RIIO2 business plan incentive ‘remains a mystery’

A former partner at Ofgem has said it “remains a mystery” why the regulator handed some companies penalties and others rewards under the new business plan incentive mechanism for the RIIO2 price controls.

Maxine Frerk, director of Grid Edge Policy, said Ofgem needs to provide more clarity on exactly how networks’ business plans are being judged.

Speaking to Utility Week, Frerk was generally positive about the changes between its draft determinations issued in July and its final determinations published last week, noting that the regulator has made several “obvious moves” to address criticism that it failed to listen to customers and stakeholders (a point she picked up her Utility Week column).

She said Ofgem has also fleshed out how it intends to make use of uncertainty mechanisms, such as net-zero reopeners, to release further investment during the course of the price controls: “It’s not just about working everyone at Ofgem slightly harder. They have reshaped that a bit. The medium-sized projects were going to be in discretionary reopeners and you have to apply and go through a whole process, and now they’re going to be more automatic”.

“I think they’ve probably said enough at this stage to not be subject to criticism, which they were a bit at draft determinations,” she added. “That’s not to say they’ve got all of the i’s dotted and t’s crossed. There’s quite a bit to come in guidance in the new year about how exactly some of these processes will work but there’s a desire to work with the companies to make sure that they’ve got a good process in place – not a battleground.”

However, Frerk said she still has concerns over the new business plan incentive introduced to reward or penalise networks for the quality and accuracy of their business plans: “I’m not sure they’ve quite got that right, but given where we are in the process, they couldn’t do much about that now.”

Under the new mechanism, business plans undergo a four-stage appraisal, with rewards or penalties given at each.

The plans are judged according to whether they meet the minimum information requirements; what additional value they provide as described by networks in consumer value proposition (CVP); the level of confidence Ofgem has in their costs; and the difference between their high-confidence costs and a benchmark that the regulator would have otherwise used to set allowances.

The overall rewards or penalties are capped at plus or minus two per cent of networks’ baseline totex allowances.

“I’m still not convinced there’s was any real award for good engagement,” she remarked. “You had to pass a baseline test of whether you’d done enough engagement but there’s no reward for going to the extra mile.

“Maybe, Ofgem would say that should be business as usual.”

Frerk described the CVPs as “reward for baubles”. She continued: “They have now got a couple of CVPs that were awarded but they are for specific initiatives rather than the overall level of ambition in your business plan.”

She said Ofgem has also failed to give a satisfactory explanation of the reasoning behind its decisions: “It remains a mystery why some companies got penalties last time and SHE Transmission moved from having a massive penalty to a massive reward.”

Frerk said it is important the Ofgem’s provides further clarity on exactly how networks’ business plans are being judged before it makes the same decision for electricity distribution networks, whose price control begins two years later than the rest in April 2023.

Speaking to Utility Week earlier this week, Ofgem chief executive Jonathan Brearley defended the staged incentive approach.

He said: “Companies need to really bear in mind what they are asking for. They are not asking for money from Ofgem but from customers.

“You need to stand behind your plan and ask yourself would you be happy to sign this off on behalf of customers. As we made clear in the summer, we simply didn’t feel that was the case.

“What we did see, which was fantastic, is a stepping up of all companies. Although that’s a huge volume for us to go through, it left us in a much stronger position at final determination to be able to genuinely say plans were in the interests of customers.”