Select Committee on Environmental Audit Minutes of Evidence

Annex 1


  Over the last ten years Ofwat has developed a staged framework to assist it in reaching an overall judgement of likely capital maintenance needs for the next price limit period.

  Subdivision of the asset systems

  The first step has been to divide the asset systems into four categories that follow broadly the different functions of the assets (treatment and transportation) and accounting practices. The four categories are summarised below.

    —  Water service infrastructure assets. These include impounding reservoirs, raw and treated water trunk mains, service reservoirs, distribution mains etc.

    —  Water service non-infrastructure assets. These include treatment works, pumping stations, telemetry and computer systems, meters, plant & vehicles, depots, offices etc.

    —  Sewerage service infrastructure assets. These include sewers, combined sewer overflows, associated storage tanks, rising mains, outfalls etc.

    —  Sewerage service non-infrastructure assets. These include sewage treatment facilities, sludge treatment, pumping stations, telemetry and computer systems, plants & vehicles, depots, offices etc.


  The framework is based on a structured series of tests or questions. In each case Ofwat used the best available data and expert/specialist consultants to inform its judgements for each of the four categories above on these questions/tests.


  Understanding past performance, serviceability and company actions necessary to deliver these outcomes. This entailed:

    —  A review of the overall trends in performance of the asset systems in delivering services to customers using the available indicators and measures to assess whether the flow of services was: improving (;), stable (;), deteriorating (X) or marginal (?).

    —  Recording the levels of activity and expenditure incurred by the company over time and the reasons for annual variations to establish the typical level of activity and expenditure for the period of the serviceability trend analysis.

  Where the expert review identified improving (;) or stable (;) trends this leads to a preliminary judgement that the typical level of activity had been sufficient. Where the trends were deteriorating (X) or marginal (?) Ofwat sought an expert assessment of the likely uplift in the typical level of activity that would have delivered stable serviceability.


  Understanding any underlying concerns in the asset systems to be maintained particularly where these resulted in different challenges than had been met in the past. Essentially what would be different about the next period that would necessitate changes in the typical levels of activity that had been sufficient in the past. This entailed:

    —  A review of the results of the most recent assessment of overall asset condition and how this compared with previous assessments to understand the reasons behind changes.

    —  A review of company submissions on the changing requirements for capital maintenance with a focus on implications of any increase in the size of the asset systems.

  The results from the asset inventory assessments were inconclusive. Generally companies attributed the reported small net increases in proportions of assets in the poor condition grades, to errors in the 1992-93 assessments rather than deterioration in their systems. The company submissions tended to focus on a wish to improve asset condition and not on threats to continuing service performance. Whilst long term the evidence pointed to likely needs for higher levels of activity in some companies, Ofwat considered these needs were unlikely to surface in the next price period.


  Understanding the relative efficiency of each company, both in terms of its approach to capital maintenance and capital works, and the potential for even the best performing company to improve its efficiency over the next price limit period. This entailed:

    —  A statistical assessment of the relative performance of all the companies over the serviceability period. Rolling investigations were used to identify the key explanatory factors to include in econometric relationships and thus derive relative cost rankings. These were developed into relative efficiency rankings following reviews of special factor submissions from the companies.

    —  Comparative capital works unit cost assessments to look at the unit costs that underpin each company's forecast forward capital expenditure programme.

    —  Reviews of the scope for continuing improvements on capital productivity over the next price limit period by comparing the use of up-to-date technology and practices in the UK water sector with those in other sectors and elsewhere in the developed world.

  Companies found to be inefficient were assumed to rectify this poor performance through a catch-up factor applied to its capital costs and all companies would be expected to improve year by year by a continuing reduction that represented a proportion of the identified potential.


  Understanding the implications of each company's water quality and environmental improvement programme for the normal capital maintenance programme. This entailed:

    —  A review of the potential scope for overlaps and synergies due to the interaction of the quality enhancement and capital maintenance programmes where existing assets were being replaced for quality improvement reasons. The review included looking closely at the implications of earlier improvement programmes on the typical levels of expenditure.


  More information, greater consistency between companies, and longer trend data on service and serviceability measures/indicators together with a further update on asset condition will all lead to better understanding to inform the Ofwat judgements in the next price review. Notwithstanding this Ofwat, the quality regulators (DWI & EA) and the companies are all working to develop various elements of the framework. Ofwat's involvement in these developments is summarised below.

Stage A Developments

  Ofwat and the DWI are working together to develop better water quality related indicators to improve the robustness of the serviceability assessments. A similar initiative is in progress with the EA to develop better measures for the sewerage service. The outcomes of the initial consultancy studies will be shared with the industry later this year.

Stage B Developments

  Ofwat has set down in a letter to companies (MD161—April 2000) how it believes they should develop assessments of an economic level of capital maintenance that is consistent with the outcomes of the serviceability assessment and evolving needs of their businesses. Ofwat is in dialogue with a number of leading companies in this area with the aim of establishing benchmark practices of this type of analysis.

  Ofwat is also looking to develop better understanding of the condition of the industry's asset stock with particular attention on identifying deterioration rates and the risk to service performance from any such deterioration.

Stage C Developments

  Ofwat will be developing and refining its methods and analysis of relative efficiency in the light of comments by the Competition Commission.

January 2001

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