Ofwat’s challenge to water companies to save money must be met by boosting capital efficiency
For an uncomfortable few months last year, the bosses of Britain’s Big Six energy companies found themselves cast in the role of public enemy number one.
Energy company grandees were pilloried in the media and grilled by MPs in an echo of the banker-bashing seen at the height of the financial crisis.
While the UK’s water companies largely escaped the scrutiny endured by the energy firms, they soon felt the effects indirectly. Shortly after the outcry over energy bills died down, the government wrote to the water companies to say, in no uncertain terms, that they too should keep price rises to a minimum.
Ofwat then rejected Thames Water’s plan to increase average bills by 8% - forcing the company to settle for a rise of just 3.4%. Six other major players in the industry – Anglian, Southern, Wessex, Yorkshire and Affinity Water, plus United Utilities – are now proposing to raise their prices by less than the amount allowed under the existing regulatory price limits.
Much of the industry is now grappling with a tough challenge – as the below-inflation price rises proposed by many companies for 2015 to 2020 will lead to a fall in revenue in real terms.
Investing without increased revenue
Against that backdrop, how can the water sector continue to invest to meet increased environmental requirements and higher levels of customer service while still providing reasonable returns for investors?
The decades since privatisation have seen the industry’s leading players adopt some widely divergent strategies, systems and processes
The short answer is by drastically improving its efficiency. Ofwat estimates that the industry as a whole has boosted capital efficiency by 70% since privatisation, and further capital efficiency savings of at least 20% over the next five years will be required to balance stakeholder requirements.
There can be no “one size fits all” recipe for capital efficiency, as the condition of the different companies’ assets – from reservoirs to water and sewage treatment plants and pumping stations – and the maturity of companies varies widely.
Also the decades since privatisation have seen the industry’s leading players adopt some widely divergent strategies, systems and processes.
But there are some common themes. The companies most likely to achieve efficiency savings are those that have a clearly defined set of priorities and objectives, and the commitment of everyone – from the leadership down – to make the change and not just accept business as usual. Also critical are collaborative and aligned supply chain relationships.
The challenge is to identify sustainable savings in the short, medium and long term – including those that can deliver quick wins such as ensuring projects are appropriately scoped to address the prioritised business risk – as well as longer-term efficiencies such as improvements to the operating model and procurement strategy.
Maximum bang for its buck
The water industry as a whole is expected to spend over £20bn on building and improving its infrastructure over the next five years.
To ensure it does so as efficiently as possible in the new totex (total expenditure) regulatory environment, it must make investment decisions based on “whole-life” cost (ie lowest total cost of ownership), rather than just the initial capital cost. Decision makers will need access to robust data and integration between the company’s asset management, operations and capital delivery functions.
Finally there’s the small matter of keeping the supply chain on side. Water companies must incentivise their suppliers according to performance.
This is already beginning to happen through the adoption of supplier performance models – such as the @One Alliance model originally developed eight years ago by Anglian Water with Turner & Townsend – which has created a de facto industry standard and set benchmarks for best practice and performance.
Doing more with less is never easy, but it can be done with the intelligent use of data. The water industry has made huge leaps forward since privatisation, but if it is to continue improving efficiency, its future procurement must focus on value rather than just price.
Jason Jason is UK water sector leader at Turner & Townsend