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The Capital Structure of Water Companies

The Oxera report on capital structure, prepared on behalf of Ofwat, examined the question of how high levels of gearing affect companies' cost of capital, the potential social consequences of highly leveraged utilities, and how regulators should respond in arriving at their gearing assumptions at periodic reviews.

The study explored the various theories of capital structure determinants, the drivers of increased gearing in water, and the potential effects on the cost of capital for those companies pursuing the restructuring route. On balance, the study urged caution, and that, in making assumptions about the capital structure of companies, regulators should not place too much weight on recent water company restructurings.

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Clearing the air: public transport and cleaner vehicles

This report provided an industry reference on the environment, fuels, and vehicles and support mechanisms for the UK public transport sector.

It covered new low-emission engine and fuel technologies in the bus and rail sectors, and included:

the current state of play regarding emissions reduction across the transport sector;

modal shift and technological change to meet lower-carbon policies;

EU and UK environmental policies, including those on low carbon, air quality and noise, for bus and rail, as well as the effects of private vehicle policy development and voluntary agreements;

environmental reporting by public transport companies;

a technical review of cleaner fuels and engine technologies (including exhaust after-treatment, electric and hybrid engines, and hydrogen and fuel cells);

EU and UK support mechanisms, and UK fiscal policy, including discussion areas for policy and change.

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Regional renewable energy assessments

Oxera reviewed the economic and technical aspects of the UK regional assessments of the potential for renewable energy generation in 2010 for the Department of Trade and Industry and the Department for Transport, Local Government and the Regions.

In particular, we examined whether the proposed regional targets in aggregate were sufficient to meet the government’s target, and whether the assumptions made were consistent and reasonable, with consideration by Arup Economics and Planning of the planning issues.

Key conclusions from the report were that the 10% Renewables Obligation target is more or less reached under the high targets proposed in the regional assessments, but not under the low targets. Half of the total of the regions’ assessments consisted of on- and offshore wind, whereas landfill gas and biomass make up most of the remaining half. However, those technologies were also the most problematic in terms of obtaining planning consent.

A more positive planning system would assist the achievement of the national target. The planning system may take several years to incorporate the regional targets into forward plans, and hence into development control decisions. Nevertheless, there were actions that government could take which would have an immediate effect, and which would also deliver improvements in the future.

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Flood defence spending review

Oxera was commissioned by the Department for Environment, Food and Rural Affairs (Defra) for a steering group consisting of the Treasury, the National Assembly for Wales, and the Environment Agency to review the arrangements for funding flood defence in England and Wales.

The first study of its kind for over a decade, the project collated data from across government, evidence from interviews and published literature, and prepared new economic analysis from first principles. It contained a comprehensive description of existing flood defence funding and operational arrangements, and presents alternative funding arrangements together with a discussion of their pros and cons. The steering group said about the report:

[we] were grateful to Oxera for the deep analysis which underpins their report. They explored a number of issues in depth and, owing to their comprehensive and informed study, the Steering Group’s task in identifying and evaluating potential candidates for further funding options was facilitated. In addition, Oxera’s findings and views on the current funding arrangements have provided useful material for the Group in producing its assessment of the existing institutional arrangements for flood and coastal defence in respect of both funding, strategic management and operations’. (Defra (2001), ‘The Flood and Coastal Defence Funding Review: Report to Ministers by the Review Steering Group’)

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Fundamental review of the generic drugs industry

The Department of Health commissioned Oxera to undertake a fundamental review of the supply and distribution of generic medicines. This review arose from the Department’s concerns about the generic medicines market in the UK, and, in particular, the significant price rises in an unusually high proportion of generic drugs during 1999. The aim of the review was to provide the Department with remedial and radical options for reforming the existing market structure and government procurement arrangements, in order to deliver the Department’s objectives.

Oxera undertook a high-level analysis of the generic manufacturing and supply industry, and the wider pattern of relationships for wholesaling and retail of medicines for the National Health Service (NHS). This involved substantial primary research, including around 200 interviews with companies and regulators in the UK, the USA, the Netherlands and New Zealand.

The study covered a detailed investigation of ownership links, an analysis of operational characteristics at all levels of distribution and supply, and an examination of how the NHS reimbursement arrangements and distribution margins affect participants’ behaviour. It explained the incentives at each stage in the distribution chain and considered how these are changing through time. The first stage of the report developed a set of remedial and radical reform options for the distribution and supply of generic medicines. The second phase focused on investigating the working arrangements for the preferred options.

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Impact of stamp duty on the real economy

The London Stock Exchange commissioned Oxera to examine how the abolition of the UK stamp duty on equity transactions would affect the cost of capital and investment levels of UK publicly listed companies. The report drew on a variety of methodologies to estimate the potential impact of changes in the stamp duty regime.

In particular, it incorporated:

available academic literature on the impact of transaction costs on share prices and the cost of capital, as well as the relationship between the cost of capital and investment;
new research conducted by Oxera on the impact of changes in the stamp duty regime;
knowledge acquired through interviewing a large number of practitioners.

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External efficiency review of utility regulators

HM Treasury commissioned Oxera and WS Atkins for this study. This efficiency review examined the four utility regulators in Great Britain—the Office of Gas and Electricity Markets (Ofgem), the Office of the Rail Regulator (ORR), the Office of Telecommunications (Oftel) and the Office of Water Services (Ofwat). The review focused on inputs (procedures, processes and resources) rather than outputs (regulatory effectiveness), with three specific objectives:

to examine the way in which the regulators define, plan, and prioritise proposed areas of work from which programmes and projects are developed;
to evaluate the management of programmes and projects from inception to closure;
to assess their overall cost efficiency and that of support functions, such as corporate overheads, human resources, finance, information technology/ information services, library facilities, procurement/use of consultancies and press-office functions.

The study involved process benchmarking, in terms of the management, planning and monitoring of the regulators’ work, and metric benchmarking, in terms of the costs of common support function. In addition to obtaining data for analysis from information requests of the regulators, Oxera obtained views from the regulators’ various stakeholders (eg, regulated companies, consumer representative bodies, environmental lobby groups, and the City) and to rate the regulators against a set of 29 criteria. To provide external benchmarks, information was collected and comparisons undertaken of the costs, staffing, and management of support functions in comparator organisations, including other UK and overseas regulators.

Following this review, recommendations were given aimed at improving the performance of the regulators where it was identified as being lacking.

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Risks and regulation in European asset management: is there a role for capital requirements?

In April 2000, Oxera, with Professors Julian Franks and Colin Mayer, produced an independent research report commissioned by the European Asset Management Association on capital adequacy requirements in asset management businesses across Europe.

The report, published in January 2001, aimed to identify the main sources of operational risk in asset management and examine the appropriate regulatory response. There is considerable debate on the ability of capital requirements to provide investor protection against operational risks. In November 1999, the European Commission published its proposals to revise the capital adequacy requirements already imposed on credit institutions and financial firms. More recently, the Basel Committee on Banking Supervision published a second consultation document proposing to implement an additional capital charge for operational risk for banking groups.

Details of the structure and regulatory framework of asset management industries in eight countries (France, Germany, Ireland, Italy, the Netherlands, Spain, the UK and the USA) are contained in the report, together with a review of relevant academic literature. Interviews were also held with asset managers and regulators. Information on losses arising from operational failures was obtained through a survey of 39 asset managers.

The report concluded that the main sources of operational risk in asset management are informational asymmetries and fraud, not, in general, systemic risks. These market failures should be corrected directly by a combination of disclosure, auditing, enforcement, insurance, custody and trustees, rather than indirectly through capital requirements. The report also highlighted the impact of imposing capital requirements on the competitiveness of European asset managers, compared with their counterparts in the USA, where no capital requirements are imposed at the federal level.

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Policy, risk and science: securing and using scientific advice

The objective of this study was to identify good practice in securing and using expert scientific advice for policy-making. Co-sponsored by eight government bodies, the study offered recommendations for improving the quality of scientific advice received by government and used in policy development.

Although scientific methods are well established and scientific theories successfully inform policy decisions, this study was concerned with weak evidence, novel and incompletely known risks, hypotheses and gaps in data.

On the basis of a literature review, case studies and informal interviews with a wide range of interested parties, a set of recommendations was formulated in the form of:

principles—these are fundamental and comprehensive;
a model process—the clearest way to secure scientific advice that is fully compatible with the principles;
supplementary notes—these include detailed recommendations for some aspects of the process.

The report, published by Health & Safety Executive, called for significant changes in the operation of existing mechanisms, which should result in more robust advice. This should lead to more informed policy decisions and a system of policy development with a higher level of public confidence and the support of the scientific community.

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The wider impacts of rail and road investment

Appraisal of the environmental impacts of rail schemes for a client in the rail industry

Drawing together the work of academics, government and others into a single reference guide, this appraisal of the environmental impacts of rail schemes contributes to the debate on the appropriate level of public support for rail services. It contains an introduction to future transport problems, a guide to assessing public support for new transport services, and estimates of the financial and environmental costs of road and rail passenger transport. It also includes analysis of the marginal costs of travel by road and rail in the long run—the appropriate measure of the cost of meeting future demand.

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