A number of water companies are appealing Ofwat’s pricing review

 

Ofwat’s review of its price regulation for water companies has led to the companies appealing its decisions. They are basing their defence on a range of key points.

Ofwat is the independent economic regulator for water and sewerage services in England and Wales. It regulates the prices and service packages that customers receive. The price control review is conducted every five years, with the aim that the regulator agrees with each water company how much it can charge for its services over the next five-year period.

Ofwat considers a range of issues when assessing whether companies are fulfilling their duties to customers by keeping bills low and continuing to deliver sustainable services. It uses the following specific guiding principles to make its decisions:

  • targeted price controls;
  • proportionate price-setting;
  • effective incentives;
  • ownership, accountability and innovation;
  • transparency and predictability;
  • flexibility and responsiveness.

Ofwat’s final determinations were published on 16 December 2019. It challenged companies to cut average bills by 12% (about £50) before inflation between 2020 and 2025. This stemmed in large part from a £6 billion efficiency challenge to company costs, but also the lowest allowed return on capital (2.96% CPI-real) since the industry was privatised some 30 years ago.

A number of water companies—including Bristol Water, Northumbrian Water, Anglian Water and Yorkshire Water—are appealing Ofwat’s decisions, and their case will now be referred to the Competition and Markets Authority (CMA) for a final ruling. The CMA’s role is to form its own conclusions on the price controls for each company. An independent panel of members will be appointed to review Ofwat’s decisions. At the end of the review the CMA will publish a report with its final decision on Ofwat’s price controls, including any changes that it deems necessary.

The three main contentious issues in the sector relate to:

  • finance;
  • cost efficiency;
  • outcome delivery incentives (ODIs).

The main points that the companies are alleging are that:

  • the decisions would sacrifice long-term investments in favour of short-term targets;
  • they would jeopardise the resilience of the regions that the companies are based in, especially considering climate change pressures;
  • delaying investments in infrastructure in the regions will harm customers through higher prices in the long run;
  • the resilience of the companies will be jeopardised by these changes;
  • there are technical issues around how to finance the companies.

 

What will the future bring?

Ofwat has challenged the water companies and demanded a set of new, ambitious targets for both customers and long-term investments.

While many companies have accepted Ofwat’s final determinations, there has been significant pushback from others. Indeed, this is the first time since 1995 that water and sewerage companies have referred their price controls to the CMA. This is also the third time that Bristol Water (a smaller water-only company) has sought a referral to the CMA.

An Inquiry Group of independent panel members will be appointed within the CMA, supported by a team of staff. While the process normally takes six months from the formal referral date, this can be extended if necessary. The CMA’s final ruling will not only set the tone for the future of water regulation in England and Wales, but will also affect decisions by regulators in other sectors and geographies.

 

Contact:
Partner, Alan Horncastle
alan.horncastle@oxera.com

Posted 17/02/2020