Utility Week

UTILITY WEEK | 17TH - 23RD MAY 2019 | 17 Policy & Regulation on their performance compared with their peers. Targets could become more challeng- ing over time to keep driving incremental improvements. Electricity North West said dynamic targets could be useful but only if they were absolute and mechanistic. Relative targets would make it harder to justify investment "as one cannot predict the behaviour of others". Cadent said dynamic targets should only be used in instances where improvements are bankable. It said relative targets would "disincentivise collaboration among, and the sharing of best practice across, networks" and should not be used at all. SP Energy Networks was against both but described the new output categories as "rea- sonable and sensible". They were also sup- ported by Cadent, which said they mapped closely on to their own suggestions. Electric- ity North West said they do not capture the "full range" of consumers' interests and put forward a longer list of five. Commenting on the package more widely, Northern Gas Networks described Ofgem's proposals as "the most complex set of arrangements that the UK regulatory frame- work has seen since inception. They are an order of magnitude more complex than those at RIIO1 and as such have failed in your stated objective of simplifying the regulatory framework." "The broader proposals conveniently move between explaining networks as very low risk because of their monopolistic nature, while at the same time bringing forward mechanisms that expose them to risks faced by companies in competitive markets such as exposing large elements of the expenditure base to competition and using dynamic and relative target setting to outcomes." Wider reaction O fgem obviously now views the current RIIO price controls as too generous to networks and is understandably keen to avoid repeating any mistakes. Its biggest worry appears to centre on its ability to make accurate long-range forecasts, espe- cially when compared with the companies it is regulating. Its proposals for RIIO2 – a shorter price control period, failsafe mechanisms and the new business plan incentive and sharing fac- tors – reflect this. They are heavily focused on protecting consum- ers from windfall gains by networks, which Ofgem fears benefit from an asymmetry of information. Some outside observers think Ofgem should have afforded more of its attention to other issues. The University of Exeter's Energy Policy Group decried a "general lack of ambition" with respect to climate change: "There is an absence of decarbonisa- tion targets and not even any recognition of the central role that the energy system has in driving climate change. This is not acceptable and needs to be front and centre of Ofgem's focus." It said there is a "major gap" over the future of gas. While Ofgem cannot be the one to make a policy decision, by setting the issue to one side the regulator is "ducking their responsibility". The group said there should be "carrot and stick" incentives for the delivery of low-carbon gas. It also called for Ofgem to consider RIIO2 not in isolation, but alongside reforms to network charging and industry governance: "Increasing renewable energy implementation and use, demand- side response, smart and flexible energy system, requires a chang- ing system operation, market design, retail policy and network access and charging regime – all of which Ofgem is responsible for. "Thus, Ofgem is a centrally important body for transform- ing the energy system. There is a complete lack of detail in RIIO2 on climate and this is untenable with what the science says is needed." Sustainability First lauded Ofgem's decision to focus on the environment as one of the three output categories but said the regulator needed to flesh it out more. It said the requirement for annual sustainability reporting applied to DNOs within RIIO1 should be extended to all sectors. The thinktank said the consultation sent out a "very low key and cautious message" with regards to the decarbonisation of heat and that the price controls should do more to encourage gas networks to deploy low and no-regrets measures. The Institute of Engineering and Technology also took issue with Ofgem's decision to adopt a narrow definition of "whole sys- tem", which will only cover the networks themselves. It said the implications would be "serious and far reaching", preventing networks from "playing a wider part in the co-ordi- nated development of the end-to-end national energy system… This will result in additional costs to customers, and likely frustra- tions when smart energy systems crash or, going forward, fail to upgrade seamlessly. "The core of the knotty problem is that Ofgem is operating within its traditional role and remit: perhaps Ofgem's role should be redefined, and/or should there be another party who addresses whole end-to-end technical co-ordination? These would appear to be questions for government as much as for Ofgem." Whether these concerns have been heeded, we will find out shortly. ILLUSTRATIVE EXAMPLE OF A BLENDED SHARING FACTOR CALCULATION Considering a case with three cost items. In this indicative example, high-confidence baseline costs are assigned a sharing factor of 50 per cent and low-confidence baseline costs are granted a sharing factor of 15 per cent. Cost item A Cost item B Cost item C Company view 250 500 250 Baseline confidence High Low High Sharing factor 50% 15% 50% Weighted sharing factor 250 x 50% +500 x 15% +250 x 50% = 32.5% 250 + 500 + 250 This yields a weighted average sharing factor of 32.5 per cent. This sharing factor is then applied to the total amount of costs (1,000). This article does not cover the price con- trol for the electricity system operator, which completed its legal separation from the rest of National Grid at the beginning of April. To learn about this, read the longer version on the Utility Week website.

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