Annex A – Yorkshire Water’s response to selected aspects of Ofwat’s submissions of 16 June Issue Ofwat ’s position YWS’s position Ofwat! "ross cutting issues – response to companies’ $7 &ay submissions to the "&A Cos t effi c i ency App li cati on o f [para 2. 14] Y or k s h i re Wat er (YWS) did Wh ether or no t YWS appli e d a fron ti er s hift assumpti on is irre l e(an t as it does no t f orm the &enc h mar k frontier shift to not apply a net frontier shift adjustment to under 'f%at* s approach. See YW)* s +esponse to 'f%at* s +eply (Response) – +esponse-.nnex 11-0.4.4. enhancement en hancement costs (including W !"# 1he key issue is the frontier shift assump tions of the &enchmark companies. 'f%at has pre(iously stated costs and metering costs), so it %as reasona&le that only the frontier shift assumptions of the benchmark companies are rele(ant: 'f%at +eply3440-5.65. for 'f%at selecti(ely to do so. [para 2. 21] ! one o f th e f our compani es This po i n t h as a l rea d y &een a dd resse d i n the par ti es ’ pre(i ous su & m i ss i ons 2 %hich are W !"#3cost efficient applied a YW): )tatement of 7ase (SoC) – )o7-241 and .nnex 6; +esponse-5.49.132 net f rontier shift challenge to their for%ard3looking costs , so there is no 'f%at: 'f%at +eply3440-5.65; 'f%at +eply3449-:.9:3:.:2 e(idence that 'f%at*s net fro ntier shift Specifically, as a&o(e, it is rele(ant to check %hether the &enchmark companies ha(e applied a frontier shift challenge dou&le counts efficiency gains. challenge. Whether YWS did so is irrele(ant. YWS has [para 2. 59] 1h ese cos t s seem h igh . t is 'f%a t* s sugges ti on tha t YW)* s es ti ma t e ;seems hig h” h as no e( id en ti a l & as i s. .s e/p l a i ne d i n requested an important that YWS &e in centi(ised to +esponse-.nnex 24, there %ere three key considerations &ehind YW)* s cost estimate: uncerta inty incur costs efficiently so any uncerta inty YW)*s efficient "D costs of >104m %ere deri(ed from a &ottom3up assessmen t using YW)*s unit mechanism fo r its mech anism should ha(e a conser(ati (e cost data&ase, %hich contains its historic outturn costs. YWS then applied an upfront efficiency £150m Industrial allo%ance for costs and a high sharing reduction of 20?. Emissions factor for customers. Directi e (IED" There remains uncertainty around the cost of compliance %ith "=. 1he cost is likely to &e highly compliance costs site specific and %ill depend on a (ariety of factors such as the age of sludge assets. The cost 1 Issue Ofwat ’s position YWS’ s position re@uir ements fo r each site %ill &e finalised once detailed consideration has &een gi(en to each site as part of the permitting process. YWS are in the process of applying for a permit under "D for assets in Aull and this e/perience reinforces the (iew that compliance costs are likely to &e far higher than the EA estimate. .s to the operation of the uncertainty mechanism, this should &e b ased on the &est a(aila&le central3case estimate of costs. Boreo(er, it s hould &e &orne in mind that 'f%at has already imposed a (ery high sharing factor %ithin the general totex sharing mechanis m, %ith sharing factors for customers of the order of 90? due to the %ell documented fla%s in 'f%at*s assessment of efficient costs. Co i d#1$ Impac sto f C o id# p[ara .42] 1 eh (as t ma ojri yt of t eh ' %fat ahs edscri e&d s ect oin 4 of t ehcross c3utt nig sisues paper as con atninig new e(i ednce on appl cia& el 19 p otential impacts r aised &y the disputing reconciliation adjustment, yet all of the comments appear to relate to a letter sent to all %ater company companies can &e addressed (ia e/isting 7"'s as long ago as mid3Barch. Boreo(er, YWS %ould &e concerned if 'f%at had already decided ho% #+19 mechanisms. it %ill respond to %hat remains an e/tremely uncertain and rapidly changing situ ation, %ith multiple factors that are %holly outside the control of companie s. 'f%at goes on to state (in para 4.14) that softening or remo (ing performance co mmitments risks unnecessarily distorting or remo(ing incenti(es wh ich &enefit customers. Cut there is no mention of the need to ensure that incenti(es designed for a %orld %ithout 7o(id3 19 or its impacts and limitations, do not distort the costs and achie(a&ili ty of targets, to the e/tent that they: Cecome economically irrational %ith the efficient costs of achie(ement far out%eighing customer &enefits deli(ered. =o not account for the necessary restrictions in acti(ity that %ater companies ha(e had to comply %ith meaning that some acti(ities ha(e &een fully paused or significantly reduced. n any e(ent, YWS disagrees %ith 'f%at*s assertion that e/isting mechanisms address this situation: 2 Issue Ofwat ’s position YWS’ s position The rele(ant mechanisms a(aila&le to 'f%at to deal %ith in .3BP incid ents are as follo%s: Interim determination !IDOK) apparatus. 1his is designed to deal %ith cost shocks – %hereas the early e(idence already poin ts to the principal impacts of 7o(id319 &eing on re enue reco(ery$ specific performance commitments (especially those regarding aspects of customer &eha(iour) and financial '= s (especially %here s u&ject to annu al in3period ass essment), thus rendering the ='D me chanism unsuita&le in these circumstances. n addition, the specific conse@uences of the hiatus in the non3residential retail market and the solutions re@uired from %holesale companies %ill need to &e dealt %ith. This is not pro(ided for in the ='K apparatus. In#period assessment of %DIs. 1here is no precedent for in3period assessments to deal %ith ne% circumstances. ndeed, one of the principles th at 'f%at has follo%ed in #+14 is that all companies should adhere to the agreed '= s. Boreove r, at the time of %r iting, 'f%at has yet to pro(ide any insight on the method that 'f%at %ill re@uire to assess the in3period '= s for #+16, far less any ne% process to deal %ith 7o(id319 impacts. .s pre(iously ad(ised, YWS %ill pro(ide an update to the 7BA in late3July of its &est a(aila&le (ie% regarding the scale of 7o(id319 impacts, and the e(idence a(aila&le. While YWS %ill endea(our to pro(ide as much clarity as possib le, its strong e/pectation is that there %ill remain important ele ments %her e the impacts remain uncrystallised or su&ject to a major d egree of uncertainty. n these circums tances, rather than speculating on outcomes, YWS considers it %ill &e more effecti(e for the 7BA to limit its thinking on 7o(id319 to a small num&er of guiding principles, such as the follo%ing: 7lear rec ognition that the redeterminations ha(e not included an y recogniti on of 7o(id319 effects – and hence these remain to &e dealt %ith &y 'f%at in their entirety using su ita&le new mechanisms. 7lear recogn ition th at %hen 'f%at considers 7o(id319 effects, the disputing compan ies should &e treated in line %ith all other companies in light of the fact that this %ill not &e considered &y the 7B.. 3 Issue Ofwat ’s position YWS’ s position .ny rele(ant ;lessons learnt” from the redeterminations around incentiv e mechanisms and the &alance of risks f aced &y companies – applica &le to either 'f%at or companies – should &e reflected in 'f%at*s approach to 7o(id319 impacts to achie(e the &est outcomes for all stakeholders. Ofwat! (esponse to Yorkshire Water’s $7 &ay submission to the "&A &he resilience impact of the final determination & ehresil eince p[ara .24] ' %fat does no t e&l ei(e t aht it si YW) s*posit oin siset out ni o)7-2G5 et se@. impacts of the necessary or prudent for YWS to defer t is note%orthy that the deferral of capital maintenance necessitated &y the FD %as e/plained in the )o7$ final capital main tenance under the final meaning that 'f%at had ample opportunity to address this in its second3round su&missions. determination determination (FD). 1he cost allo%ance alle'ed (y YWS in the FD allo%s YWS to maintain its assets and resilience, undertake its re@uired enhancement programme and meet its #erformance Commitments. [para 2. 0] 1h e rea di ness % ith %hi c h YWS 1his m i sses the po i n t . YWS is no t suggesti ng tha t th e d eferra l of capit a l mai n t enance % ill result i n poorer is prepared to deprioritise capital performance during .B#:, such that underperformance payments %ou ld &e necessary.