Ofgem RIIO-2 Framework Consultation
03 May 2018
Background to RIIO
The RIIO (Revenue=Incentives+Innovation+Outputs) model, introduced in 2013, is designed to ensure that payments to companies running the gas and electricity transmission and distribution networks are fair to network users and permit the recovery of reasonable costs in developing, maintaining and operating the networks.
The network licensees’ allowed revenue is linked to their performance and should therefore offer them incentives for securing investment, driving innovation and delivering the service that customers expect. However, some commentators have suggested that the licensees have been making unjustified profits. With network charges making up around a quarter of the average household energy bill, it is anticipated that the new price control framework will be tougher and provide lower expected returns for network licensees.
The RIIO-2 framework consultation is welcome. Ofgem’s final view on price control allowances will be published by the end of 2020 with the new network price controls ('RIIO-2') due to be implemented in 2021.
In our submission we responded to the individual points raised in the call. We also note the following:
We support the proposal to reduce the price control period from 8 to 5 years. The energy system is undergoing unprecedented change, not only with continued transformation of the generation background but also major changes to the way electricity is used, such as for transport and heating. However, the rate and precise locations of these changes is uncertain. A shorter price control period will provide the opportunity for incentives and cost recovery to be adapted to the changing circumstances.
Maintenance of acceptable levels of reliability while facilitating the energy system transformation at least cost requires substantial innovation in technologies, business processes and commercial arrangements. The development of new innovations and associated benefits to consumers often takes years to be realised, sometimes beyond a price control period in which network company shareholders would expect a return. We therefore support the proposal to retain dedicated innovation funding but encourage greater clarity on the scope of activities that can make use of such funding and on best practice in the generation and dissemination of evidence on proposed innovations.
We welcome moves to increase the accountability of the network companies and would urge Ofgem to concentrate on those measures that have a genuine and positive impact on the network companies’ activities in the context of the whole energy system. We note that this is not restricted to the business plans submitted under RIIO-2 but extends to a whole raft of codes and interactions. These include the evolving responsibilities of the Electricity System Operator (ESO), the relationships between the ESO, the transmission owners and the Distribution Network Operators, and the processes for ensuring that the full set of codes, standards and market arrangements are coherent and fit for purpose. This is a challenging task that requires constant attention to ‘the big picture’ and sufficient resources, commitment and expertise on the part of the network owners, system operators and Ofgem.
In applying tighter controls that avoid excessive returns to the network licensees’ owners, the upside and downside risks should be clearly assessed and incentives for managing risk placed on those parties best placed to do so.Read our response to Ofgem's RIIO-2 consultation here.