David Energy, we help businesses optimize their energy spend through identifying cost drivers on your monthly energy bills and helping you choose the energy product aligned with your business needs. Beyond acting as an energy advisor, we offer software that optimizes our customers’ energy usage through thermostat management and identifies key opportunities to drive down consumption and overall energy spend across business locations.

One big aspect of choosing the right energy product is understanding the different risk profiles each has and how that aligns with your needs. That includes options for paying for electricity at a fixed or variable cost. These options have benefits and risks associated with them, so it is important to understand what these terms mean and how they might impact your business.

Fixed rate

A fixed rate electricity plan is an option offered by energy suppliers that allows you to lock in a predictable (fixed) rate for the duration of the contract. Typically, these agreements will be 12 to 36 months, according to James McGinniss, CEO and co-founder of Daivd Energy. 

For the length of that agreement, the business will pay the same rate for electricity no matter how the market fluctuates. This provides businesses with a predictable cost so they can reliably budget for their energy costs every month. This makes forecasting simpler by removing a major market variable and offers consistency across each billing cycle.

“It’s like if you went to a gas station and said, ‘I’m going to pay you $5 per gallon for the next two years,’” McGinniss explains. You, as the customer, are no longer concerned nor affected by price spikes or drops. 

Locking in at a fixed price has a cost. Think of it as paying a health insurance premium to set your deductible. You are guaranteeing that your cost will not exceed a certain level, no matter what happens within the broader energy market.

While stability is welcome for some businesses, there are risks associated with this energy product. You may agree to a price that ends up being higher than the market rate for some or many months of your contract. You are also locked into that price for the full length of the contract, so you miss out on opportunities to come to an agreement for a lower rate if prices experience a downswing. 

Indexed 

While a fixed product allows you to lock into a rate for an extended period, indexed electricity products are subject to the market price for energy. 

This means that any and all variables impacting the price of electricity will also affect your monthly bill. Things like the cost of natural gas rising, global geopolitical events, natural disasters, and more can impact your bill even if your consumption remains flat. It can make it difficult to forecast future expenses, and the lack of billing consistency can present a challenge for businesses. 

While indexed pricing leaves you exposed to market fluctuations, it also provides much more flexibility. Businesses will pay less when the market price decreases, and have the ability to lock into a long-term contract at any time if they choose to. 

Block + Index 

There are a number of specialized product offerings available through energy providers that the utility cannot offer you. The most common is a “block and index.” 

This option allows you to lock in a portion of your energy costs, guaranteeing the rate that you will pay for that usage. Your remaining usage will be tied to the index price, meaning you will pay the variable rates based on the market costs. It is a hedge of sorts, providing some protection against fluctuations while also maintaining some exposure to market prices. 

“I think of this like a deductible for health insurance,” McGinniss says. “You can have a low deductible by paying a higher premium, but if you don’t think that you are going to get sick often, you may be willing to take the higher deductible.”

How do you know which rate is right for you? 

Picking the energy product right for your business depends on a number of factors. Businesses should consider their risk tolerance and how much they value consistency and long-term stability. If that is particularly important to your business, it may be worth the premium that you will pay to guarantee your energy costs.

If your business can handle volatility, you may ultimately benefit from an indexed plan. In general, indexed pricing tends to be cheaper over the long term — but it requires the ability to withstand price spikes caused by elements out of your control, such as energy shortages and natural disasters. 

McGinniss says that businesses should consider a fixed price as protection against a future rise in prices. If you think the cost of energy is going to go up, it makes sense to try to guarantee the current rate for the long term in order to avoid the expenses you’d face paying rising market prices. There may be a premium for getting that guarantee now, but you can ultimately end up paying less over the term of the contract. 

If you believe prices will be lower in the future, though, it may be worth considering alternative product options. Indexed pricing may appear riskier on the surface, but it can also be a form of price management. With an indexed plan, you can also always lock into a price if they reach a low point.

If you operate in a deregulated market, you should definitely consider switching to an energy supplier, and working with an independent energy markets advisor like David Energy can help take the risk out of it. David Energy currently partners with businesses with locations in New York, New Jersey, Massachusetts and Texas, with more states coming soon. 

Book a no-commitment meeting to learn how David Energy can help you choose the right energy plan for your business.

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