Ofwat has set limits on the prices charged for water and sewerage services, taking into account proposed capital investment schemes and expected operational efficiency gains, since the water and sewerage industry was privatised in 1989.
These reviews take place every five years and challenge the scope of business plans to ensure they are well justified and proposed costs are fair by using tools such as econometric modelling.
This process is currently under way for the sixth price control period since privatisation: Asset Management Plan 6.
One of the key challenges facing water and sewerage companies in AMP6 is the move to regulating at total expenditure (TOTEX) level rather than separating operating expenditure (OPEX) and capital expenditure (CAPEX).
This move is designed to make sure capital and operating costs are considered together when comparing each water company and to counter a perception that expenditure has been biased towards CAPEX as opposed to OPEX.
“To ensure value for money is achieved on a long-term basis, companies will also need to consider what the least whole-life TOTEX solutions are”
Efficiency incentives will be based upon TOTEX over the AMP6 period, rather than separately for capital and operating costs.
This will mean that operating costs will take on more weight when deciding which projects – including operational interventions as well as conventional capital schemes – to take forward and how these will be delivered.
Additionally, to ensure value for money is achieved on a long-term basis, companies will also need to consider what the least whole-life TOTEX solutions are, not just the solutions that deliver the lowest five-year AMP TOTEX.
Savings for customers and shareholders
This consideration of TOTEX cost, while a challenge, enables water companies to manage their assets in a more holistic manner.
There is a requirement for more refined and intelligent asset and cost information to enable TOTEX decisions. Companies have historically focused on CAPEX, but maintenance, operation and carbon information requires further improvement.
Furthermore, understanding the cost-effectiveness of expenditure requires linking cost elements in a transparent and credible manner back to the customer outcomes committed to in business plans.
This will enable companies to target expenditure at achieving both performance commitments and TOTEX outperformance, yielding service benefits and efficiency savings for customers and shareholders.
Mott MacDonald recently published the second edition of its Water Utilities Little Black Book, which includes data that can help support water companies in meeting these new challenges.
Measuring against industry benchmarks aids confidence in decisions taken by water companies and enables both the identification of areas of relative inefficiency and quantification of the extent of that inefficiency.
These areas can then be investigated to understand the underlying causes and targeted activities can be put in place to deliver efficiency improvements with a view to achieving TOTEX outperformance and improving relative efficiency.
Tristan Harvey-Rice is infrastructure systems and data manager at Mott MacDonald.
Email firstname.lastname@example.org to register for a free download of The Little Black Book.