Gas Distribution Price
Control Review
Summary of Initial Proposals
Gas Customer Forum
9 July 2007
Presentation content
•
•
•
•
•
•
•
Introduction
Context
Initial proposals
Financial issues
Key policy proposals
Outstanding issues
Next steps
2
Introduction (1)
• The price control that has applied to the Gas Distribution
Networks (GDNs) since 1 April 2002 expired on 31 March 2007.
• We extended the price control for one year from 1 April 2007 to
31 March 2008. This was completed in December 2006 and
addressed a number of big issues from previous period.
• The Gas Distribution Price Control Review (GDPCR) will reset the
price control, which specifies the maximum revenue that a
network can recover from its customers from 1 April 2008 to 31
March 2013.
3
Introduction (2)
• This presentation discusses our initial proposals document which
was published in May 2007.
• The document set out our view on:
– appropriate operating, capital and replacement expenditure
allowances for the period 2008-13; and
– a range of incentives and outputs that together with the
allowances protect customers’ interests.
4
Context
•
GDPCR is first distribution price control
review since the sale by National Grid
Gas plc (NGG) of 4 of its 8 GDNs to 3
new owners on 1 June 2005.
•
Benefits to consumers identified from
sale: generated mainly from
comparing relative GDN performance.
•
The benefits from this comparative
competition will be build up over time
and passed back to consumers at
future reviews (majority expected post
2013).
Scotia
Gas
Networks
Northern
Gas
Networks
National
Grid Gas
Wales & West
Utilities
Scotia Gas
Networks
5
Initial proposals – Key themes
• Despite short period in independent ownership benefits to
customers through comparative competition (mainly reductions in
operating expenditure)
• Increased allowances for investment and for replacement of old
iron gas mains
• Obligations to offer good quality customer service to be
strengthened
• Initiatives on sustainable development, such as network
extensions and incentives on GDNs to reduce gas shrinkage
6
Initial proposals – Overall impact
•
Impact of proposals on revenue negligible: operating cost reductions
broadly offset by increasing cost of mains replacement programme
Allowances by GDN (£m, 2005-06 prices)
GDN
NGG
NGN
SGN
WWU
East of England
London
North West
West Midlands
Northern
Scotland
Southern
Wales and West
Total
Allowed revenue
2007-08
427.2
245.1
285.5
217.8
273.5
194.3
432.4
252.0
2,327.7
Average annual
allowed revenue
2008-13
416.8
261.2
286.7
218.3
281.0
192.7
450.4
261.7
2,368.7
Average X
0.8%
-2.2%
-0.1%
-0.1%
-0.9%
0.3%
-1.4%
-1.3%
-0.6%
7
Headline cost allowances
£m in
2005-06
prices
Average
annual actual
2002 to 2007
2007-08
Allowances
Average
annual GDN
forecast over
2008-13
Average
annual Ofgem
allowance over
2008-13
Difference
GDN
forecast to
allowance
Opex
662.4
652.5
722.1
598.0
-17%
Capex
260.5
358.4
393.1
328.2
-17%
Repex
493.9
588.0
797.5
654.0
-18%
Note:
- Large reductions against forecasts
- Data based on average GDN, some significant outliers
- Actuals vs allowances
8
Cost allowances
•
Operating expenditure
– Propose a reduction in operating expenditure of 3.3 per cent a year
from forecast actual levels for 2006-07
•
Capital expenditure
– Increased allowances mainly driven by lumpy LTS investment
•
Replacement expenditure (mandated by HSE)
– Required to fund cast iron mains replacement volume
– Unit costs gap
9
Initial proposals – opex allowances (1)
•
To assess opex, we have focussed on benchmarking at individual activity
level and used top-down analysis as a sense check.
•
We have proposed benchmarking at an upper quartile level.
•
We have taken into account regional labour rates in our benchmarking.
•
Other regional price costs will be considered as part of the updated
proposals work.
•
We have taken account of real price effects
•
We have proposed an on-going efficiency target of 2.5% p.a.
10
Initial proposals – opex allowances (2)
GDN
Average annual GDN
forecast 2008-09 to 201213 (excluding shrinkage)
(£m, 2005-06 prices)
Average annual allowance
2008-09 to 2012-13
(excluding shrinkage)
(£m, 2005-06 prices)
Difference
forecast to
allowance
East of England
123.0
95.7
-22%
London
86.4
67.0
-22%
North West
93.8
74.0
-21%
West Midlands
67.3
54.0
-20%
NGN
Northern
81.8
73.0
-11%
SGN
Scotland
68.1
57.0
-16%
Southern
117.7
105.4
-10%
Wales & West
84.0
71.9
-14%
Total
722.1
598.0
-17%
NGG
WWU
11
Initial proposals – capex and repex
allowances
•
•
To assess capex and repex, we have adopted a similar approach to opex
The scope for benchmarking capex is more limited resulting in extensive
use of recommendations made by technical consultants.
•
In some cases, there are large differences between us and the GDNs on
their capex and repex requirements.
•
We are proposing an Information Quality Incentive designed to bridge this
gap.
12
Initial proposals – capex allowances (pre-IQI)
GDN
Average annual GDN
forecast 2008-09 to
2012-13
(£m, 2005-06 prices)
Average annual
allowance 2008-09 to
2012-13
(£m, 2005-06 prices)
Difference
forecast to
allowance
East of England
41.9
37.5
-10%
London
39.0
32.6
-17%
North West
35.2
32.1
-9%
West Midlands
18.4
17.5
-5%
NGN
Northern
52.1
43.7
-16%
SGN
Scotland
50.2
41.3
-18%
Southern
95.0
74.9
-21%
Wales & West
61.4
48.7
-21%
Total
393.1
328.2
-17%
NGG
WWU
13
Initial proposals – repex allowances (pre-IQI)
GDN
Average annual GDN
forecast 2008-09 to
2012-13
(£m, 2005-06 prices)
Average annual
allowance 2008-09 to
2012-13
(£m, 2005-06 prices)
Difference
forecast to
allowance
East of England
103.6
94.8
-8%
London
95.8
77.4
-19%
North West
100.2
85.0
-15%
West Midlands
68.9
62.9
-9%
NGN
Northern
83.8
78.0
-7%
SGN
Scotland
71.3
49.0
-31%
Southern
187.8
132.4
-29%
Wales & West
86.2
74.5
-14%
Total
797.5
654.0
-18%
NGG
WWU
14
Financial issues
•
•
Cost of capital:
– TPCR most recent reference point
– Modelling assumption for initial proposals:
• Cost of debt continuing to fall on a trailing average basis – adjusted
by 20b.p.
• Cost of equity will be informed by our comparative risk analysis to
be carried out between now and updated proposals - unchanged at
mid-point of total equity returns
• Gearing 62.5% - consistent with previous review for now
– This provides a point estimate WACC of 4.84% (post-tax 4.2%)
Assessing financeability:
– Ratios arising from our notional assumptions consistent with a
comfortable investment grade credit rating for majority of GDNs
– Will be considered further at updated and final proposals to establish
whether any adjustments are required.
15
Outputs and Quality of Service (1)
•
We are proposing a number of changes to the outputs and quality of
service arrangements for GDNs to:
– simplify the arrangements;
– improve protection for consumers;
– improve the accuracy and reliability of the data recorded and reported
by GDNs;
– enhance comparative competition between the GDNs; and
– enable us to better monitor how performance is improving both over
time and between different GDNs.
•
We have undertaken a programme of consumer research to inform these
changes and to comply with our statutory duty.
16
Outputs and Quality of Service (2)
•
Removal of the Overall Standards of Performance
– Propose to revoke the Overall Standards and migrate these
obligations to licence conditions or guaranteed standards.
– Improved ability to take appropriate enforcement action;
– Consistent with DPCR4.
•
Changes to the Guaranteed Standards
– Complaint handling and the timing and quality of reinstatement
works were identified in the consumer research as areas where
GDNs performance could be improved.
– Improved protection for consumers connected to IGTs & smaller
non-domestic consumers regarding supply restoration.
17
Outputs and Quality of Service (3)
•
Other changes to the arrangements
– Introducing targets for the accuracy and completeness of GDNs
interruptions data;
– Expanding the existing quarterly consumer satisfaction survey to
include GDNs performance in connections, emergencies and providing
information during unplanned interruptions;
– Introducing a reporting regime to strengthen incentives on GDNs to
maintain accurate pipeline records; and
– Developing a balanced score card to better compare GDNs performance
across a number of key areas.
18
Incentives (1)
•
Information Quality Incentive:
– Proposing to implement an information quality incentive (IQI) similar
to DPCR4
– GDNs rewarded for forecasting their capital and replacement
expenditure close to our consultant’s view (conversely penalty if long
way from our view). Also rewarded for forecasting accurately.
– Intention to close “gap” between GDN forecasts and our proposed
allowances
– Re-bids due this summer (13 July)
19
Incentives (2)
Comparison of post IQI allowances to forecasts 2008-13 (£m, 2005-06 prices)
Total 5Yr
capex +
repex
forecast
East of England
London
North West
West Midlands
Northern
Scotland
Southern
Wales and West
Total
£m
727.2
674.1
676.7
436.6
679.3
607.4
1,414.1
737.7
5,953.1
Total 5Yr
capex +
repex
allowance
(pre IQI)
£m
661.8
549.8
585.7
402.0
608.4
451.3
1,036.4
615.6
4,910.9
IQI Ratio
(post
adjustment)
114
114
114
114
108
135
135
116
Allowance
(post IQI)
£m
683.1
566.6
604.2
415.6
618.9
485.1
1,114.0
637.0
5,124.5
Incentive
33%
33%
33%
33%
36%
23%
23%
32%
Additional
income
£m
5.4
4.2
4.6
3.4
9.3
-9.6
-22.1
3.0
-1.8
20
Sustainable development
•
Sustainable development
– Extending the network to fuel poor communities
– Reducing levels of gas shrinkage
– Responding to concerns about CO poisoning
– Proposals
• Discretionary reward scheme (£4m pa)
• Change to structure of charges for fuel poor communities
• Roll forward shrinkage incentive but consider whether it should be
strengthened for cost of carbon
21
Outstanding issues
•
These are initial proposals; there are still a number of areas to be
considered further including:
– Resubmission by GDNs of actual 2006-07 data plus resubmission of
forecast expenditure this summer
– Some cost issues still to be concluded, e.g. regional factors
– Detailed analysis for cost of capital and further assessment of
financeability to be undertaken
– Number of policy areas still need to be concluded, e.g. opex rolling
incentive
•
This may mean that changes for our September updated proposals could
be more substantive
22
Next steps
Milestones
Dates
Resubmission of BPQ (forecast)
13 July 2007
Responses to Initial Proposals document
13 July 2007
Consultation on cost reporting*
20 July 2007
Consultation on licence drafting
Early September 2007
Updated Proposals
24 September 2007
Publish final proposals
Early December 2007
New price control implemented
1 April 2008
* We propose to introduce a cost reporting framework to apply from
2008-09 onwards similar to electricity distribution and
transmission.
23
24
Key policy proposals
• Proposed IQI matrix
GDN:Ofgem ratio
Efficiency incentive
Additional income
Allowed expenditure
Actual expenditure
70
80
90
100
105
110
115
120
125
130
135
140
100
105
40.0% 37.5%
2.50
1.97
100 101.25
110
115
120
125
35.0% 32.5% 30.0% 27.5%
1.38
0.72
0.00
-0.78
102.5 103.75
105 106.25
14.50
10.50
6.50
2.50
0.50
-1.50
-3.50
-5.50
-7.50
-9.50
-11.50
-13.50
12.75
9.25
5.75
2.25
0.50
-1.25
-3.00
-4.75
-6.50
-8.25
-10.00
-11.75
13.69
9.94
6.19
2.44
0.56
-1.31
-3.19
-5.06
-6.94
-8.81
-10.69
-12.56
11.69 10.50
8.44
7.50
5.19
4.50
1.94
1.50
0.31
0.00
-1.31 -1.50
-2.94 -3.00
-4.56 -4.50
-6.19 -6.00
-7.81 -7.50
-9.44 -9.00
-11.06 -10.50
9.19
6.44
3.69
0.94
-0.44
-1.81
-3.19
-4.56
-5.94
-7.31
-8.69
-10.06
130
135
25.0% 22.5%
-1.63 -2.53
107.5 108.75
7.75
5.25
2.75
0.25
-1.00
-2.25
-3.50
-4.75
-6.00
-7.25
-8.50
-9.75
6.19
3.94
1.69
-0.56
-1.69
-2.81
-3.94
-5.06
-6.19
-7.31
-8.44
-9.56
140
20.0%
-3.50
110
4.50
2.50
0.50
-1.50
-2.50
-3.50
-4.50
-5.50
-6.50
-7.50
-8.50
-9.50
25