Water Industry Commission for Scotland Integrating customer perspectives in a regulatory setting National Water Forum Adelaide A presentation by Alan D A Sutherland Chief Executive Officer 11 November 2016 www.watercommission.co.uk 1
Scottish Water was formed in 2002, when the previous three water authorities were merged Scottish Water is a vertically integrated publicly-owned corporation that provides water and sewerage services across the whole of Scotland. By merging the three authorities Scottish Water benefitted from economies of scale and scope. The merger allowed to mitigate the tariff increase required to achieve full cost recovery in the higher costs to serve area. 2
As a regulator, our relationship with Scottish Water in the early days was fiercely adversarial. This was a difficult time and the level of resources that we required was substantial We had to ensure that Scottish Water understood that regulation was permanent. By benchmarking Scottish Water s cost against the privatised companies in England and Wales we could evidence that there was a performance gap between the English industry and the Scottish industry. We could count on political support. It was not acceptable that the water service in Scotland could be worse than England or that public ownership was delivering less good outcomes than the private sector. 3
In 2008, Scotland became the first country in the world to introduce retail competition for water and sewerage services to non-residential customers All non-household customers can choose who supplies their water and waste water services regardless of the customer s size or location. Scottish Water continues to operate the network of pipes, resources and treatment assets. Retailers purchase wholesale services from Scottish Water at regulated prices and provide retail services to customers. They compete against each other by offering lower price and/or better service. The role of retailers was to bill customers, collect charges and respond to service enquiries. Over time they learned that there were opportunities to provide value-adding services to customers and could work with end customers to reduce consumption. 4
There are now 23 Licensed Providers operating in the market and the market share of the incumbent has fallen below 50% 100% Aggregated market shares (based on volumes) 90% 80% 70% 60% 50% 40% Incumbent WaSCs Other new entrants 5
The Scottish Water industry has come a long way since the establishment of Scottish Water in 2002. It now compares well with the privatized companies in England.. Total Increase in Household Bills Average increase in net new debt per connection Average investment per connection per year 2002-15 (per connected property, real terms) Total increase in household bills 2002-15 (per connected property, real terms) Average annual net new debt 2002-15 (per connected property, real terms) Average annual capital investment Scottish Water 3% Dwr Cymru 20% Anglian 20% Severn Trent 23% Yorkshire 29% England & Wales 31% United Utilities 33% Northumbrian 35% Southern 36% Thames 39% South West 40% Wessex 47% Dwr Cymru 47 Scottish Water 49 Severn Trent 74 Northumbrian 76 United Utilities 126 England & Wales 127 Yorkshire 127 South West 140 Wessex 142 Thames 156 Southern 171 Anglian 192 South West 279 Scottish Water 255 United Utilities 252 Dwr Cymru 235 Wessex 234 Southern 216 Thames 208 England & Wales 201 Anglian 174 Yorkshire 171 Northumbrian 166 Severn Trent 154 6
There are a number of fundamental differences between the traditional approach to price setting and our last price review The process: We asked Scottish Water to agree its business plan with its customers. The agreement had to be consistent with the decisions the Commission made about the key inputs to the final price. The timing of decisions: The Commission set out ranges consistent with its statutory duty of lowest reasonable overall costs of delivering Ministers objectives. The end game: The outcome was that Scottish Water agreed to lower prices andmoreenhancedlevelsofservicethanwe,asaregulator,wouldhavebeen abletojustifyusingthetoolsatourdisposal. The cost: The process, although challenging, was cheaper to implement both for Scottish Water and the Commission than previous price reviews. 7
This presentation will set out to answer five questions Why we opted for this approach? How we prepared for the price review? How we facilitated discussions between Scottish Water and its customers? How the price review concluded? and What unexpected benefits have resulted from this more collaborative approach? 8
There were three principal reasons why we opted for this approach. Performance assessment tools that we had successfully used in previous price reviews could no longer be used effectively. Scottish Water s performance had improved to match privatized companies in England and Wales. A new, more effective and potentially interventionist consumer body (the Scottish Consumer Council) meant that the traditional poker game between regulator and regulated company could no longer be relied upon. It became clear that the expenditure required to achieve EU environmental and water quality compliance would not reduce over time - as previously thought. Customers would have to see their water bills not just affordable but also reasonable. 9
We were conscious throughout that empowering customers required us, pro-actively to manage the potential for information asymmetries The Commission published its final decisions on the input ranges and indicated the areas where we considered that Scottish Water s business plan was weaker. Financial tramlines played a critical role in allowing the Forum to focus on what really mattered to customers. In the event that the Forum proved to be too generous in what it was agreed, the tramlines would ensure that customers would not suffer. There was regular dialogue between all parties throughout the price-setting process. 10
The results of the negotiation between the Customer Forum and Scottish Water were better than we had dared to hope for. Scottish Water and the Customer Forum agreed that prices should be set in nominaltermsandinawaythatwouldbeeasilyunderstoodbycustomers. There was a consensus that customers would prefer stability and certainty in the charges they pay resulting in an agreement of fixed nominal charges for the first three years. Capital expenditure efficiency target agreed upon was greater than what we could have justified using the traditional regulatory approach and normal analytical tools. Scottish Water refocused their efforts on service level improvements and also introduced three new customer service performance measures. A Customer Experience Measure and a High Esteem test were introduced to measure overall satisfaction in the quality of service provided by Scottish Water and to compare this against Britain s most valued brands in other sectors. 11
There have also been a number of benefits have resulted from this more collaborative approach. These benefits were not expected when we embarked on this price review The new process brought a greater level of openness in the regulatory process and challenged Scottish Water to take ownership for its decisions and be directly accountable to its customers(rather than the regulator). The collaborative environment introduced through the Customer Forum process has encouraged a new level of joint working between the Commission and Scottish Water. We have now been able to work closely with Scottish Water on how best to allow for expenditure on capital maintenance at the next and future price reviews and on understanding Scottish Water s costs at a geographical level. 12
We have learned a number of lessons from the Customer Forum approach It is vital to spend enough time at the start of the process to ensure all parties (including government) understands how the regulatory approach will work it took us the best part of a year to establish a common understanding of the issues. This common understanding should be documented to ensure that all sides abide by their initial good intentions. Doubts will arise at some point during the discussions between the regulated company and its customers it is important that these are not allowed to derail the process! The appointment of the Chair of the customer negotiating group is critical. She hastohaveareputationtolose,sufficienttimeavailableandneedstobeableto manage the complex discussions between the customer group and regulated company. Cont 13
We have learned a number of lessons from the Customer Forum approach The regulator must take decisions about the key inputs to the price setting. These decisions are critical as they remove (or at least substantially reduce) information asymmetry between customers and the regulated company. Customers and regulated company should seek to do as much customer research and as many public meetings as possible. They should discuss and, where possible agree, what they think they heard from this process. There should be regular meetings of all the stakeholders during the price setting process. With the benefit of hindsight we did not meet sufficiently often. There will be other, and unexpected benefits but customers will receive a combination of price and service level that is better than the likely outcome of an adversarial regulator-regulated process. 14
Summary Timeline for the Strategic Review of Charges 2015-21 Customer Forum is established Tri-partite and quanti-partite meetings Tri-partite and quanti-partite meetings Scottish Water issues 25-year strategic visions Scottish Water issues final strategic vision and business plan Scottish Water and Forum start customer engagement The Commission publishes final determination September November October December March November 2012 2013 2014 2015 October December December April January All parties provide comment on Scottish Water s 25 year strategic vision The Commission provides preliminary view on regulatory inputs The Commission issues discussion papers The Commission publishes draft determination Scottish Water decides whether to accept Final Determination 15
Water Industry Commission for Scotland First Floor, Moray House, Forthside Way, Stirling FK8 1QZ E: enquiries@watercommission.co.uk T: +44(0) 1786 430200 www.watercommission.co.uk 16