H2Orizon presentation Tom Kiedrowski 21-09-18

1. Regulatory approaches and reform in the UK Tom Kiedrowski tom@cedartreeadvisory.com Managing Director, Cedar Tree Advisory Service 21 September 2018 1

2. Introduction • Water and wastewater sectors in the UK is governed by four separate regulatory regimes • There has been a great deal of experimentation particularly in Scotland and in England Wales which is different from the approaches taken elsewhere in Europe and the rest of the world. • Let me take you through them and then we can have conversation in a wider context … 2

3. • Water and sewerage management involves a two way process as follows: • First, fresh water is abstracted (with separate licences obtained form the EA), stored and treated and then distributed to customers by the regional, Ofwat licensed water companies (the WoCs and WaSCs) • Second, waste water is collected, treated and disposed by those regional companies who also have licences from Ofwat to treat sewerage (the WaSCs) Abstraction Storage & Treatment Distribution CollectionTreatmentDisposal Customer facing Source: Water UK Scotland • Publically owned wholesale company • Privately owned retailers • Fully customer funded England • Publically owned wholesale company • Privately owned retailer • Fully customer funded

4. Ofwat’s Priorities for PR19 4

5. Source: Ofwat

6. Markets across the value chain Source: Ofwat

7. Non-household retail competition • We have had retail non-household competition in Scotland since April 2008 and since April 2017 in England • Good for non-household customers in number of ways

8. Non-household competition: growth of switching Source: MOSL

9. Household competition? • What about households? • As part of Autumn Statement Government asked Ofwat in November 2015 to assess costs and benefits • Ofwat published its emerging findings in July 2016 and considered it to be a good thing • It’s all gone very quite though and the margins would be even tighter in the household than non-household market Source: WICS

10. Customer Challenge Groups in England and Wales • Ofwat, created a customer advice panel relating to its overall price review methodology, while also requiring each water company to set up a customer challenge group (“CCG”) for the 2014 price review (“PR14”). • PR14 was notable for its emphasis on including customers’ views throughout the process. The aim is now for the next periodic review, PR19, to build on the PR14 experience. • Subsequent independent analysis of the PR14 process identified four key areas where there was scope for improvement including: • a clearer definition of the role of the regulator versus the role of the CCGs; • the timing of Ofwat’s input; • the design of CCGs; and • the extent to which Ofwat should factor CCG-water company agreements into its regulatory determinations.

11. Customer Challenge Groups in England and Wales • Ofwat, created a customer advice panel relating to its overall price review methodology, while also requiring each water company to set up a customer challenge group (CCG) for the 2014 price review (PR14). • PR14 was notable for its emphasis on including customers’ views throughout the process. The aim is now for PR19 to build on the PR14 experience. • Subsequent independent analysis of the PR14 process identified four key areas where there was scope for improvement including: • a clearer definition of the role of the regulator versus the role of the CCGs; • the timing of Ofwat’s input; • the design of CCGs; and • the extent to which Ofwat should factor CCG-water company agreements into its regulatory determinations.

12. Ofwat - triangulation of customer engagement for PR19 ]

13. Incentives-based performance mechanisms • In PR14 Ofwat introduced outcomes-based incentives regime in order to improve customer service and drive greater efficiencies within the water companies. • Companies were free to suggest financial or reputational rewards and penalties that they would apply to the delivery of those outcomes, based on engagement with their customers and the valuations that they placed on the achievement of performance commitments (PCs) and financial Outcome Delivery Incentives (ODIs). • Ofwat did not prescribe the type and form of these PCs or ODIs: • Companies were to set their own PCs and ODIs in consultation with their customers and these were ratified through the PR14 process. • Companies proposed a total of 171 outcomes, 515 performance commitments and 312 financial outcome delivery incentives. • In some cases these PCs and ODIs were developed through comparative benchmarking of different performance commitment levels across companies which were then finalised in the PR14 Final Determination. • At the Final Determination reflected a significant change from Ofwat’s initial business plan guidance as issues arose over the course of the periodic review process as Ofwat and the water companies got to grips with the practicalities and implications of applying the new approach

14. More standardised performance measures in PR19 1.A Customer Experience Measure (C-MeX): a mechanism that seeks to incentivise companies to provide an excellent customer experience for residential customers, across both the retail and wholesale parts of the value chain, replacing the existing Service Incentive Mechanism (SIM); 2.A Developer services Measure of experience (D-MeX): a mechanism that seeks to incentivise water companies to provide an excellent experience for developer (new connections) customers. These customers include small and large property developers, self-lay providers (SLPs), and new appointments and variations (NAVs); 3.Water Quality Compliance: to improve day-to-day performance in the quality of water provided by the companies 4.Customer water supply interruptions: this is to improve day-to-day performance to reduce interruptions to service but also to incentivize future performance and resilience in terms of the combined length of each interruption to supply affecting each property each year as a proportion of total properties 5.Leakage: again this is to improve day-to-day performance to reduce interruptions to service but also to incentivize future performance and resilience 6.Per capita consumption: ditto because in both energy and water the aim is to reduce consumption not to increase it unlike broadband 7.Internal sewer flooding (applies to WaSCs only) 8.Wastewater pollution incidents (applies to WaSCs only) • 9. Risk-based resilience metric (water): This to improve incentives for both WaSCs and WoCs to improve their performance with respect to drought risk; • 10. Risk-based resilience metric (sewerage): A WaSC only commitment designed to better address flooding risk • 11. Asset health (water mains): for both WaSCs and WoCs, the number of burst water mains that a company experiences in a given period (seen as a measure of the health of the assets) • 12. Asset health (unplanned outages): the extent which unplanned events lead to a reduction in the maximum sustainable production capacity of a company and the length of time and impact of those events (also seen as a measure of asset health). • 13. Asset health (sewer collapses) (applies to WaSCs only). • 14: Assesst health (sewerage failure causing pollution) (applies to WaSCs only).

15. Views of domestic customers • On 26 July 2018, CC Water published its latest annual research report , which tracks household Customers’ views on their water and sewerage services and how these have changed over time. • The research found that satisfaction with water and sewerage services remained high in 2017, with most customers reportedly confident that their water supply will be available in the longer term without restrictions. • Most customers believe that water companies care about the services they provide and this level of care is ahead of energy companies, as is the level of customer trust in water companies, which has increased since 2011. • Satisfaction with the value for money of sewerage services has also increased since 2011, whereas satisfaction with the value for money of water services has remained static. Perceptions of fairness and affordability of charges are also flat over the last seven years.

16. Changing attitudes towards privatisation • A poll last year undertaken by the think tank, the Legatum Institute, and polling company, Populus, found that respondents supported nationalisation as follows: • Water (83%) • Electricity (77%) • Gas (77%) • Railways (76%) • There have been similar finding in polling conducted by YouGov

17. EFRA Committee concluding its inquiry into water regulation • In May 2018 the Environment, Food and Rural Affairs Committee (EFRA) began an inquiry into: • how well the water industry serves consumers and the environment; • how innovation can be encouraged; and • whether current regulatory enforcement mechanisms are fit for purpose. • The terms of reference of the inquiry extend to consideration of the potential benefits of regulatory divergence post-Brexit. • EFRA has received written submissions which were published on 5 September. • Final report will be published in due course.