Ofwat is expecting to see water companies in England and Wales meet a demanding set of challenges and high expectations in their Business Plans for the upcoming Price Review in 2019, with a particular focus on resilience.

Speaking to delegates at a water industry asset management conference last week, David Black, Senior Director at Ofwat, said the central question was how water companies and the supply chain could work together to go beyond traditional methods of innovation and collaboration.

According to the water industry regulator, although it is early days in AMP6, the outcomes-based framework is already seeing an improvement in performance from leading companies which will shift the efficiency frontier forward for PR19.

Black flagged up catchment management which involves more operational expenditure (opex) than traditional capital expenditure (capex) solutions as a good example of progress on the totex approach - at PR09 companies proposed £60 million expenditure on catchment management schemes in their business plans and at PR14 this had increased to £206 million.

Water companies - "far too comfortable providing same customer services"

Key areas where Ofwat is expecting to see significant improvement includes customer service, Black said.

“Water companies are far too comfortable providing the same customer services in the same way they always have. The retail residential review revealed that customer service has been too slow to evolve and lagged behind other sectors and residential behind business retail. That has to change.”

Innovation – companies "too passive and happy with status quo"

He was also critical of the water companies’ track record on innovation – despite acknowledging that there were pockets of good practice, Black said:

“….the lack of innovation by water companies compared in other sectors– in service, technology, new offers, working practice – is really striking. Companies have been too passive and happy with the status quo, rather than testing themselves to improve and innovate.”

Markets to help new ways of delivering services & market testing offers route to efficiencies and innovation

Ofwat’s senior director also emphasised that the regulator had looked across the value chain to see where markets could be introduced – either direct choice for customers or other forms – to encourage innovation and get better outcomes for customers and wider society.

Commenting on Ofwat’s plans to develop markets in water resources and bioresources, together with direct procurement for customers of large discrete infrastructure, Black said markets would help reveal information and to discover new ways of delivering services

“It is becoming increasingly important for companies not just to understand their own costs, but to better understand the costs of buying in their requirements from third parties.”….

“Direct procurement for customers unlocks power of competition and markets to reveal innovation and market cost of financing for larger infrastructure projects.”

Ofwat also thinks the water companies can use market testing – the tendering for specific elements of projects e.g. design and/or building of new infrastructure – as a means to seek out efficiencies or innovative ways of doing things.

Resilience a key area “ripe for innovation”

Black also highlighted resilience as an area that is “ripe for innovation”, saying it would be a key theme of the next price review and its importance would be reflected in the PR19 methodology.

Ofwat is expecting companies to include in their business plans outcome performance commitments relating to resilience and asset health.

“We expect all aspects of company’s service to its customers to show an appropriate level of resilience – whether it be water supply, prevention of waste water flooding into homes, corporate structures or the reputation and standing of a company with its customers.” Black said. 

• Financial resilience: We have a duty to ensure that efficient water companies can finance their functions.
• Corporate resilience: The idea that a service provider’s ability to predict, respond to and recover from shocks in the services it provides is in part a function of its information, systems and process as a company.
• Operational resilience - partly about networks - but also includes ecosystems, as well as traditional water company owned and controlled assets.

According to Black, the use of markets in the wholesale part of the value chain - for water resources and bioresorces - should also help improve resilience by giving companies a broader set of options about how their services are provided.

He warned that Ofwat would have “very little sympathy for any company who… …sprinkles the word 'resilience' liberally throughout their plan, comes up with some spurious willingness to pay research, and seeks to land the customer with a substantial bill.”

Companies must set five year business plans in "much longer context" - 25 to 50 years 

David Black went on to emphasise that Ofwat is also expecting companies to set their five year business plans in a much longer context. The regulator wants them to think about both the outcomes they are delivering and risks and costs they are managing in the long term, in the context of 25-year water resource management plans or the joint 50 year water resource strategy.

The business plans could include, for example, some indicative, non-binding performance commitments 10-15 years in the future. The regulator will assess the longer-term context as part of its assessment of business plans.

However, he also warned that incremental improvements in resilience do not mean “bills going up”, saying:

“There are two parts of this myth that need busting.The first is that resilience always costs. It doesn't.”

“The second is that the idea that incremental resilience means bills have to go up assumes that there are no cost reductions that could offset any net impact on bills. We don’t buy it.”

The regulator’s Water 2020 policy document published in May last year set out key aspects of the policy framework that will govern the next review including:

• Strengthening the approach to customer engagement and outcomes. Companies should incorporate learning from their daily engagement with customers as well as a wider range of evidence such as pilots, rather than rely on traditional willingness to pay research.
• PI/CPIH indexation of price/revenue controls and the RCV to maintain legitimacy of price controls in the medium as RPI becomes less accepted and less used measure of inflation.
• Retaining totex and outcomes approach.
• Encourage companies to focus on the longer term in the preparation of their business plans.
• Preparing for the introduction of wholesale markets.

Ofwat will be consulting on its detailed PR19 methodology from 11 July 2017.