Ofwat has been called on to address the trade-off between households facing financial hardships and the need for water companies to invest for the future.
Speaking at the Westminster Forum on priorities for the water sector, Richard Emmott, director of corporate affairs at Yorkshire Water described the current dynamics between companies and regulators as “probably the most complex since 1989”. The investment necessary to improve environmental performance, achieve net zero and ensure resilience of supply is at odds with surging inflation and squeezed household incomes.
“We face a huge challenge of affordability at PR24 and again at PR29,” Emmott said. “The question we need to ask is how will the regulatory system cope with these dynamics and manage some of these tensions?”
The scale of investment needed to meet the challenge of reducing harm from storm overflows alone could total more than the industry’s entire environmental investment for the past 25 years, he noted.
He said it was important to focus on what customers want and are willing to pay for, which according to CCW and Ofwat’s recent research would mean prioritising issues that impact households directly over environmental improvement.
Emmott said the strength of the system over past 30 years has been consistency and predictability with investment that could be planned over a long period based on legislation, but this has changed.
“In the last two years alone the demand for CSO investigations comes from a very different source – effectively citizen regulation empowered by access to the industry’s own performance,” Emmott noted.
“This is a dynamic which does not respect five-year periods and there’s no reason to expect it to reverse, rather we can expect it to increase and that’s a wholly positive thing,” he said. “It’s clearly too late to re-think how regulation works ahead of the next price review as the wheels are well and truly in motion. It is however time to start asking the right questions now that might help to turn the super tanker ahead of PR29.”
The “right questions” Emmott suggested are around fairness of consumer charging systems, how to allow more flexibility to respond to demand, what is the right structure to generate the necessary investment and balance the need for returns with customer fairness.
This, he underlined was not a critique of the sector or its regulators but a call for “a more collaborative dialogue” between companies and regulators in the best interest of customers and the environment.
The call to extend regulatory cycles beyond five years was also mentioned by Ofwat chair Jonson Cox who defended the current model. He said during discussions around Thames Tideway he had been told that “investors rather liked our five-year review, because a lot changes in five-years. We will be sticking with five years but with an increased look to the next period and the longer term.”
Calling for coherence in the ever-changing landscape of expectation was Noel Beale, director of regulation and competition at legal firm Burgess Salmon, who said from a legal perspective and for investors, clarity was essential.
Legally, Beale said PR14 and PR19 were “game changers” in regard to the rules the sector has had to comply with. “We see that again now with Ofwat using new language and talking more about long-term, working in new ways, new culture, more collaboration and adapting for the future, being agile. These are all new things companies are expected to take on board.”
Ofwat has noted the challenge ahead requires transformation, but Beale argued this was just the latest in a set of transformations the sector has undergone.
“From a legal standpoint and for clarity for investors whose money we’re talking about, we need clarity from regulators, which is difficult when we all accept that the goalposts keep moving,” he said. “The PR24 methodology needs to really provide that.”
The Water Industry Act, which lays out Ofwat’s responsibilities, does not Beale argued, provide adequate specifics to measure whether or not companies are fulfilling their duties in a more dynamic environment than when it was written in 1991.
“We’re looking to the regulators to define what some of the specifics are for how we assess whether companies are doing their jobs. Companies have to trust the regulator to provide appropriate levels of certainty around setting the rules and then apply them in what are ever changing circumstances.”
He said the emphasis on change, innovation and collaboration are “all great, but not entirely clear”.
“That falls short of being ok in a world where we’re talking about billions and billions of pounds of investment to make the changes required to protect consumers, the environment and to deliver services.”
The PR24 draft methodology must make clear what is required for the next AMP and beyond in a way that is “clear, fair and achievable”, Beale said.
He added that: “Uncomfortable as it is to say, Ofwat doesn’t always get it right. We know from the companies who challenged Ofwat’s PR19 determinations at the CMA which had quite different views on a number of aspects.”