Yorkshire Water is suggesting that a major overhaul of the Price Review process is needed to help address water sector challenges, together with a significant reassessment of how the water companies operate.

Yesterday the water company published a strategic plan setting out its aims for PR24 and beyond -PR24 and beyond - 10 years of investment? - the first in a series of longer papers over the next year.

The utility is outspoken in its views on the need for regulatory simplification, saying:

“ The current approach to price setting is elaborate and complex, it builds in significant cost which is ultimately borne by customers and the level of complexity makes it hard for the public to understand how the whole system works, therefore reducing trust and accountability.”

“It is estimated that the last periodic review cost industry and regulator in excess of £200m which is ultimately borne by customers. It has taken around four years and has yet to be completed.”

Decade of investment needed to tackle challenges including climate change and building increased resilience

Yorkshire Water has called for ten years of investment to tackle the challenges of combined sewer overflows (CSOs), climate change and the building of increased resilience.

The company believes regulatory reform will allow for increased investment in a variety of solutions to respond to growing public interest in CSOs and their operation, which will be further compounded by climate change and population growth.

The strategic plan urges government to provide earlier clarity and guidance on key priorities and improve the alignment of regulatory processes, with timescales in place within government, Ofwat and Environment Agency lining up to ensure solutions can be found.

Yorkshire Water is also calling for better recognition of partnership working with local authorities and a stronger voice for customers and regional stakeholders, as well as a simplification of the price setting process that will be more efficient, cost-effective and make it easier for customers to understand.

Introducing the plan, Liz Barber, CEO of Yorkshire Water, said:

"This year is a pivotal one, with crucial decisions set to be made that will dictate the direction the water industry takes in the coming years and shape its response to key challenges - climate change, resilience and CSOs.

"…we believe there is an opportunity for policy makers and regulators to implement reform to build greater flexibility into the way the sector can respond to these challenges. Increased flexibility will enable us, and other companies operating in the water industry, to enter a ten-year period of increased investment to tackle these issues in the interest of future generations.

“We are working to develop a new long-term strategy at Yorkshire Water, which will include measures to enable the sector to invest in infrastructure now, as well as allowing closer partnerships with local authorities to tackle flooding and build resilience. We believe regulation needs to recognise and adapt to the way investment will be delivered in the future, with nature-based solutions increasingly taking the place of hard civil engineering.”

"Partnerships between water companies and other public bodies will need to deliver shared, holistic solutions to shared challenges. Those such as Living with Water in Hull, comprising Yorkshire Water, Environment Agency, Hull City Council, the East Riding of Yorkshire Council, and plans for a similar partnership in South Yorkshire are key examples of what has been achieved so far, but further regulatory reform would allow for an even greater impact."

Describing the water companies as “anchor institutions within their regional economies”, the paper suggests that to enable them to fully respond to the challenges they face the government should consider changes to the way in which economic and quality regulation works.

Partnerships will need to move towards shared assets, common strategic and operational plans and even combined workforces

The paper says:

“Most of the challenges we face are not ours alone and can only be dealt with in partnership with others.”

“Those partnerships will need to evolve beyond the point of collaboration and move towards shared assets, common strategic and operational plans and perhaps even combined workforces.”

“As water companies evolve to deal with changing circumstances so the regulatory and policy regime within which they work will also need to be adapted.”

“A simpler process to allow investment decisions to be made more quickly and at cheaper costs is a priority. It should not take four years and incur significant costs for the price and investment cycle to be decided. Government and regulatory policy need to line up better and be more consistent so that investors can have more confidence in the stability of the regime which they are funding.”

According to Yorkshire Water, greater flexibility in the regulatory system will allow more partnership working. It would also encourage more use of innovative nature based solutions which are more sustainable and provide wider benefits to society – however, this would provide less certainty of outcome.

The paper says that a number of significant decisions will be made by government and regulators n the next year which will have a lasting impact on the water industry and its ability to invest in resilient infrastructure.

HM Treasury will be reviewing economic regulation and consulting on the first cross sectoral strategic policy statement setting out what government expects from all network regulators.

Next price review could help make up ground lost in “investment shortfall caused by PR19”

In the water company’s view the next price review could help to “make up ground lost in the investment shortfall caused by the PR19 price review.” In addition, PR24 needs to do more than just achieve a fair balance between investment and price in “a way which PR19 did not.”

“It needs to recognise that the way in which that investment will be delivered will be different. Nature based solutions will progressively take the place of hard civil engineering. Partnerships between water companies and other public bodies will need to deliver shared, holistic solutions to shared challenges,” the paper says.

The paper points out that Yorkshire Water is an “anchor” institution in Yorkshire - and a natural partner with other regional anchors such as local authorities, health and education providers and network utility providers.

Yorkshire’s anchor institutions face a number of common challenges

Emphasising that Yorkshire’s anchor institutions face a number of common challenges, Yorkshire Water says:

“Responding to these will be the most important drivers behind our approach to at least the next two price reviews.”

Challenges highlighted in the paper include:

Climate resilience

In recent years Yorkshire has been impacted by the Boxing Day floods in 2015, severe flooding in south Yorkshire in November 2019 and the impacts of Storms Ciara, Dennis and Jorge in quick succession in 2020, all of which had significant impacts on the people and businesses of Yorkshire, and on operations at Yorkshire Water.

Demographic changes

The population of Yorkshire has increased sharply over the last 35 years and will keep growing, with an increase of 855,000 people predicted over the next 25 years. Yorkshire households are predicted to increase by 30% by 2033, with a third of that growth coming from an increase in single person households.

Changing public expectations

Public expectations of the water industry are changing, which is driving demand for increased investment.

Generational fairness

The challenges mean there is an inevitable need for significant investment to adapt to the changing environment and provide resilient infrastructure for the future. The paper says it is important that “the costs of climate change and resilience are distributed fairly across generations and not pushed into the future in an attempt to keep bills low in the short term.”

Public accountability

The paper also has some forthright comments to make on public accountability. Pointing out that water and energy services do not have direct democratic accountability, Yorkshire Water says this is “a deficit which has been historically filled by economic and quality regulators” answerable to parliament.

“Whilst this provides some public accountability, the reality is that all regulators are distant from consumers and are widely viewed as anonymous bureaucratic entities whose workings are a mystery. The complexity of the regulatory process adds to this sense of alienation.”

“Many regard the provision of water and sewerage services as a straightforward, if critical enterprise and cannot comprehend why price reviews take four or five years to conclude only to emerge with a contested and impenetrable outcome.”

Maintaining investor confidence

Commenting on the need to maintain investor confidence, the paper says delivering private investment has always involved drawing a balance between a fair return to investors and ensuring that prices to consumers remain proportionate and affordable.

According to the water company, there is “a perception that this precious balance has been lost in recent years. Disquiet at historic shareholder returns permitted by earlier regulatory policy led to action at PR19, aimed at preventing any further occurrence but appearing to some to also punish investors for past behaviour.”

It goes to refer to credit rating agency Moody’s description of the reduced stability of the UK regulatory regime as “part of the reasons for its downgrading of a number of UK water companies.”

“ It is critical that domestic and international investors view UK infrastructure as a safe and fair investment and these downgrades, prompted by regulatory decisions send the wrong message at a dangerous time,” the paper suggests.

Partnerships – the next stage

Yorkshire Water also highlights the fact that while greater use of partnership approaches is becoming increasingly important, they “test the boundaries of current regulatory approaches as new and different types of assets are deployed and ownership is shared.”

According to the utility, however productive partnerships with other regional anchors are, they will need to evolve and take on new dimensions if they are “truly to deliver” on shared objectives and challenges.

Yorkshire Water says that while its thinking on the structures which may emerge is still in development, taking partnerships to the next level “may well bring the following elements”:

• A formal role for local authorities in determining Yorkshire Water’s strategic plans, investment, and service priorities. This will go beyond the normal stakeholder engagement process which accompanies the traditional Ofwat periodic review and will ensure that water company plans are well aligned with regional priorities. This will also fill a democratic deficit and bring greater levels of public accountability.

• A move towards greater alignment of investment and operational plans amongst all authorities concerned with regional infrastructure development. This would involve a harmonisation of strategic investment cycles to ensure that best use can be made of shared funding opportunities.

• Integrated catchment management and more use of nature-based solutions means that accountability for the management of water will be shared between water companies, other landowners and agencies and local authorities. Assets such as sustainable urban drainage systems will be jointly owned and maintained by partners who have a common interest in shared outcomes.

Flexible regulation - greater use of outcome regulation now needed

Yorkshire Water believes that while the current model of economic regulation has worked well with a stable sector of companies largely “working unilaterally to deliver services in the confines of their catchments”, it will need significant adaptation to enable challenges to be met.

It also wants to see earlier guidance and direction from government, with policy and regulatory frameworks better coordinated so government’s policy objectives are set “at the very outset of a price review rather than mid-way through.” In addition, more effective alignment between economic and quality regulators to ensure coherence of process and objectives will be required.

“ The creation of the Regulators’ Alliance for Progressing Infrastructure Development (RAPID) and the early discussions on the Water Industry National Environment Programme (WINEP) are a promising start to this process but they need to go much further,” the paper says.

It goes on to suggest that while the current system has been very effective at driving value for money and protecting the interest of customers, the approach now needs to see greater use of outcome regulation. The current system “contains an inherent bias towards traditional engineering solutions which can be more easily evaluated, and which provide more certain results”.

“The setting of desired outcomes and greater flexibility over how those outcomes are achieved would drive more innovation and offer greater value for money.”

Asset flexibility - “response to climate change will mean we will need to use more unorthodox assets”

Yorkshire Water is also looking for greater asset flexibility, commenting that climate change response, partnership working, and the increasing use of nature-based solutions will need a more flexible approach to assessing the value and status of assets.

The paper says:

“Traditional engineered assets which sit on water company books are straightforward to assess in terms of whole life cost and easy to regulate in terms of their outputs.

“Response to climate change will mean we will need to use more unorthodox assets some of which we will share with other partners. Regulatory accounting can’t recognise this type of asset as it stands and there is therefore a disincentive to invest and innovate in this way.”

Innovative funding approaches needed

Referring to innovative funding approaches for delivering nature-based solutions, partnership initiatives and multi-AMP plans, the paper points out that innovative solutions delivered in partnership with other organisations often “do not fit into traditional funding and accounting processes.”

In addition, nature-based solutions also often work on longer timescales when compared to traditional engineering solutions and may not deliver results within the timescales of the current regulatory process. In Yorkshire Water’s view, “new approaches are needed which allow water companies to fund different types of assets, that may be owned by other organisations, and which may take multiple AMPs to be delivered.”

The utility also suggests that anchor institutions like local authorities and metro mayors should have a bigger role in shaping companies’ business plans, particularly as the water companies begin to tackle shared challenges in partnership

Yorkshire Water will be publishing more detailed plans for PR24 and beyond in the coming months.

Click here to download PR24 and beyond - 10 years of investment? in full