46. Two different aspects of capital expenditure
arise in relation to the events surrounding the Boxing Day storm:
past capital expenditure programmes have been appropriately focussed,
and whether greater investment in the rural network could have
reduced the extent of the storm damage; and
· whether the changed priority of
NIE in the current capital investment programme to put greater
resources into refurbishing 11kV overhead lines to increase future
network resilience to storm damage is appropriate and practicable.
47. Table 1
shows that network capital expenditure has risen appreciably in
real terms since 1986/87, both before and after privatisation.
Allowed capital expenditure in the present period (1997/98-2001/02)
is substantially higher than actual capital expenditure in the
three earlier five year periods. Throughout the whole period (1982/83-2001/02),
90 per cent of total network capital expenditure has gone to distribution
as opposed to transmission.
Table 1: Transmission and Distribution
|5 year total, £million, at March 1997 price base
Table 2:Comparison of the domestic electricity
bill for Northern Ireland, Great Britain and the comparator Public
Electricity Suppliers by category (out-turn prices, not including
Northern Ireland Domestic Electricity
Great Britain Domestic Electricity Bill
Comparator Public Electricity Suppliers'
*After a £10 rebate given by NIE at the end of the year
48. Table 2, which reproduces figures submitted
by OFREG, shows that
the average domestic electricity bill in Northern Ireland has
diverged from that of Great Britain since 1993. It is currently
22 per cent higher as against five per cent then. The main contributory
factors are the cost of generation in Northern Ireland, which
falls outside the scope of the regulatory process and is now 24
per cent higher than in Great Britain, while transmission and
distribution costs are now 29 per cent higher. Even relative to
what NIE refers to as 'comparator'
PES in Great Britain (those with large rural areas and overhead distribution networks), transmission and distribution costs in Northern Ireland are now 6 per cent higher.
49. In essence, NIE argues that the difference
between the profiles of transmission and distribution costs in
Northern Ireland and in Great Britain respec
tively reflects two principal factors:
· a combination
of one of the smallest customer bases of any UK electricity company
and one of the most rural service territories; and
· an investment requirement which
reflects the current state of the network, which NIE ascribes
in part at least to underinvestment in the 1980s.
50. The Regulator has statutory responsibility
for regulating NIE, including re-setting the price control (usually
at five yearly intervals); determining within the framework of
the price control the appropriate level of allowed capital expenditure
after considering proposals from NIE; and ensuring that NIE has
sufficient resources to carry out its licensed activities. In
evidence to us, he argued that there are no underlying fundamentals
which would justify indefinite continuation of the current disparity
n electricity prices between Northern Ireland and Great Britain. He emphasised the following points:
· By the end
of the present price control period, every electricity consumer
in Northern Ireland will be supporting £250 more transmission
and distribution assets than his counterparts in Great Britain
(though this is partly due to the low population density of the
rural areas traversed by the electricity distribution network
in Northern Ireland).
· Since privatisation, NIE has underspent
£109 million of its allowed capital expenditure (£97
million in the first price control period and £12 million
in the first year of the current period). Limited financial resources
available for investment therefore cannot be the determining factor
in the network's performance during the 1998 Boxing Day storm.
Alleged under-investment was not, in his view, relevant.
· Regulated monopolies tend to underspend
early in a price control period since the 'underspend' leads to
increased company profits.
Companies tend to justify an underspend in terms of 'efficiency
gains leading to consumer benefits', which can be difficult for
regulators to audit.
Later in the period, they have an incentive to claim that higher
allowed capital expenditure is needed in the next price control
period, creating the headroom for future 'underspend'.
· In the light of the above, the Regulator
was therefore less concerned with whether NIE had been allowed
sufficient resources for investment than with the NIE's management
of the capital programme and the criteria which NIE uses to examine
· He was not satisfied that NIE had
proved that loss of supply in rural areas during the Boxing Day
storm was due to the age of overhead line equipment, because many
factors can cause the loss of a circuit under extreme storm conditions,
including wind direction, ground conditions beneath the pole,
the quality of the timber and the creosote preservative, overhanging
trees, wind blown debris and ivy-encrusted poles.
51. Mr Thomas commented that, where NIE refurbished
overhead lines, it did so very largely to the original, typically
He maintained that there had been many advances in the technology
ailable in the construction of overhead lines since then, not least of which was the availability of insulated conductors, which in principle might be expected to give an improved standard of performance over bare conductors, particularly in areas prone to tree damage or tree intrusion.
As has been pointed out earlier,
faults caused by trees were a significant contribution to the
overall level of faults.
52. In view of Mr Thomas' comments, we asked
NIE for information on their refurbishment standards. NIE maintained
that refurbishment is to current (1992) specifications. Experience
with the first phase of the overhead line refurbishment programme,
which began in 1994, indicated that the required improvement in
performance was dependent on adopting a higher specification,
which aims to improve both the mechanical strength and the electrical
performance of the lines.
NIE is also trialing covered conductor
technology but, in the light of difficulties with the use of this technology elsewhere in the United Kingdom, it is seeking to develop a better specification before the technology is used more extensively in Northern Ireland.
53. We note that OFFER is to consider
the quality of supply achieved during
storms in the light of the historic capital and operating expenditure of
PES in Great Britain. If OFFER deems companies to have been inefficient
in their allocation of expenditure, they will be dealt with through
the forthcoming distribution price control review. We consider
that a similar mechanism would be appropriate in Northern Ireland
in the context of the 2002 revision of the NIE price control.
54. In order to improve the ability of the system
to withstand extreme storm condi
tions, in the light of the 1998 Boxing Day storm, NIE
proposes to accelerate its refurbishment programme and related
11kV overhead line replacement from the previously planned 1,500
kilometres per year to 1,750 kilometres for 1999/2000 and 2,000
kilometres per year for 2000/01 and 2001/02. On this basis, 65
per cent of the rural 11kV overhead line system will have been
refurbished by March 2002;
· refurbishing 1,100 kilometres of
33kV overhead lines over the period, so that by March 2002 almost
45% of the total 33kV circuit length will have been refurbished;
· replacing, over the next three years,
120 kilometres of low voltage overhead lines and under-eave wiring
in urban areas and some open wire systems on the outskirts of
urban areas. These will be replaced by underground cabling or,
where more appropriate, aerial bundled conductor;
· replacing almost 10,000 poles nearing
the end of their useful lives on circuits not immediately scheduled
for full refurbishment. By March 2002 this will have covered 750
kilometres of 33kV circuits and 2,500 kilometres of 11kV circuits;
· Since 24% of the faults during the
Boxing Day storm were caused by trees interfering with overhead
lines, tree pruning on the network will be further increased.
By March 2002, tree pruning throughout the network will be established
on a five year cycle (20 per cent of the total being pruned each
55. The accelerated refurbishment programme
will cost £24 million over the next three years and NIE proposes
to finance this by re-allocating expenditure from other categories
of investment, which will involve deferring certain other projects.
NIE is satisfied that the technical capacity to de
liver this programme will be available to it.
For the next price control period, starting in 2002, NIE proposes
that allowed capital expenditure should be set at a level which
would fund the capital expenditure necessary to maintain refurbishment
at the above levels as a minimum.
In the present price control period, NIE is prepared to forgo
the benefit of certain savings, which arguably it would be entitled
to retain as efficiency savings, to help fund these works.
56. Important public interest issues are involved
in deciding the appropriate level of capital expenditure to upgrade
the overhead line system:
· The Boxing
Day storm was many times worse than that of Christmas 1997, not
matched in severity over the past 70 years and, according to the
Meteorological Office, having a probability of recurrence of once
in 100 years or more in any one place. No one knows when such
a storm will strike again, but it is, and is likely to remain
for the foreseeable future, a statistically rare event. A public
interest decision therefore has to be made on how much more it
is worth paying for electricity to obtain additional supply security
in the event of another storm of equal severity. In the case of
the Boxing Day storm, NIE's goodwill payments provided what is
widely regarded as reasonable compensation for consumers worst
affected by loss of supply. Where continuity of power supply is
essential, business users can insure against loss of supply by
having their own back-up generators. The first phase at least
of the enhanced refurbishment package will have no direct cost
to customers, as it does not involve an increase in capital expenditure
beyond the level implicit in the present price control;
· The options for improving quality
of supply in rural areas during severe storm conditions are strictly
limited. Installing high voltage distribution cables underground
in rural areas is said to be nine times more costly than overhead
lines and is therefore not a realistic option on a large scale
on these grounds alone. A high level of refurbishment of the 11kV
overhead network would reduce its vulnerability to storm damage
to some extent, but could not prevent extensive damage and loss
of supply in rural areas in a storm as severe as that on Boxing
· The price of electricity for domestic
consumers is the same throughout Northern Ireland. Urban consumers
(who are being supplied by underground cables and are therefore
far less vulnerable to supply losses caused by storms), as well
as rural consumers, would have to pay a higher price for electricity
if refurbishment of the overhead line system were accelerated
substantially. This would tend to increase the cross-subsidy from
urban to rural consumers which is implicit in the electricity
· Electricity prices in Northern Ireland
are already higher than in almost all parts of Great Britain and
the European Union,
according to the Regulator.
57. The storm undoubtedly had a very serious
effect on many electricity consumers in Northern Ireland, some
246,000 in all. It
is now clear that, over the period 26 to 31 December 1998, some
65,000 consumers (about a quarter of those who lost their electricity
supply as a result of the weather conditions) were off-supply
for more than 24 hours, rather more than originally estimated.
A particularly unfortunate 4% lost their supplies for more than
three days. How
ever, as Mr McCracken pointed out:
". . . This was
purely a rural network problem we faced. There were half a million
customers in Northern Ireland who did not experience any loss
of supply as result of this storm and they were all the customers
on the urban network. The issue is about how to prioritise investment
out of a total capital programme which allows the customer the
maximum benefit at least cost . . ."
His contention was that the refurbishment programme,
the cost of which is borne by al
l customers, urban and rural, does that.
58. An OFREG standards of performance market
research survey, conducted in January 1997, revealed that 93%
of those domestic customers polled were either quite satisfied
or very satisfied with NIE's electricity supply service, 87% did
not think that the quality of supply could be improved and, crucially,
that 92% would not be willing to pay more for improved service.
NIE has expressed doubts as to the validity of such surveys.
The Deputy Director General for Scotland of OFREG commented
that "there is a fine judgement to be made between increasing
expenditure to improve reliability and increasing costs, particularly
as it is unclear how far customers are willing to meet these costs."
59. There is a paradox between the attitudes
revealed in the OFREG survey and the general assessment of NIE's
response to the storm. Attitudes are clearly a function of experience.
Also, some Northern Ireland members of this Committee receive
representations from consumers who allege that they are regularly
subject to multiple interruptions in their supplies. Yet data
supplied to us by NIE reveals that, of customers exposed to faults
on the 11kV network (itself the source of around 70% of all faults
around 90% experienced on average no more than two interruptions
per annum and that less th
an one hundred customers in all (out of a total of 680,000) experience on average ten or more faults per annum.
It is nonetheless the case that the level of security of supply
through the overhead supply network is, and will remain, lower
than that through the underground network: customers served through
the overhead high voltage network suffer on average an annual
level of Customer Minutes Lost nearly ten times greater than those
served through the underground network.
Given that customers pay the same price for their electricity
whatever the means of supply, we believe that NIE's concentration
on enhancing the resilience of the overhead supply network is
60. As with the law, extreme cases do not necessarily
make for good policy. We would, non
etheless, like to see more clarification - and, hopefully, a consensus emerge, on capital expenditure priorities -
in discussions between the Regulator and NIE leading to the next
price control. We therefore hope that NIE will, before that, extend
the scope of their present consultations with their customers.
In particular, we support the Regulator's idea of finding out
how much more per kWh consumers are willing to pay to obtain a
somewhat better quality of service in rural areas under infrequent
e storm conditions.
This exercise needs to be carefully structured through consumer
surveys or focus groups, given the comments we have made earlier
about a previous survey. It should include urban as well as rural
consumers since, other things being equal, both would have to
pay a higher price for electricity. It should also include the
involvement of the Northern Ireland Consumer Committee for Electricity
and NIE in order to build a consensual approach. Establishing
how much more consumers themselves
are willing to pay is an essential input to decisions on what consumers should be prepared to pay.
We emphasise that this exercise should be completed before the
price control and the allowed level of capital expenditure are
re-set in 2002.
61. Capital 'underspend' and the deferment of
proposed investment have featured prominently in the evidence
to this enquiry. This is not unique to Northern Ireland: capital
underspends are widespread among regional distribution systems
t Britain also.
Three things are clear: consumers must have confidence that the
capital expenditure they are paying for in their electricity bills
is resulting in actual capital assets rather than swelling NIE's
profits through capital underspends; NIE must have freedom to
manage its investment programme efficiently; and investment priorities
are bound to change through
time according to changing conditions and expectations both within and between regulatory periods.
Given the difficulty of ascertaining how far capital underspends
are due to genuine efficiency gains, we support the Regulator's
proposal that NIE should provide cost- benefit evidence that proposed
changes in the capital expenditure programme during a given price
control period are economically efficient and more beneficial
for consumers than the original capital expenditure programme
approved by the Regula
tor. Like any well run company, NIE is certain to make such calculations before it decides to defer particular projects.
62. The recommendations above should improve
consumer confidence in the regulatory system and allay suspicions
of under-investment by the monopoly provider of transmission and
distribution services. We also wish the Regulator all success
to his endeavours to secure substantially lower generation costs
from the generators, who, at privatisation, were allowed long-term
contracts that were not subject to regulation. Good news on this
front would lead to lower electricity bills in Northern Ireland
and might affect the context for determining the level of NIE's
allowed capital expenditure when the price controls are re-set
63. According to the Northern Ireland Departmental
Report, one of the
performance targets of the Regulator, included in his Public Service
Agreement, is to reduce the average annual cost per household
of electricity to consumers in Northern Ireland to £253,
net of VAT, in 1998-99 pounds (a reduction of 19% on the present
level) by 2
This target is based on the average annual bill charged to the
average customer in Great Britain on the standard domestic electricity
tariff in 1998-9. In view of the assessment
of NIE that investment needs at a level similar to the current
level will continue well into the next regulatory period, we asked
the Regulator how he proposed to achieve this. He has informed
us that the bulk of the reduction would co
me from re-negotiation of the generator contracts at Kilroot and Ballylumford, but that his calculations had assumed a modest contribution (about £6)
from the implementation of his original price control for transmission
and distribution, rather than the MMC price control, which is
now in force following successful legal action by NIE. Beyond
that, he did not expect any further contribution to achieving
the target to come from transmission, distribution or supply costs.
calculation also assumed that the Government would use the £40 million available to reduce electricity prices to buy down the generator contracts, although the principal beneficiaries of this would be industrial customers.
64. Given our general support for measures
to improve the resilience of the overhead distribution system
to storm damage, we welcome the assurance from the Regulator that meeting his target for reducing domestic electricity bills, which, if achievable, will no doubt be widely welcomed in the Province, does not depend on a substantial reduction in transmission and distribution expenditure.
65. When our predecessors examined electricity
prices in Northern Ireland, they were informed that the Government
was to allocate £60 million to reduce the cost of electricity
from 1996. These
funds, to be made available over the three years from 1 April
1996, were designed to ensure that NIE customers would share in
the benefits that their counterparts in Great Britain would enjoy
from the abolition of the nuclear levy earlier than originally
66. We understand that a wide-ranging consultation
exercise conducted in Autumn 1995 revealed a consensus that the
£60 million would best be used to help all electricity consumers
to meet rising costs and reduce energy consumption through the
promotion of energy efficiency.
67. In the event, the first tranche of £15
million was paid to NIE in the 1996/97 year to peg tariffs by
3% to below the then rate of inflation and the remainder paid
into a Trust Fund to be administered by NIE und
er the direction of the Department of Economic Development.
Subsequently, Lord Dubs announced on 25 November 1997 that a further
£5 million had been allocated to fund energy efficiency measures.
A payment of £75,000 was made to the Northern Ireland Housing
Executive in February 1999, with Ministerial approval, to fund
insulation measures on the Beechmount housing estate in Belfast.
This is an interim programme designed to signal the commitment
of the Department of the Environment to deliver two pilot ene
rgy efficiency schemes in the Beechmount and Willowfield areas of Belfast, for which the release of further funds has been agreed in principle.
68. The Trust Fund balance currently stands
at just under £45 million, of which £40 million remains
unallocated. The Northern Ireland Departmental Report comments
". . . Consideration
is being given to a number of options for allocating, in the most
beneficial manner, the balance of £40 million in this fund.
A decision must await an assessment of the responses to the Regulator's
December 1998 consultation paper on reducing generation costs.
Some or all of the £40 million may be used to facilitate
the proposals in the Regulator's paper . . ."
69. On 1 July, the Rt Hon Adam Ingram MP, Minister
of State, Northern Ireland Office, launched a detailed energy
action plan for Northern Ireland, responding to the energy recommendations
in the Economic Development "Strategy 2010" report.
In the course of this,
that the Government was prepared, subject to appropriate legal
and financial appraisals, to use the resources of the fund to
buy out contracted capacity provided this can be done in a way
which secures significant customer benefits.
70. We note the NIE has expressed doubts as
to the benefits offered to customers by the proposals presently
put forward by the generators. NIE commented:
". . . Under the
generators' proposals as they currently stand we see very little
opportunity for any sustainable cost reduction . . ."
We also note that the Regulator estimated the
benefit to domestic customers of using the £40 million in
this way at about one per cent (or £3 per annum off the average
71. We therefore consider that the scope
for using some of the £40 million to improve the resilience
to storm damage of the overhead electricity supply network in
Northern Ireland should be investigated. Obviously, any such
contribution should not lead to an increas
e in NIE's asset value (and hence future revenues and profits).
Customers dependent on the overhead network would have a twofold
benefit - an improved quality of supply and no corresponding cost
increase, and customers with underground supplies would be spared
meeting the costs of improving the overhead network. We recommend
that, before any of the £40 million is allocated to reducing
generation costs, a thorough study be carried out of the case
for investing some at least of that sum in strengthening the
resilience to storm damage of the overhead supply network.
65 Ev. p. 48. Back
66 Ev. p. 44. Back
67 Mr Thomas commented that during the 1980's, very little maintenance had been done on some of the overhead lines and it was his view that "... there is an element - or more than an element - of catching up to be done..." (Q85). Back
68 Conversely, a capital over-spend is unlikely to occur because the company cannot assume that the regulator will agree that any additional assets financed out of the company's own money will be included in the regulatory asset base. Back
69 This is because allowed capital expenditure is not a list of projects agreed in advance. According to the Regulator, it is a sum of money derived from an iterative bargaining process between the company and the Regulator. In practice, allowed capital expenditure tends to be an affordable 'black box' in which underspends are mostly deferrals, though with some element of efficiency gain which is difficult to quantify. See Appendix 26, p. 107. Back
70 Q85, 97 and 98. Back
71 Paragraph 26. Back
72 Appendix 21, p. 90 and 96-8. Back
73 Appendix 21, p. 97-8. Back
74 Ev. p. 6. Back
75 Appendix 21, p. 101 and Appendix 27, p. 109. Back
76 Appendix 21, p. 98. Back
77 Ev. p. 7. Back
78 Appendix 27, p. 109. Back
79 Ev. p. 40 and 47. Back
80 Appendix 33, p. 119. Back
81 Appendix 33, p. 119. Back
82 Q55. Back
83 See MMC Report, para. 6.31 and Appendix 6.2. The percentages for commercial customers were slightly different. Back
84 Ev. p. 32. Back
85 Appendix 24, p. 105. Back
86 Appendix 27, p. 108. Back
87 Appendix 31, p. 116. Back
88 Appendix 33, p. 118 and Appendix 21, p. 92. Back
89 Review of Public Electricity Suppliers 1998 to 2000: Distribution Price Control Review Consultation Paper, OFFER, May 1999, Chapter 4. Back
90 The implementation of the European Union Electricity Liberalisation Directive (Directive 96/92/EC) in Northern Ireland on 1 July 1999 enables the 240 largest industrial consumers in Northern Ireland to purchase their electricity from a generator or supplier of their choice in Northern Ireland (or in the Republic of Ireland, when the Directive is implemented there next year). Back
91 Cm 4217, p. 110. Back
92 Appendix 29, p. 112. See also Ev. p. 46. Back
93 Appendix 28, 110. Back
94 See Appendix 29, p. 112. Back
95 See also Appendix 21, p. 91. Back
96 Appendix 29, p. 112. See also the Regulator's consultation paper Reducing the Cost of Generating Electricity in Northern Ireland: The Generator's Proposals - the basis for the future, p. 4. Back
97 See Second Report from the Northern Ireland Affairs Committee, Session 1994-5, (HC 395) para 162. Back
98 The nuclear levy did not apply in Northern Ireland. Back
99 Cm 4217, p. 100. Back
100 "Reducing the Cost of Generating Electricity in Northern Ireland: The Generators' Proposals - the basis for the future?" The Regulator envisages the use of the £40 million to provide the proposed first phase of a Ballylumford buy-out and the proposed interim changes to the Ballylumford contracts (p. 41). Back
101 Northern Ireland Information Service Press Release, 1 July 1999. ("Energy Action Plan Announced - Ingram"). Back
102 Appendix 28 p. 111. Back
103 Appendix 29, p. 112. Back