With Ofwat due to publish its final methodology on PR24 next month, the debate over how regulation evolves to meet the fresh challenges facing the water sector is intensifying.
Wessex Water is one of those companies that raised its head above the parapet to suggest the current approach to price controls is long overdue for reform.
Utility Week spoke to Guy Thompson, director of environmental futures, and Matt Greenfield, director of regulation about what the company believes would bring better results for their customers, communities and the environment when business as usual will no longer guarantee the right type of much needed long-term investment.
“This is not about deregulation, it’s about better regulation,” Greenfield explains, acknowledging that as large monopolies with the potential to have a huge environmental impact – positive and negative – water companies need to be heavily regulated.
“The politics of the issues around environmental performance get conflated with what we’re trying to promote,” Thompson expands. “Which effectively is a recipe for raising environmental performance and raising the level of environmental leadership by the sector. But it’s also perceived to be a loosening of regulation and therefore, a step away from the traditional regime the Environment Agency (EA) thinks it needs to have in place.”
The EA’s own chief executive James Bevan has expressed the need to take advantage of the opportunity to update environmental rules since leaving the European Union to be more relevant to conditions and specific challenges in the UK.
Re-thinking WINEP
So what is Wessex proposing? Essentially a re-examination of the Water Industry National Environment Plan (WINEP) to focus on the outcomes that really matter to customers without being so prescriptive as to how companies achieve that, and for Ofwat to “level the playing field” for how funding is allocated in business plans.
All water companies are being invited by the EA to submit proposals by the end of this month to the WINEP. These are required in two formats: a traditional approach based on inputs and outputs; and an option for Advanced WINEP with outcomes that are predefined by the EA.
The WINEP methodology sets out that it is based on a comprehensive set of drivers and obligations, stipulating that water companies should plan their interventions with a mind on how they will contribute to the goals in the 25 Year Environment Plan. These are environmental, net zero, catchment resilience to flooding or drought, and how it could contribute to people engaging with and enjoying the natural environment.
Greenfield explains the reality of the WINEP is countless inputs and outputs specifying what to do, which might not actually translate to better water quality in rivers.
“We have some issues with the Advanced WINEP mechanism,” Thompson says, “The design the EA put in place essentially takes you back to inputs and outputs and cost benefits assessment for individual assets. The EA will need to work with companies who want to use Advanced WINEP as a mechanism to deliver better outcomes if we’re going to get value from using that mechanism for customers and investors.”
For instance, sector-wide targets to reduce nutrients at treatment works may not be the most appropriate measure in certain catchments, or could hamper carbon initiatives or add to bills. Wessex believes companies should be able to choose other more efficient approaches if they produce the same outcome – fewer nutrients entering the environment.
Wessex has piloted catchment permitting in its Bristol Avon catchment, where it holds the only permit of its kind, to reduce nutrients across the whole area. Thompson explains this was instead of installing new treatment processes at each asset in the zone to remove phosphorus, which would be costly and consume large amounts of energy as well as producing carbon and chemicals.
“Instead of that route, we negotiated with the EA to manage nutrients in the catchment with a single permit covering all assets, which spreads the required reduction for phosphorus across a number of sites. Individual assets are effectively given tighter permits at sites that either produce the most phosphorus, or are best able to contribute to overall reductions.
By doing that, Thompson explains, the overall phosphorus entering the catchment is reduced without having to build treatment assets at every site.
“The outcome is the greatest length of river improved by removing phosphorus across the catchment, but doing it in a more cost effective way.”
The EA introduced this as a mechanism at AMP7, but Thompson says because of the difficulties in obtaining a permit, Wessex is currently the only company with one in place.
Another nature-based solution used effectively by the company is at Poole Harbour, where Wessex is obliged to reduce the nitrates leeching into the harbour by 40 tonnes.
“Traditionally the EA would have insisted in us investing in a carbon intensive treatment process, with an estimated cost of £31,000 per tonne of nitrate removed,” Thompson say. “Instead, we worked with farmers to plant cover crops to keep the soil from being bare over winter to prevent leeching. By delivering that we have proved we can deliver the same outcomes with nature-based solutions at a cost of £9,000 per tonne of nitrate removed.”
The solution is 71% cheaper, has additional biodiversity benefits created through the cover crops and avoided carbon emissions of the treatment plant.
Having proven the efficacy of the approaches, the company came up with the Somerset Catchment Market via its non-regulated business EnTrade – of which Thompson is the director. He explains this is a mechanism to operate a market bringing together the farmers and landowners who could participate in nature-based solutions, with the beneficiaries of those schemes such as housing developers or a water company.
“Creating the market effectively brings the transaction costs down for individual organisations striking bilateral deals with farmers and generating a long-term revenue stream for farmers through land-use change such as wetlands, woodlands, rewilding to deliver for requirements such as nutrient neutrality for housing developments.”
From the pilot, EnTrade is preparing to go live with a platform for housing developers, which if successful Thompson says could lead to opening the market up for a range of buyers. Wessex could have the option to buy credits through that marketplace to meet its regulated obligations, if that is a more cost effective route to go down.
Setting blanket targets for all parts of the country through outcome delivery incentives such as for leakage is “totally bonkers”, according to Greenfield, as it could result in carbon generation or costs that are not necessary when more efficient approaches could be found to deliver the benefits in the catchment.
Levelling the playing field
Another key complaint from Wessex is that financial regulation currently incentivises capital expenditure (Capex) in business plans over operational expenditure (Opex), despite a move towards the concept of total expenditure (Totex).
Greenfield describes the Totex approach as sensible in principle and “probably the right answer”, but at present it’s not properly implemented.
“Companies are incentivised to put more Capex into the plan, because that earns a return and has the longest certainty over funding,” Greenfield says. This in turn makes alternative options such as investing in nature-based solutions that may have ongoing Opex less appealing to shareholders when approving business plans.
Wessex suggests putting those on a level playing field: “Any option should be equally attractive from an investors perspective to ensure the priority is finding the option that is best for the environment and society, whereas at the moment, that’s not the case.”
What’s standing in the way?
Greenfield describes two significant blockers that have appeared since the WINEP was proposed.
The first is nutrient neutrality targets to encourage homebuilding.
Government proposed for water companies with treatment works in protected nutrient zones to deliver phosphorus and nitrate reductions at sites serving more than 200 population, equivalent to the technically achievable limit.
“For Wessex,” Greenfield says, “That essentially means delivering 0.25mg phosphorus per litre of treated wastewater at almost half our sites, rather than doing all this great stuff that we could do with farmers or landowners, or anyone else. And we will have to do that by 2030 at every single site, so that’s a huge amount.”
Putting that into context, Greenfield says the investment to meet phosphorous and nitrate targets alone would match the company’s entire capital program of recent AMPS, which averaged £1.3 billion to £1.4 billion. Spending on water networks, carbon reduction, biodiversity, bioresources, reducing storm overflows would be additional to that.
Another change causing ripples is targets included in the Environment Act that propose set limits on phosphorus from treated wastewater. Greenfield says semantics are key here: “The biggest issue is the words ‘from treated wastewater’, because it will mean interventions required at all treatment works.”
A holistic catchment approach could garner the same outcome, but then not be compliant with the wording of the act. “The issue with these targets, is that nature-based solutions such as wetlands and reedbeds just aren’t powerful enough to deliver that kind of reduction,” Greenfield explains. This would mean traditional techniques that may not deliver on cost, carbon or add other natural capital value.
Removing the words “from treated wastewater” would allow the company to find the most efficient way to achieve the equivalent reduction across the catchment.
Thompson describes the Environment Act as “a big opportunity to be a framework setting out long term targets to drive private investment in environmental improvement” bringing together government objectives for the sector and environment and a time to move away from siloed schemes.
“Looking back to the strategic policy statement to Ofwat, it was all about delivering more environmental value at lower cost – efficiency has got to be the way to unlock that. This is a chance for government to build a growth agenda that creates new green jobs, new capabilities and creates long-term certainty for investors,” he says.