Ofgem to review regulatory regime for independent DNOs

Ofgem has announced plans to hold a review of the regulatory regime for independent distribution network operators (IDNOs), partly in response to IDNOs seeking to connect directly to the transmission network.

In open letter to industry, the regulator said it is concerned that this may enable customers to avoid making a fair contribution to shared network costs and lead to sub-optimal network configurations.

The electricity distribution networks in Great Britain are primarily owned and operated by six DNOs with 14 geographically determined licence areas. The DNOs are subject to the RIIO price controls and recover their costs through Distribution Use of System (DUoS) charges.

There are also number of smaller networks connected to the DNO networks, which are owned by licenced DNOs (LDNOs). LDNOs include both IDNOs and DNOs operating outside of their own region. LDNOs have historically provided the ‘last mile’ of the electricity distribution network linking new, typically domestic, customers to the existing DNO network, for example, in newly built housing developments.

In 2014, Ofgem issued the first IDNO licences, and in 2016, the regulator introduced the ‘relative price control’ regime, whereby the DUoS charges paid by LDNOs are discounted to reflect their provision of the ‘last mile’ of the distribution network. Under their licences, LDNOs may not charge domestic customers any more than the equivalent DNO tariff in the area, meaning their revenues are dependent on the discount they receive on DUoS charges.

In the meantime, Ofgem said LDNOs have begun connecting at higher voltages and serving a wider range of customers, including non-domestic customers, larger loads and generation.

DUoS tariffs for low and high voltage customers are determined by the Common Distribution Charging Methodology. The methodology and the charges it produces are published annually. Although only domestic charges are regulated by IDNO licences, Ofgem said the obligation on IDNOs to avoid discrimination provides “some protection” to non-domestic customers and in practice IDNOs tend to mirror the host DNO charges for all low and high voltage customers.

However, during the last few years, some LDNOs have begun connecting extra high voltage (EHV) customers whose DUoS charges are normally determined by the EHV Distribution Charging Methodology (EDCM).

As the EDCM produces sites-specific charges using a methodology that is not publicly available owing to commercial confidentiality, Ofgem said the ‘relative price control’ arrangements cannot be applied. The LDNOs are unable to mirror the host DNOs’ charges and so they have instead produced their own charging methodologies.

And in the last few months, Ofgem said it has been made aware of some LDNOs seeking to connect directly to the transmission network, in which case there would be neither a host DNO, nor a set of DNO charges to mirror.

The regulator said it has therefore become concerned about the appropriateness of the current arrangements. It said the EHV charging methodologies proposed by LDNOs may be “more akin to DNO price controls but without the same level of scrutiny or output regulation. This is because there is no relative cap on revenues.”

Ofgem said it also has concerns that direct connections to the transmission network “may not be shareable or economic and efficient” as other options, leading to increased overall costs, and may also enable customers to avoid making a fair contribution to shared network costs.

Along with the ability to expedite connections, the regulator said the latter may be one of the motivations behind the emergence of this model.

Given these developments, Ofgem said it may now be time to review the regulatory regime for LDNOs, which was first introduced around two decades ago: “We are issuing this open letter to alert parties, in particular current and prospective LDNOs and their EHV customers, that the existing regulatory arrangements may evolve to reflect the changing role of LDNOs.

“This was always our intention when setting up the regime and it means that any arrangements in place now may not be enduring.”

The regulator has asked for initial thoughts on the proposed review and given interested parties until 1 December to respond.