RIIO Game or business as usual? in association with

Transcription

1 RIIO Game changer or business as usual? in association with

2 contents 1 executive summary p.3 2 change and challenge p.4 3 risk p.6 4 readiness p.8 5 customers p.10 6 innovation p.12 7 capital programmes p.14 8 conclusion p.16 2 December 2013 UTILITY WEEK

3 executive summary 1 Energy networks are in a period of transformative change. Ofgem has introduced a new price control regime, Revenue = Incentives + Innovation + Outputs, known as RIIO. This seeks to address the demands of sustainability, reducing the carbon generated by the transmission and distribution of energy, while also creating an environment to encourage investment. Some 32 billion of investment is needed in energy networks by 2020 the current regulatory asset value is about 43 billion. This report offers an understanding of the scale of change anticipated by RIIO, the risk this entails, and how ready energy networks feel they are to respond. Will RIIO be a game changer for the industry or simply business as usual with add-ons? Key messages from the survey l RIIO will indeed be a game changer for companies and individuals, with the strongest sense of change coming from the electricity networks. l All networks see RIIO as introducing significant risk with customer service as the lead item. The electricity sector has the strongest sense of overall increased risk. l Confidence about current performance under the six RIIO outputs was high across the piece but doubts were raised over connections, which has implications for customer engagement. l While all networks consider customer service as challenging, most respondents mark their customer service preparations as advanced. l Networks anticipate asset management will be a pivotal area for innovation. And the advent of smart grids is likely to spur advances in this area. l Networks expect RIIO to ask questions of their capital programmes but show confidence that they are aligned with the new regime. However, supply chain choices could jeopardise innovation and cost reduction opportunities. l Whilst RIIO presents a challenge for networks, there is confidence that there are opportunities to get it right. RIIO an overview RIIO was designed to address issues arising from moves to a low-carbon energy sector that are imposing change on every part of Britain s energy networks. Developments including smart technology, low-carbon production and renewable gas sources bring challenges and Research methodology The objective of this research was to evaluate energy network companies measures of the impact of Ofgem s new regulatory regime, RIIO. Utility Week and EC Harris, via researcher Insight Advantage, sent an online questionnaire to senior decisionmakers (typically heads/ directors of regulation, customers, and finance) in all distribution and transmission companies in gas and electricity. We had responses from 27 individuals representing transmission and distribution companies in Britain s gas and electricity sectors. Respondents were guaranteed confidentiality. Consequently, all responses are reported in aggregate only, and all quotes from survey respondents are anonymous. 80% The number of respondents who see customer service as the key risk associated with RIIO opportunities to energy distribution and transmission businesses. But RIIO introduces new uncertainties and takes networks into new ground. Headline changes under RIIO are: l longer price control period eight years from five l an emphasis on innovation with funding competitions l output-based regulation l fast tracking an early start to operations under the price controls for networks whose business plans line up fully with Ofgem s view and l an emphasis on customer service. The RIIO price controls for gas and electricity transmission (T1) and gas distribution (GD1) came into force in April this year. Those for electricity distribution (ED1) are currently mid-process and are scheduled to apply from April READY FOR RIIO 1. Change and challenge l Electricity sector feels a stronger sense of change than gas 2. Risk l Over 80 per cent see customer service as key risk l Delivery of outputs second highest risk for gas 3. Readiness l Nearly 80 per cent feel RIIO would be fully embedded within the first control period 4. Customer l All see customer service as most challenging area but most say they are well prepared 5. Innovation l Both gas and electricity sectors are focusing on smart assets and demand side management l 80 per cent view smart technology as the key innovation area 6. Capital programme l Nearly all respondents claimed good alignment between RIIO asset management and capital delivery plans l Very diverse but traditional responses to supply chain based around framework contracting UTILITY WEEK December

4 2 change and challenge Game changer Utility Week and EC Harris asked respondents to indicate how much RIIO would change their business and their personal role. Over half of the survey respondents agreed that the new regime will be a game changer for themselves personally and for their organisation. RIIO is a game changer for your business 11% 1 56% RIIO is a game changer for your role 11% 22% 1 37% 19% Respondents from the electricity sector were strongest in the view that RIIO will be a game changer, with more than 70% seeing it as such, compared to gas s 56%. RIIO is a game changer for your business % 56% 72% Overall Gas Electricity A majority of respondents agreed that significant changes would be needed in their organisation to succeed under RIIO. Significant changes in your organisation will be needed to succeed under RIIO 7% 30% 4 11% KEY FINDINGS l RIIO is expected to be a game changer by the majority of respondents, particularly those from the electricity sector l There is less clarity on what this will mean in practice, though respondents seem confident they are equipped to cope with the changes RIIO will entail l While the overwhelming majority of respondents agree that RIIO will create new challenges for their capital programme and supply chain management, only half anticipate a shift from major projects to low value, high volume work 67% 13% Number of respondents who agree or strongly agree that RIIO is a game changer for their business However, one in ten respondents disagreed or strongly disagreed that such changes would be necessary, while one in three neither agreed or disagreed. Commenting on the findings, UKPN s director of strategy and regulation, Ben Wilson, points out that RIIO has revolutionised the way companies approach the business planning process, while involving less change on an operational basis. The framework is not that different what is different is our behaviour, there will be much, much more stakeholder and customer engagement, he said. This distinction goes some way to explain why only 41% of respondents agreed or strongly agreed that RIIO would introduce significant new risk into their business. RIIO introduces considerable new risk into your business 22% 33% 33% This reflects a noticeable confidence among businesses that they are well equipped to deal with the changes RIIO will entail. Ofgem s senior partner for distribution, Hannah Nixon, welcomed the findings. She said: RIIO was designed to change behaviours quite fundamentally and get the networks thinking about their businesses and customers in a different way. It is a game changer, and does provide a big challenge for many of the network companies. Capital programmes Respondents overwhelmingly agreed that RIIO will create new challenges for their capital programmes, with 90% of electricity sector respondents and 77% of gas sector respondents agreeing or strongly agreeing. RIIO will create new challenges for your company s capital programme and supply chain management 5 33% However there was less consensus on whether this will result in a shift from major projects to capital maintenance 4 December 2013 UTILITY WEEK

5 change and challenge (cont D) 2 OPPORTUNITIES l RIIO creates the framework and incentive to manage capital programmes in a new way; not all companies have fully exploited this opportunity l Linking asset investment plans with customer outcomes in a clearer way should help drive prioritisation of work delivery activities l If this prioritisation approach is communicated effectively, it will help improve customer engagement and satisfaction and low volume, high value work under the coming RIIO period, with 5 of respondents agreeing or strongly agreeing that it would do so. There will be a shift in your capital programme from major projects to capital maintenance and low-value high volume work under the coming RIIO period 13% 33% 46% Again, this suggests that some businesses may not have fully digested the implications of the changes that RIIO entails. 41% Number of respondents who agree or strongly agree that RIIO introduces considerable new risk into their business Lessons so far Speaking to stakeholders and coming up with solutions to problems together - this worked really well and was a huge benefit. We are very early on, but making sure you have a coherent strategy reflected in your programme of works - ensuring you demonstrate a cohesive strategy to Ofgem. Customer service and asset management. Only some suppliers have bothered to research what this means to our supply chain and future contracting models. UTILITY WEEK December

6 3 risk We asked respondents to estimate the risk that comes with RIIO in a number of regulatory and business areas. RIIO ups uncertainty Two out of five respondents agreed that RIIO significantly increased business risk. There was a stronger sense of risk in the electricity sector with slightly over half the respondents agreeing or strongly agreeing compared to just 11% in the gas sector. RIIO introduces considerable new risk into your business 22% 33% 33% RIIO introduces considerable new risk into your business % 11% 56% Overall Gas sector Electricity sector Commenting on the results, Ofgem s senior partner for distribution, Hannah Nixon, points out that the regulator never intended for RIIO to change the risk profile of the business. That s reflected in the fact the financial packages we ve put in place for the gas distribution and transmission businesses are not that different from those we see historically, she says. The main element of risk in RIIO is management risk, Nixon added. Commenting on the findings, UKPN s director of strategy and regulation, Ben Wilson, agreed that while networks faced greater external risks, RIIO itself provided more business certainty. The RIIO framework reduces risk, particularly on cost of debt allowance, and by introducing an eight year price control rather than five, he said. KEY FINDINGS l Only two out of five respondents agreed that RIIO introduces significant new risk into their business, though this figure rises to slightly more than half for the electricity sector l The biggest risk is meeting the higher requirement for customer service introduced under RIIO l The second biggest risk identified by the gas sector was the focus on outputs, although this was considered less of a risk in the electricity sector 11% Number of respondents from the gas sector who agree that RIIO introduces considerable new risk Customer challenge Of 14 operational and regulatory issues, all but one were scored by respondents as greater than moderate risk. But the greatest risk was seen in the challenge of meeting customer service requirements laid out in RIIO. It was considered high-risk across the board by three quarters of respondents or more. Customer satisfaction is considered to be most significant regulatory risk. On a scale of 1 to 5, how do you rate the significance of the following regulatory risks under RIIO? % 16% Length of price control 16% 56% 2 52% Uncertainty Timing of rev mechanisms adjustments GBEU legislation Cost of debt approach n 1: Not at all significant n 2 n 3 n 4 n 5: Very significant Incentive rate Customer satisfaction One respondent identified the costs associated with increased expectations of customer care, adding: This means that customers will ask for more than normal within the service replacement work and the utility will have to provide the additional service at no cost to the customer but a significant add on cost to the utility. Ofgem s Nixon was pleased that respondents had acknowledged the risk associated with customer service. She said: I m glad that came out strongly we wanted to put much, much more emphasis on stakeholder engagement and everyone has found that hard. It s very much a learning process. 36% 40% 36% 4 20% 36% 40% 2 56% 6 December 2013 UTILITY WEEK

7 risk (cont D) 3 3 Number of respondents who consider risk arising from the focus on outputs as very significant OPPORTUNITIES l With customer service recognised as the biggest risk, there is a clear opportunity here for those organisations that are able to best respond to the customer agenda l Lessons could be learned from other sectors, such as retail, where engagement and satisfaction measurement have been transformed l The use of social media and technology to enable user compliments and complaints for customer service can help improve consumer interaction l Innovation and customer service should not detract from the need to continue to deliver outputs, and the reward for doing so cost effectively within a totex environment RIIO is associated with above average risks across many business areas. On a scale of 1 to 5, how do you rate the significance of the following regulatory risks under RIIO? % 27% 15% 42% 15% 39% 40 39% 3 42% 3 27% 31% 20 15% 0 Pension Totex Real price Cost Scale of Demand for costs approach effects recovery investment new net. capacity n 1: Not at all significant n 2 n 3 n 4 n 5: Very significant Smart meter impltn. Focus on outputs Outputs The second biggest risk identified was the focus on outputs under RIIO. Responses here were polarised with 38 per cent considering risk arising from the focus on outputs as very significant while 16 per cent considered it of low significance, including 8 per cent who deemed it not at all significant. The low-risk scores were driven by the DNOs where nearly 17 per cent rated the focus on outputs as not at all significant. The unknowns Respondents expressed concern about managing unexpected events under the new framework. Should a high value project occur (an unforeseen large project) - maybe not predicted in the price review - that would be a definite risk, said one respondent. Another was concerned about less unexpected possibilities: Demand is static currently. Should a carbon plan option occur, such as electrification of energy, it represents serious funding risk for us to be able to cope with a doubling or tripling of demand. This theme was echoed by another respondent who cited Changing demands or end use of energy as a significant risk. 15% 46% 15% 46% 19% 42% 31% 3 31% 15% UTILITY WEEK December

8 4 readiness We asked respondents to rate their organisation s current standing on each of the RIIO output categories, which are: l safety l environmental impact l customer satisfaction l social obligations l connections l reliability We also asked how likely they were to have all outputs in place as business as usual by the start of the next price control review. Safe and reliable All respondents scored safety and reliability as their bestperforming RIIO output areas. These are time-honoured success stories for the energy networks. The electricity sector showed the greatest confidence in its reliability with half of its respondents rating it as excellent. A third of gas respondents gave themselves the same rating. Scores for the remaining four primary outputs were strong with good or excellent ratings in the range of per cent. Companies are very confident on rating their safety and reliability outputs. On a scale of 1 to 5, confidentially, how would you rate your company today on the six RIIO output categories? % 37% 26% 30% 33% 33% 3 15% 11% Connections Social Customer services 33% 4 22% n 1: Very poor n 2 n 3 n 4 n 5: Excellent 26% 22% 4 37% 19% 7 22% Environmental Reliability Safety KEY FINDINGS l More than 80% of respondents were confident RIIO outputs would be fully embedded in their business during the first price control period l Respondents across the board identified safety and reliability as their best performing RIIO output areas l Confidence in connections was notably lower in the electricity sector 7 Number of respondents who rate their companies excellent on RIIO s six output categories Weak connections The lowest outputs score was for connections. About 15 per cent of all respondents gave low ratings to their operations in connections. This was more pronounced in the electricity sector, where half the respondents gave their organisation medium to low scores on their performance in connections. In contrast 78 per cent of gas sector respondents rated their organisations performance as good or excellent. Business as usual Respondents were confident that RIIO outputs would become part of business as usual within the first price control period. Electricity industry respondents were marginally more positive with 82 per cent predicting that RIIO would be fully embedded by the start of the next price control while 76 per cent of the gas sector respondents gave the same forecast. David Smith, chief executive of the Energy Networks Association, said the findings chimed with his own experience. There s a very strong sense now that these outputs need to become business as usual, he said. We are seeing very high standards of safety and reliance, and a good understanding that there needs to be change in other parts of the business. TAKING THE FAST TRACK While respondents from the electricity sector were overwhelmingly positive about their business s readiness for RIIO, and their prospects for embedding the approach as business as usual, Ofgem s initial assessment of their business plans seems to tell a different story. Only one DNO, WPD, achieved fast track status in November 2013, with Ofgem sending the others back to do more work, particularly around cost. Three licensees have significantly more work to do on outputs, while three have some further work to do. 8 December 2013 UTILITY WEEK

9 readiness (cont D) 4 42% Number of respondents who agree their company is fully prepared to operate under the totex evaluation in RIIO OPPORTUNITIES l Measuring implementation of RIIO readiness plans using a combination of capability input metrics as well as hard tangible outputs will enable DNOs to plan and track their progress l Cross-sector comparisons for asset management capability and alignment to customer outcomes, such as the water industry s approach to AMP6 and the use of customer challenge groups may be helpful l Aligning objectives within the RIIO delivery organisation (DNO and supply chain), with clear roles and responsibilities, will enable the right focus on benefit delivery TotEX Respondents overall claimed to be prepared for the change to a total expenditure (totex) approach to assessing costs. However it was noticeable that a significant number of respondents in the electricity sector neither agreed nor disagreed that they were fully ready for totex. This was slightly more pronounced in the distribution sector, with 36 per cent of distribution respondents answering that way compared to 25% of transmission respondents. My company is fully prepared to operate under the totex evaluation in RIIO 25% 42% 33% LESSONS SO FAR [Focus on] outputs and delivery instead of strategic considerations. Speaking to stakeholders and coming up with solutions to problems together - this worked really well and was a huge benefit. We are very early on, but making sure you have a coherent strategy reflected in your programme of works - ensuring you demonstrate a cohesive strategy to Ofgem. Customer service and asset management. Only some suppliers have bothered to research what this means to our supply chain and future contracting models. UTILITY WEEK December

10 5 customers RIIO s focus on customer engagement is arguably the biggest change of the new regime, taking networks into uncharted territory. Under RIIO, customers means householders and small businesses as well as the conventional network customers suppliers, generators and heavy industries. As noted in the previous section, respondents identified meeting customer service requirements as the greatest risk introduced under RIIO, with three out of four respondents admitting it was high risk. The industry seems to have acted to mitigate this risk. We asked respondents how well prepared they were for the new requirements around customer engagement. The response suggested that much work has already been done, with two fifths replying that their organisation was advanced, and a further quarter claiming to be very advanced. Two thirds are claiming advanced improvements in customer service. On a scale of 1 to 5, how advanced are your company s improvements in customer service towards fulfilling expectations under RIIO? 23% 41% Confidence Respondents also demonstrated confidence on their customer service as it stands. One in three respondents would give their customer service a five out of five rating today, and the same amount again would award themselves four out of five. This confidence was greatest among GDNs and n 1: Very early stages n 2 n 3 n 4 n 5: Very advanced 32% KEY FINDINGS l Customer service is widely acknowledged as the biggest challenge introduced by RIIO l However the majority of respondents say they are well prepared, and rate their current customer service highly l There is less confidence around connections, social obligations, and the risks associated with the smart meter rollout 19% comparative Number of respondents who rate the significance of the smart meter implementation risks under RIIO as very significant On a scale of 1 to 5, confidentially, how would you rate your company today on customer services? 11% 22% 33% 3 n 1: Very poor n 2 n 3 n 4 n 5: Excellent electricity transmissions respondents, and lower among DNOs, with some notable exceptions. David Smith, chief executive of the Energy Networks Association, suggested this may reflect the earlier start transmission and gas distribution businesses had with RIIO, giving them more confidence at a time when electricity distribution networks are just beginning the process. Asked to suggest a wish list for the outcomes of RIIO, respondents focused on the relationship with customers. One respondent aspired to ensure a much better relationship with the end customer. They suggested that the fact the distributor does not have to directly bill the customer created the opportunity for a more constructive relationship. Another respondent looked to acquiring: Customer satisfaction beyond its minimum requirements, and while others aspired to: Maximise our opportunities to operate efficiently through innovation, customer service and safety, and to change the culture of our organisation such that the focus is on always doing the right thing for the customer. Again there was a contrast in responses between the distribution and transmission businesses. DNO respondents were less confident that they were ready to score highly on the primary outputs of RIIO, while respondents from the transmission sector and GDNs reported a high level of confidence. Connections As previously noted, respondents acknowledged their weakness in connections, particularly in the On a scale of 1 to 5, confidentially, how would you rate your company today on connections? 15% 26% 37% 22% n 1: Very poor n 2 n 3 n 4 n 5: Excellent 10 December 2013 UTILITY WEEK

11 customers (cont D) 5 23% Number of respondents who say their companies are very advanced in improving customer service OPPORTUNITIES l The introduction of smart grids, growth in electric heating and domestic electricity production, the prospect of electric vehicle use and other low carbon-related change all create more opportunities for better customer engagement and collective decision making l Concentrated deployment of smart technology in pilot areas, potentially in collaboration with local authorities, could accelerate industry and customer understanding of smart benefits l Accelerating smart deployment may be perceived as a very positive move by the industry to reduce customer bills electricity sector. Overall, two out of five respondents gave their current performance on connections a score of three out of five or lower. This creates challenges for customer service. Respondents also showed some discomfort around the new social obligations introduced under RIIO. When asked how their business would score today on the RIIO outputs, respondents marked social outputs second lowest, after connections. On a scale of 1 to 5, confidentially, how would you rate your company today on social programmes? 33% 33% 30% n 1: Very poor n 2 n 3 n 4 n 5: Excellent Smart metering The rollout of smart meters has significant implications for the DNOs, being the first step towards smart grids, which could transform the industry. It also entails major risks, not least because it is being spearheaded by electricity suppliers, giving the DNOs limited influence or control, yet exposing them to a potentially large number of customer call-outs. We asked respondents to rate the risk associated with the smart meter implementation under RIIO. Three out of five respondents gave it a risk rating of four out of five or above. On a scale of 1 to 5, how do you rate the significance of the smart meter implementation risks under RIIO? 31% 42% 19% n 1: Not at all significant n 2 n 3 n 4 n 5: Very significant UTILITY WEEK December

12 6 innovation We asked respondents to rank the importance of innovation for six key business areas connections, social, customer services, environmental, reliability and safety. We also sought their views on what role smart technology would play in innovation. All areas All respondents forecast in overwhelming percentages that innovation was going to play a significant role in each area, with at least three out of five respondents saying each area would be significant or very significant. Innovation will play a strong role across all areas of the business. On a scale of 1 to 5, how significant do you anticipate innovation will be for each of the following key business areas under the coming RIIO period? % 4 40% Network upgrades Safety Customer service Demand side sustainability n 1: Not at all significant n 2 n 3 n 4 n 5: Very significant Asset management Smart technology Commenting on the findings, Ofgem s senior distribution partner Hannah Nixon said they reflected a new dynamism in the sector, and praised businesses for their positive response to various funding initiatives around low carbon networks. UKPN s director of strategy and regulation, Ben Wilson, said the most important element of innovation was its impact on the bottom line on customer bills. UKPN, for example, has included 135m of cost savings through innovation in its ED1 business plan. Nixon said she expects further, greater 2 56% 32% 52% 40% 37% KEY FINDINGS l Both gas and electricity sectors are focussing on smart assets and demand side management l Four out of five view smart technology as the key area for innovation 32% Number of respondents who anticipate that innovation will be very significant for asset management under RIIO savings to come across the sector. Verbatim responses on being asked to describe other significant areas of innovation for your company under the coming RIIO period were wide ranging. Examples included: Fulfilling social obligations engaging communities and building relationships, and Bio-methane technologies and tablet/ smart phones technology. Also, innovation featured in respondents examples of critical changes need to deliver RIIO (see box). Smart assets Asset management and demand side response were ranked equal first as the most significant areas for innovation. Demand side response - contracting with consumers to reduce their demand rather than increase generation to meet it - holds the potential to cut carbon demand immensely, but it has long been an elusive ambition for the electricity industry. Inevitably, most (80 per cent) respondents shared the view that smart technology will be a leading area for innovation. The importance of this innovation in meeting RIIO s goals was demonstrated by the three-quarters of respondents who agreed or strongly agreed with the statement that: Technological developments related to the move to smart grids will have a vital role in enabling your company to achieve its anticipated innovation and outputs. Technological developments related to the move to smart grids will have a vital role in enabling your company to achieve its anticipated innovation and outputs 25% 5 21% 12 December 2013 UTILITY WEEK

13 innovation (cont D) 6 ALL CHANGE We asked respondents what they considered to be the critical changes needed in their organisation to deliver the RIIO programme? Structure, innovation and developing innovation. Developing behaviours and co-operation across networks. Staff restructuring - reduction in operating expenditure. We ve got to be better at taking projects that we ve proven as R&D into the business as usual. Absolute clarity on achieving unit cost efficiencies and embedding customer service and stakeholder engagement throughout the entire organisation. Supply chain engagement and efficiency. Change of mindset to deliver outputs. Active management of the regulatory contract. Long-term contracts, recruitment of apprentices, graduates and specialist engineers. Productivity of mains replacement and service pipe replacement squads with customer focus always at the forefront. Delivering output measures in an efficient way. 1 Number of respondents who disagree that RIIO addresses fully the range of challenges facing energy networks OPPORTUNITIES l The potential of demand side response to meet sustainability objectives is widely acknowledged, but needs to be deployed effectively l Harnessing the collective capability of the supply chain through the procurement models for RIIO-ED1 will enable innovation to be captured and deployed l Recruiting, training and/ or developing the workforce in house and via the supply chain to deliver future technologies, improve efficiency and respond to customer requirements Future proofing Looking ahead, the majority of respondents agree that RIIO fully addresses the range of challenges facing energy networks. However a notable minority two out of five either disagree or neither agree nor disagree, suggesting that the new regime has yet to convince the entire industry that it is fit for the future. RIIO addresses fully the range of challenges facing energy networks 1 15% 52% 11% Confidence here is noticeably higher among the gas sector, with 7 agreeing, compared to 56% in the electricity sector. UTILITY WEEK December