Water industry regulator Ofwat has launched a new consultation on wholesale and retail charges for 2015-16 and beyond – which also highlights the regulator’s current thinking for PR19 2020-25.  

In addition to setting out expectations for charging rules for companies setting separate wholesale and retail charges in 2015-16, the consultation also sets out Ofwat’s expectations for further changes in charging over the next five years and beyond -  intended “to help stakeholders understand the future direction of regulatory charging policy.”

Following the coming into force of the Water Act 2014, this new consultation presages the way for further consultations in the future, particularly in the context of the introduction of competition in the non-household sector in 2017.

Ofwat now sets separate controls for each company which in turn requires the companies to set charges separately for each of the following:

• water wholesale services;

• wastewater wholesale services;

• household retail services; and

• non-household retail services.

These latest proposals build on Ofwat’s January consultation and provide a set of working expectations for how the regulator expects companies to approach the development of their wholesale and retail charges for 2015-16. Ofwat said that in particular, it reflects the practical matters it envisages companies will need to take into account in developing their charges for 2015-16.

Ofwat said that due to its current understanding of the expected timing of the Government’s final charging guidance, it  will not be issuing final rules for charges schemes until the first quarter of 2015. The document points out that as Ofwat’s expectations for 2015-16 have been “firmly rooted in Government guidance and principles”, it is unlikely that there will be a need for significant revisions following any final charging guidance from the UK and Welsh Governments. However, the regulator is planning to issue a brief consultation on the final rules for 2015-16 before the new charging year begins in April 2015 to "explore the need for any potential refinements in the event of such guidance."

The consultation is a key document in terms of understanding the regulator’s thinking on the  development of charging arrangements for 2015-20 and beyond. Ofwat said that ahead of PR19 (2020-2025), access pricing rules will need to be developed to help understand the contestability of the value chain affected from 2020 and assess the appropriate scope and form of price controls for PR19.

Ofwat: "detailed break-down of water company services and costs could empower customer choice"

For PR14, Ofwat is planning to introduce the following non- binding sub-limits within the 2015-20 period.

• One for water,  covering raw water distribution, water treatment and treated water distribution, but not water resources, where the Water Act 2014 envisages the scope for greater contestability in the future.
• One for wastewater, covering sewage collection and sewage treatment, but not sludge treatment, recycling and disposal, where greater opportunities for contestable service provision also exist.

The regulator said that this progressive revealing of information will enable it to further target its approach to regulation, commenting that as price controls develop progressively to align with individual components of the value chain, it will also need to consider further the various different approaches to structuring the rules applied to different types of charges.

The document makes the key point that competition does not always need to be present for disaggregated charges to provide benefits to customers. Ofwat said that a  detailed break-down of the different services a company provides, and their respective charges, could help empower customers to make choices in the bundles of services they choose to buy – even where the service provision is not contestable.

The regulator said this means it is likely that further information will be needed from the water companies about their costs and operations. However, experience to date, including most recently during the current price review (PR14), has been that “capturing new data can take a great deal of time to ensure a reasonable level of robustness and consistency.”

The document also provides some useful insight into Ofwat’s thinking on future access pricing which covers charges to a new market entrant to access a monopoly company’s water supply and sewerage infrastructure including:

•   networks;

•   storage facilities; and

•   treatment works.

The Water Act 2014’s upstream reforms will enable new entrants to provide certain wholesale services– such as providing water into an incumbent’s network – requiring them to do business with the existing monopoly water and sewerage companies.  New entrants might also want to purchase a range of other services from the monopoly company. The consultation says that all such services will need to be priced and charged for, and will be a key focus of Ofwat’s future work on charging.

Ofwat’s definition of ‘wholesale charges’ (including bundled wholesale services)  covers all the relevant wholesale costs associated with:

•   resource;

•   treatment; and

•   distribution.

The consultation document says that future access pricing will cover specific services, within the bundled wholesale services and that Ofwat may want to have a clear reconciliation between granular access prices and bundled wholesale charges.

The Open Water programme is currently working with the sector to identify a set of detailed wholesale activities that may need to be charged for post-2017. However, Ofwat said that “further work may be required to unpack the 2015-16 wholesale charges to suitably reflect the more granular list of services for April 2017 and beyond.”

Companies to present wholesale charges according to a standardised format

Following the conclusion of the PR14 price review, Ofwat said it will “further progress discussions about structuring charges to send effective price signals, as well as further develop access pricing to enable effective entry from upstream undertakers.”

While the regulator is not currently proposing to require standardisation of wholesale charges at this time, it will require all companies to populate a standard schedule with their wholesale charges so that they present them in the same way in the form of a spreadsheet submission of their draft wholesale and retail charges. Ofwat will issue a template when all companies have received their draft determinations by 29 August.

For 2015-16, Ofwat will require companies to publish their wholesale and end-user retail charges by 2 February 2015. In future years, the regulator will require wholesale charges to be published earlier to enable new entrants to develop their own retail charging proposals ahead of the new charging year from April.

Ofwat is inviting comment on a number of specific questions in the consultation document, including whether  stakeholders agree that wholesale charges should be published in advance of retail charges beyond 2015 and whether Ofwat should require retail water bills to provide a breakdown of retail and wholesale charges.

Deadline for responses to the consultation is 4th July 2014. Click here to access the consultation document.