Networks face tougher price controls at RIIO2

Focus in the energy sector is turning to the networks as Ofgem sets out its stall for a tougher, but more adaptable, RIIO2 price control period, says the regulator’s senior partner Jonathan Brearley.

With all the controversy over energy in the last few years, networks have, at times, slipped below the radar, despite the fact that they are fundamental to security of supply and connecting new low-carbon sources of energy.

Networks are now coming to the fore for two reasons.

Firstly, as we make the transition to a smarter, more flexible and greener energy system, the role of the UK’s networks may fundamentally change. Local, distributed generation may grow and new technologies, such as storage and demand side response, mean that network services may be provided in many different ways.

Secondly, the regime we have in place will come under greater scrutiny as we progress through our first “RIIO” network price controls, and as we start to design our price controls for next time around.

Last week we set out our vision for the next RIIO and asked questions about its design. We will evaluate what has and has not worked and how the energy and financial markets might change. We will then set the framework for “RIIO2”, before getting into the detailed work on costs.

On the day we published our open letter, Citizens Advice published its report on RIIO which stated that companies had made £7.5 billion in “unjustified profits”. We don’t agree with this assessment, but we do agree the report raises some important issues which we will address next time.

We want consumer groups to be more involved in the process of setting the next price controls. Network charges make up about a quarter of an average household energy bill or £251 a year, so it is vital that the consumer’s voice is heard.

Regulation of monopoly assets like networks has always been about striking a balance between getting the cheapest possible deal for consumers and attracting sufficient low-cost investment to deliver the service required. We accept that investor returns for RIIO have been at the high end of our expectations, in part due to companies making efficiency savings.

Given the shift in financial markets since 2008, evidence suggests that investors may accept a lower cost of capital next time round.

So, to keep delivering good value for consumers, RIIO2 is likely to be tougher for investors. It may also need to be more adaptable to allow networks to respond to the unfolding energy transition and meet customers’ changing needs.