Plans for DSO regulation fleshed out

Ofgem has fleshed outs its plans for the regulation of distribution system operation (DSO) functions during the RIIO ED2 period.

In its draft determinations published earlier this week, the regulator confirmed its intention to introduce a new DSO incentive for electricity distribution networks for the price controls beginning in April 2023.

Ofgem said the new incentive, based on stakeholder surveys, performance assessments by a panel and a set of performance metrics, would offer distribution network operators (DNOs) annual rewards or penalties of up to 0.2% of return on regulatory equity.

The stakeholder surveys and panel assessments would each account for 40% of the value of the incentive, whilst the performance metrics would account for 20%.

“We believe this strikes the right balance between more predictable and less onerous mechanistic components, and a more holistic evaluative assessment,” Ofgem stated. The lower weighting given to the “more narrowly focused” performance metrics should minimise the risk of DNOs focussing on specific targets at the expense of wider DSO activities.

The stakeholder surveys would measure stakeholders’ satisfaction on a scale of 1-10 across a set of five common questions concerning significant points of interaction.

As there is no reliable historical data from the current regulatory period to compare against, Ofgem has proposed to use the average score from recent stakeholder surveys for National Grid Electricity System Operator as a relevant proxy to set a baseline.

On this basis, the regulator proposed a baseline target of 7.7 out of 10, with a dead band of plus or minus 0.2 standard deviations to ensure the incentive is not too sensitive to modest changes in scores that may not be attributable to changes in performance. Companies scoring 9 and above would receive the maximum reward and those scoring 6.4 and below would receive the maximum penalty.

Ofgem said it may adjust these parameters in period if the yearly results show high levels of over- or underperformance.

The performance assessments would be conducted by a panel of independent experts and industry representatives appointed by Ofgem. All DNOs would be judged by the same panel to enable comparison between companies, ensure consistency and limit the administrative burden.

The regulator said these assessments would have multiple benefits, including reducing information asymmetry between DNOs and Ofgem, strengthening incentives on DNOs to demonstrate their performance to a wider audience, challenging and providing feedback on DNOs performance within period, and providing industry with a platform to hold companies to account.

DNOs would be scored out of 10 against five equally weighted criteria covering the delivery of DSO benefits, data provision, flexibility market development, options assessment and conflict of interest mitigation, and decision-making frameworks for the dispatch of distributed energy resources.

Companies scoring between 5 and 6 overall would receive no reward or penalty. Those scoring nine and above would receive the maximum reward and those scoring two and below would receive the maximum penalty.

There would be three equally weighted performance metrics concerning:

• Flexibility market testing – the extent to which DNOs are undertaking comprehensive quantitative assessments when determining if flexibility services are more economic than reinforcement
• Network visibility – the extent to which there is near real time aggregate monitoring of low-voltage network load data
• Curtailment efficiency – the extent to which DNOs are limiting curtailment of network users of non-firm connections

Ofgem said targets, with caps and collars for rewards and penalties, would be established for each metric, perhaps tailored to each DNO to reflect their different starting positions. It said more work is required before these targets can be set.

The regulator has additionally proposed to create a DSO re-opener mechanism to allow for in-period changes required as a result of the potential separation of DSO functions from DNOs.

In April, Ofgem launched a call for input on potential models for local energy institutions and governance, with options including the internal separation of DSO functions within DNOs, the creation of regional energy system operators with democratic oversight, and the allocation of specific DSO functions to various bodies.

“If this review — or any subsequent review or decision, for example by government — results in our deciding to make changes to the current model for DSO, then we may need to make changes to the RIIO-ED2 price control to effect or reflect the new model,” the regulator explained.

“Any changes made under the DSO re-opener would be done using the statutory licence modification process. This may include changes to costs, outputs and incentives associated with any decision on further separation of DSO functions.”

Ofgem said this re-opener could be triggered at any point during the RIIO ED2 period.