The Working Group set up by Ofwat to examine the main design features of the market mechanism is making further progress on developing the building blocks for the upcoming sludge market -  the bioresources market could be worth up to £780 million, according to the regulator.

According to the presentation document published after the Working Group held its fourth meeting on 15th June 2017, there is broad agreement that there is scope for markets in sludge and general agreement that information provision will stimulate the market.

However, members  of the Group appear to have mixed views on whether the case for a separate binding price control had been made. Interestingly, there appears to have also been mixed views on making bid activity transparent to all and on whether the proposed information platform needed to be independently managed, accompanied by suggestions that Ofwat should collect the information to assess market activity.

Ofwat's May Water 2020 paper set a range of requirements to faciltate market development, including:

• Companies will publish limited information on location, contract duration and the sludge volumes of successful bids, but not prices of successful contracts;
• Companies will record information on all bids received by water and sewerage companies (WaSCs) for sludge services and provide to Ofwat if required;
• A specific licence change is necessary so that companies are required to provide information to support markets and to ensure the data is reliable and accurate;
• WASCs will be expected to demonstrate the effectiveness of their approach to procuring sludge services (including self-provision) in their 2019 business plan;
• Ofwat expects market participants to develop standard products and standards contract terms to facilitate commercial discussions; and
• Ofwat will monitor if the lack of bid assessment guidelines hinders market development.

Ofwat to set average price control to help promote markets

The Working Group meeting presentation says that Ofwat intends to set a separate binding price control for sludge activities in the 2019 price review which will be set at a company level rather than site level. However, the regulator is not planning to introduce sludge trading incentives at PR19.

Ofwat has opted to set an average revenue control to define the money that companies can get to regulate sludge, taking the view that this would help achieve its objectives by subjecting WaSCs to volume risk from weather and population changes, thereby increasing the value of information on resilience requirements. It would also help to promote markets via a targeted approach by providing a clear price signal for market participants.

Under an average price control, a WaSC will receive the same revenue for a given volume, irrespective of the treatment and disposal route. It would also have control over the choice of disposal route - either using own assets or disposal via third party.

Price control to be based on tonnes of dry solids

Ofwat has also decided to set tonnes of dry solids – which the WaSCs are already familiar with - as the units on which the average revenue control will be based, in preference to population equivalent.

However, the Working Group also flagged up potential problems with this approach. There are measurement issues – tonnes of dry solids are currently not measured everywhere or necessarily consistently.  As a “commodity”-type measure, companies would be paid for what they treat – but it does not reflect the full cost of treatment as chemical composition would not be accounted for. It could also create a perverse incentive to increase the tonnes of dry solids artificially eg by reducing screening.

Next steps include ensuring customers share benefits of bioresources market 

Further work is now required on the definition of volume, how to get a central view of expected sludge volumes and ensuring customers share in the benefit where appointed assets generate income from trading arrangements.

Following on from the meeting, other issues the Group now needs to explore include:

• How should “over” or “under” recovery of revenue be dealt with in the average revenue control?
• How should we assess efficient costs for providing sludge services? How much of an efficiency challenge should we apply?
• How should revenues from trading, income from trading with other WaSCs, energy generation, biosolids sales and using appointed assets for non-appointed business be accounted for in setting the average revenue control?
• Definitions of market information to publish, including contracts let.
• Implications of environmental regulatory regime and the perceived barriers to markets

The Working Group has also been invited to submit proposals for UKWIR projects. Two proposed projects are already under consideration - Thames Water has suggested work should be undertaken on evaluating sludge bids. The other proposed UKWIR regulation project covers defining sludge products in standard market contracts and information databases.

Other possible proposals on the table include:

• Support approaches to the sludge control
• Demonstrating non–discrimination when assessing bids
• Developing market codes
• What does the sector need to facilitate markets in sludge that is outside Ofwat’s immediate remit of operating the price control?

Boundary definition of sludge business unit to be changed

Ofwat is also planning to change the boundary definition of the sludge business unit set out in its May Water 2020 paper. The current starting point of the sludge business unit is “the discharge of sewage sludge from sewage treatment process into pipework leading to sludge treatment processes; or to holding tanks for tankering to a sludge treatment site.” The regulator wants to change this so that sludge activities start at the point that transport begins. This change would remove all basic sludge holding tanks on wastewater treatment works from the inventory of sludge assets.

Commenting on improving market information, Ofwat said that at the moment, there is no readily available supply-side information on where sludge is produced, its quantity or its quality. The evidence from water companies and potential entrants to sludge markets suggests that better information would help markets develop. This would enable potential market participants, including WaSCs, to identify opportunities to supply services to sludge producers.

The May Water 2020 paper proposed that only data on quantity and demand should initially be required. However, as markets develop, Ofwat said it can review the requirements on companies. The information provided in relation to the sludge produced at WwTWs would include:

• location of the WwTW site;
• volume of sludge produced;
• dry solids concentration of the sludge;
• storage constraints (how often collection is required);
• information on sludge quality (for smaller sites, a proxy such as treatment process could be used); and
• any particular points that market participants may need to know, such as restrictions on the size of tanker that can access the site, or unusual constituents of the sludge.

Ofwat has decided not to require cost information or a derived ‘gate price’ at the moment, but expects to return to the issue in the future, considering it a necessary step for further market development.

The regulator will also consider whether it would be more helpful to focus on sludge treatment sites and transport costs separately, thereby reducing the detail and complexity of required information.

PwC: Ofwat's regulatory changes will encourage innovation

While no reference to stimulating innovation in the new sludge market appears at any point in the working group presentation, ensuring that the regulation of the nascent bioresources sector encourages innovation will undoubtedly be a key driver for Ofwat.

The issue was debated during a key conference session at last week’s UK AD Biogas 2016 on what challenges and opportunities the de-regulation of the water sector holds for AD.

Ham Baker’s Business Development Director, Ian Goddard won support from an industry panel about the need for water companies to embrace innovation for the opening up of the sewage sludge market – and for stating that existing frameworks should not act as a barrier to new technology.

The panel, which was chaired by Dr Piers Clark from the Isle Group, saw presentations from Alison Fergusson, Principal Engineer of Ofwat’s Water 2020 programme, Richard Laikin, UK Water Sector Leader, PricewaterhouseCoopers (PwC) and Steve Bungay from CIWEM.

For Ofwat, Alison Fergusson said that despite the short time frame for 2020, the challenge is very much to drive efficiency and how this might be achieved through new technologies, neighbouring, cross-water company treatment sites or through co-operation with local commercial waste companies. 

Richard Laikin (PwC) said that it was time for the industry to move forward with a better business model, whereby sludge is dealt with in terms of Value Maximisation, rather than Cost-Minimization. He stated that the opportunities to generate revenue are high up the agenda, and agreed with Ian Goddard’s comments during a lively Q&A that the status quo was not going to be the winning strategy for the future. Laikin said that Ofwat’s regulatory changes will encourage innovation, commenting that there is likely to be a ramping up of technologies for the new markets that will be available to water companies.