1. Protecting consumers, promoting value and safeguarding the future Regulating Privatised Water: Lessons from England and Wales Regina Finn Chief Executive

2. – Protecting consumers, promoting value and safeguarding the future Overview Ÿ The Water Industry in England and Wales Ÿ The Role of Comparative Competition Ÿ Development of Market Competition Ÿ Conclusion and Questions

3. – Protecting consumers, promoting value and safeguarding the future The Context: Long Term Challenges Ÿ Water Industry affected by long term drivers: –Climate change – adaptation and mitigation –Weather volatility – floods and droughts –Population growth and location – water stress –Demand for water and how we value water Ÿ Ofwat is regulating to protect consumers, promote value and safeguard the future.

4. Protecting consumers, promoting value and safeguarding the future The Water Industry in England and Wales

5. – Protecting consumers, promoting value and safeguarding the future England and Wales Water Industry Water and sewerage companies 1 Anglian 2 Dŵr Cymru 3 Northumbrian 4 Severn Trent 5 South West 6 Southern 7 Thames 8 United Utilities 9 Wessex 10 Yorkshire Water only companies 11 Bournemouth & West Hampshire 12 Bristol 13 Cambridge 14 Dee Valley 15 Folkestone & Dover 16 Mid Kent 17 Portsmouth 18 South East 19 South Staffordshire 20 Sutton & East Surrey 21 Tendring Hundred 22 Three Valleys 20 21 22

6. – Protecting consumers, promoting value and safeguarding the future Industry snapshot Key facts Ÿ 22 vertically integrated monopolies. (39 at privatisation) Ÿ 23 million connected properties Ÿ Average annual capital investment £3 to £3.5 billion Ÿ £70bn capital investment since 1989 Ÿ Real bill increase in 10 years from 2000-10 will be 7% 100 150 200 250 300 350 400 450 500 Northumbrian Thames SevernTrent Yorkshire Anglian United Utilities Southern Wessex Dwr Cymru South West £ 2004-052005-06 2009-10 Water & sewerage bills 2004-05 to 2009- 10(in 2004-05 prices) Average bills 2007-08: Industry average:£325 unmetered £285 metered South West (highest): £650 unmetered £378 metered

7. – Protecting consumers, promoting value and safeguarding the future Ownership of Companies Ÿ Five listed companies (United Utilities, Northumbrian, Severn Trent, South West and Dee Valley) Ÿ One recently delisted (Yorkshire) Ÿ Rest privately owned Ÿ Range of owners including private equity firms and pension funds

8. – Protecting consumers, promoting value and safeguarding the future Ownership Structures by Regulatory Capital Value (RCV) Note - Correct at November 2007

9. – Protecting consumers, promoting value and safeguarding the future Gearing by RCV Note - Correct at November 2007

10. Protecting consumers, promoting value and safeguarding the future The Role of Comparative Competition

11. – Protecting consumers, promoting value and safeguarding the future Comparative Competition Ÿ Simple metrics - such as interruptions to water and supply number of complaints Ÿ Advanced modelling of expenditure and procurement efficiency, and Ÿ International benchmarking where possible Key tool for regulating monopoly water industry:

12. – Protecting consumers, promoting value and safeguarding the future Advantages of Comparative Competition Ÿ Keeps regulation “small” Ÿ Uses real information to drive performance – difficult to challenge Ÿ Allows companies to manage their own business Ÿ Lets company performance speak for itself

13. – Protecting consumers, promoting value and safeguarding the future What the Regulatory Regime Has Delivered (1) Ÿ Significant capital investment privately financed Ÿ £70bn invested in water sector since 1989 Ÿ Major efficiency gains resulting in lower bills to customers Ÿ The average customer bill in 2010 will be £100 lower than it would have been

14. – Protecting consumers, promoting value and safeguarding the future What the Regulatory Regime Has Delivered (2) Ÿ Total Operating Expenditure

15. – Protecting consumers, promoting value and safeguarding the future What the Regulatory Regime Has Delivered (3) Ÿ Essential services safeguarded Ÿ Improved reliability and quality of service Ÿ Improved water quality - safe, reliable drinking water Ÿ Reduced leakage Ÿ Reduced risk of sewer flooding

16. – Protecting consumers, promoting value and safeguarding the future Reduced Leakage Total leakage 1994-95 to 2004-05 (Ml/d) 5112 4980 4505 3989 3551 3306 3243 3414 3605 3649 3608 2000 2500 3000 3500 4000 4500 5000 5500 1994-951995-961996-971997-981998-991999-20002000-012001-022002-032003-042004-05 Year Total Leakage

17. – Protecting consumers, promoting value and safeguarding the future Service Improvements

18. – Protecting consumers, promoting value and safeguarding the future Drawbacks of Comparative Competition Ÿ Imperfect proxy for effective competition Ÿ Companies tempted to ‘game’ Ÿ Data collection is an onerous and expensive exercise for both companies and regulator Ÿ Information asymmetry – companies have the advantage And…

19. – Protecting consumers, promoting value and safeguarding the future Overall Performance Assessment (Water)

20. – Protecting consumers, promoting value and safeguarding the future Overall Performance Assessment - Water and Waste Water

21. – Protecting consumers, promoting value and safeguarding the future So What Next? Ÿ Evolution of the comparative competition – eg capital incentive scheme Ÿ Review what we compare and measure – eg customer experience measures Ÿ Promote effective competition in the market – reduce regulation

22. Protecting consumers, promoting value and safeguarding the future The Promotion of Market Competition

23. – Protecting consumers, promoting value and safeguarding the future Promoting Competition: Why? Ÿ Ofwat has a duty to promote competition Ÿ Competition can drive dynamic efficiency and innovation Ÿ Comparative competition has delivered –But risk of diminishing returns over time Ÿ Competition has delivered benefits elsewhere Ÿ Customers want choice

24. – Protecting consumers, promoting value and safeguarding the future Ofwat Competition Review – Part One Conclusions: Ÿ Existing regime ineffective Ÿ Need to remove the access pricing rule from primary legislation –Replace with principles Ÿ Reduce the threshold for non- household customer competition from 50Ml to zero Ÿ Enable retail competition for sewerage Ÿ Develop accounting separation…

25. – Protecting consumers, promoting value and safeguarding the future Accounting Separation Ÿ Meets multiple goals, including promoting competition Ÿ Will require separation of the natural monopoly part of the value chain from contestable activities Ÿ Will provide greater visibility for new entrants on costs and potential margins Ÿ Will facilitate cost reflective access tariffs Ÿ Will ensure level playing field between incumbents and entrants Ÿ New reporting from 2009

26. – Protecting consumers, promoting value and safeguarding the future Ofwat Competition Review – Part Two Ÿ Inform Government Review of competition in the sector Ÿ Will examine the potential for competition throughout the value chain; Ÿ Detailed paper in Spring Ÿ Objective –Secure innovative entry, efficient investment and customer benefits; –Protect water quality and security –Contribute to social and environmental objectives

27. – Protecting consumers, promoting value and safeguarding the future Ofwat Competition Review – Part Two Key principles: Ÿ Similarities with other network utilities Ÿ Regulatory unbundling – early step Ÿ Structural unbundling of retail – early step Ÿ Mechanisms to secure innovation in resources Ÿ All customers should benefit Ÿ Separate cross-subsidies from the functioning of the market Ÿ Simple and transparent market models and access pricing

28. – Protecting consumers, promoting value and safeguarding the future Conclusion Ÿ The England and Wales Regulatory Regime has delivered significant benefits for water consumers Ÿ To continue to deliver, we need to build on the success of the past and develop new tools to tackle the challenges of the future

29. – Protecting consumers, promoting value and safeguarding the future More information is available from our website: www.ofwat.gov.uk