Water sector leaders have expressed concern that the next price control will represent an evolution of the current regulatory regime as opposed to the step change needed to make long-term goals achievable.
At the launch of Utility Week’s major new report PR24: Shaping and preparing for the price control, produced in association with PA Consulting, industry leaders questioned the rationale behind five-year periods and warned it was “already too late” for PR24 to represent a radical departure from the current framework.
The report sets out the hopes and fears of the water sector for the next price control, which will cover the 2025 to 2030 period, setting out their thoughts on resilience and climate change, performance commitments, affordability and innovation, among others topics.
It shows universal backing for Ofwat’s longer-term approach to asset management periods (AMPs), which requires companies to take a 25-year view. However, it also highlights concerns about a lack of flexibility in spending programmes as well as certainty of spending guarantees across AMPs.
Ofwat said AMPs should be viewed as building blocks within a longer-term plan but sector leaders taking part in a Chatham House roundtable to launch the report seemed wary about this ambition, with the framework being called “very restrictive” by one insider.
They said: “Ofwat has said there will be long-term thinking but I’m sceptical at this stage to see whether that is genuine aspiration of the regulator or whether that’s a moniker while we’re still stuck in five year chunks.”
Another questioned the legitimacy of thinking in five-year sections when that is far removed from how customers view water and wastewater services and therefore suggested the system was “crying out for wholesale reform”. However, they added that they did not expect to see that at PR24, but perhaps at PR29.
Others agreed total reform was required but stressed this would take time. “PR19 was a missed opportunity,” one insider said. “That’s five years gone and PR24 could be the same if the regulatory framework is not ready.”
Another said: “I worry that the direction for travel for PR24 doesn’t address the current issues. PR24 does feel like an evolution of PR19 rather than a significant step change to solve some of the problems we face.”
The report also gauges views on the thorny issue of the weighted average cost of capital (WACC), which was a key tenet of appeals to the Competition and Markets Authority (CMA) by a record four companies at PR19.
Cuts to the WACC became a hallmark of PR19 that enabled bill cuts across the country but was criticised for making the sector less attractive to investors.
In the report Lisa Gahan, director of regulation at South West Water, says: “Investors want to work with and invest in responsible companies and if Ofwat gets this right then it will continue to attract responsible investors into the sector. What we don’t want is methodological changes that suggest rates of return lower than the market suggests. It’s an important parameter to get WACC right.”
The scale of what must be accomplished in the coming decades – including the sector’s self-imposed commitments to reach net zero emissions and reduce leakage rates by one third by 2030 as well as significantly reducing harm from combined sewer overflows (CSOs) – will all take significant investment. The report highlights the need to align targets in AMPs with the Water Industry National Environment Programme (WINEP), Water Resource Management Plans (WRMPs) and other environmental expectations.
Jo Harrison, director of environment, planning and innovation, says in the report: “The critical thing for the industry is having all our regulators in agreement. We need to have real clarity on the pace of change the country wants to see – this is the biggest thing we face as an industry.” Compared to leakage, which saw a real performance step-change when clear targets were introduced, she suggests outcome delivery incentives (ODIs) should address specific challenges faced by the sector.
However, speaking at the roundtable, one commentator said they saw “a big disconnect between what Ofwat considers important and what we’re hearing every day from stakeholders and customers”.
Participants suggested the sector had the will and interest to make improvements for customers and the environment through innovation, collaboration and with the use of nature-based solutions but feared regulation could hinder efforts.
“We will probably be in for a rocky ride, so we should strap ourselves in for the next five years,” one water company executive said. “It’s unlikely we’ll see the change some of us hope to see, which will be painful and demoralising for industry colleagues who want to do the best for customers and the environment.”