Examination of Witnesses (Questions 80-99)
3 MARCH 2004
MR BOB
BATY, MS
PAMELA TAYLOR
AND MR
CERI JONES
Q80 Sue Doughty: You feel that they will
fulfil a good environment programme?
Mr Jones: The scope of the environmental
programme depends ultimately on decisions from ministers, but
we are happy that the programme we have agreed on a local basis
with the Agency represents a reasonable way forward.
Mr Baty: I should also point out
that it will vary with different companies across the country.
I can only speak on behalf of the South West, and again in this
particular review, our environmental programme is tiny compared
with the enormous investment we have made in the past, and the
impact on customer bills is very low with the programme we are
talking about—perhaps between £4-6 increase in bill
over five years. In relative terms it is a much smaller environmental
programme than we have ever delivered in the past. Our challenge
is carrying the financial burden of the environmental programmes
we have already delivered because that carries cost going forward.
As an industry we all spend more money than we have in every day,
so we are all cash negative; and the cost of borrowing that money
carries on beyond the delivery programme itself. It is quite important
that people are looking at the cost of the programme going forward
and carrying also the cost of the previous investment over the
past fifteen years.
Q81 Sue Doughty: You have had some disagreement,
have you not, about the Environment Agency's version of the costs
and your version of the costs, certainly in the submissions they
have given to us? Do you think they have been fair in their comments,
or was it gold-plating?
Ms Taylor: No, we do not think
they have been fair in the comments they have made at all. We
do not think the comments have been necessary, and we are satisfied
that the system is completely robust enough for any differences
to be worked out as we go forward. We do not accept the criticisms
at all.
Q82 Sue Doughty: You are quite happy
with what you are doing.
Mr Baty: We believe that the costings
we have carried out and the submissions we have made are as accurate
as we can possibly get in the circumstances. There is no gold-plating
in any way, shape or form. We have confidence in our company,
and that is the way we have tackled it.
Ms Taylor: If you look at the
programmes that we will be looking at as we go forward, say with
the Water Framework Directive, if we are looking at the money
that companies will have to raise because, as Bob has just said,
the companies are cash negative, we have got to retain the confidence
of the markets as we move forward because we will need to borrow
that money to carry out the future environmental improvements
that will be required of us; so it is in nobody's interests to
get these figures wrong.
Q83 Chairman: The Environment Agency
said yesterday that they had underestimated the benefits in their
analysis, for the reason that some of the benefits could not be
costed. Do you accept that as a possibility?
Mr Baty: You may say it is a possibility,
but it is terribly subjective because at the end of the day, when
we are looking at how much the customers can actually afford to
pay in the South West, that is a big issue. I am anxious to keep
the charges to customers as low as possible, recognising that
over £1 billion of investment has already been made, and
they are carrying the cost of that. As we look forward, it is
diminishing returns. We get into a subjective area in terms of
how robust the cost-benefit analysis is. We do accept—and
I am not saying they are all totally wrong, but some of those
included diminish very quickly relative to what the customers
can afford to pay in our region.
Mr Jones: The cost-benefit analysis
is quite a difficult issue because it is as much art as science.
It is very difficult to know whether any errors of omission are
in one direction or another. I am not quite sure how the agency
could be sure that they have underestimated the benefits.
Chairman: They have certainly given a
wide range of potential benefits, which indicates the uncertainty
of the exercise, but you are not prepared to say that you think
that it is unlikely that they have underestimated the benefits.
You are not prepared to say anything!
Gregory Barker: May I ask you a question
arising from evidence that the Environment Agency gave us yesterday?
They said that the very detailed and vigorous work they carried
out to determine what should be included in the environmental
programme represents the absolute bare minimum that needs to be
done. Do you agree?
Q84 Chairman: Can we leave you to ponder
that while we vote?
The Committee suspended from 16.10 pm to 16.22
pm for a division in the House
Ms Taylor: We need to bear in
mind that we have been talking about three plans here. Plan A
would be the minimum; plan B would be more than that, and decisions
to be taken; and then there is the third plan, which is the company-preferred
plan. At this stage, to say that what is being discussed is the
bare minimum we do not believe to be correct because we are discussing
three possibilities at this stage. Obviously, when we see the
ministerial guidance, that should give us an indication as to
what we are looking at as we go forward. At this stage, it would
be premature to make a comment.
Q85 Gregory Barker: You have stated to
us that the industry's environmental duties are not an optional
extra; that they are a statutory requirement. However, not all
water companies have included all statutory requirements in their
preferred plans. Do you support this?
Ms Taylor: Companies have looked
at, and made a judgment, company by company, so we think that
is right. We also think it is right that that information should
be in the public domain, and we also think it is right that it
should be open to challenge and scrutiny. What you will then see
going forward, is to whether or not a judgment that has been taken
will stand.
Q86 Gregory Barker: How will that be
challenged? You say you will see how it stands.
Mr Baty: One of the issues we
have been wrestling with is where there is a statutory driver
and that is clear, the grey area is how much investment by the
water company will address that statutory driver. Is it 5%; is
it 10%? If it is 100%—there is no doubt about it at all;
but if it is maybe 20% or 10% and there are no plans to address
the other 80%, is it appropriate at this stage to be delivering
that proportion of that statutory obligation while the rest of
it is still exposed, given the pressure that the customer charges
are under? That is where there is a subjective area. One would
hope that that sort of area will be clarified by ministerial guidance.
Q87 Gregory Barker: A statutory obligation
is a statutory obligation.
Ms Taylor: It is, you are absolutely
right. The question in our minds however is to how much of that
obligation has to be met by the water company and the water company's
customers picking up the price for it. If you take an issue such
as diffuse pollution, there are many, many policy levers that,
if you like, could be pooled in terms of addressing the issue
of diffuse pollution but we do not own them. In terms of point
source pollution, we have cleaned up our act, but if you look
at poor agricultural practice, for example, that will be a major
driver of diffuse pollution. The question has to be, going forward:
should the investment be carried out by the water company and
the bill picked up by the water company's customers, or should
we look at another way of tackling the issue, namely looking at
farming practice and improving that? That is where the grey area
is. It is not that we would dispute at all what is the statutory
requirement because we absolutely agree. The point is though how
much of that should be picked up by the water operator. That is
where the discussion is.
Q88 Gregory Barker: The bill does not
have to be picked up by the water company's customers, does it?
You could accept a lowering of your margins.
Ms Taylor: It would not be a lowering
of your margins because at the moment, as we explained earlier,
companies are cash negative. They are spending more than they
are collecting from their customers each day in any case; so companies
have to go to the markets in order to borrow the money to carry
out the work. It is a bit like taking out a mortgage on behalf
of your customers, so companies have to go to the markets to borrow
that money in any case. We need to make sure that we continue
to be attractive to the markets, because we can see the considerable
investments not only this year, in this period review, but in
future years in future periodic reviews; and the City will have
to be confident that it is funding something which, frankly, in
their minds, stands up.
Mr Baty: There are two very narrow
tramlines. One is customer affordability and their ability to
pay for it; and the second is the ability to raise money in the
market, as Pamela said. Those tramlines are very narrow, and the
industry has been investing over the last 15 years.
Q89 Chairman: Are you saying that where
companies have not included efforts to meet their statutory requirements,
it is only in cases where the industry does not have direct responsibility
for the problem and it is only in those areas?
Ms Taylor: Not always.
Mr Jones: It is not as clear-cut
as that. The existence of statutory obligation is generally fairly
clear, but exactly what you need to do when you discharge that
obligation is not always absolutely clear, and there is some room
for difference of opinion in that respect. I think Northumbrian
Water is in a fairly fortunate position in that we believe we
did include all of our statutory obligations and I do not think
there is any dispute about that from the Environment Agency. In
defence of my colleagues in other parts of the country, I can
easily see that there are areas where it is not entirely clear
what one has to do in order to fully discharge one's obligation.
One can see that parties would come to slightly different views
about what would be appropriate to do, particularly in a given
timescale of the next five years.
Q90 Chairman: But if you have been able
to do it, why can others not do it? Is it to do with geography?
Mr Jones: It is clear that the
different drivers impact very differently in different parts of
the country. Both of the companies here today are fortunate in
that the environmental programme appears to be somewhat lower
than it is in some other parts of the country. The drivers are
the same, but the way in which they impact on the locality are
very much determined by geography.
Q91 Mr Challen: Are there regional variations
in the margins that you can deliver?
Mr Baty: Not in the costing of
them; it is a standard costing arrangement where the companies
will price the standard things recommended by Ofwat, and they
are certified by the reporters as fair costings; so there is not
a margin as such; it is a question of the cost of providing that
particular facility. When adjustments are made for efficiency,
if one company thinks it can do it for X and another one says
Y, understandably the Regulator says "if they can do it for
that price we want the rest of you to be as close to that price
as possible".
Q92 Mr Challen: I asked the question
because some water companies wanted to get rid of their water
side of the business. Yorkshire Water wanted to put that side
of the business into some kind of mutual arrangement, and one
or two other companies looked at other ownership structures so
that they could free themselves of the regulatory burden.
Ms Taylor: They could never do
that.
Mr Baty: Sorry, no, the regulatory
burden will stay with the licence-holder, however it is separated
out. The reason for assessing some of these optional structures
is the financeability issue and whether or not it is more cost-effective
to raise money for debt or equity and to get that balance right
is quite a difficult challenge. Ceri is an economist and I am
a poor engineer, but some companies make an assessment as to whether
raising debt is cheaper than raising equity. The difficulty there
is that going forward, if there is a bigger capital programme
in future that we do not know about, how do you raise still more
debt?
Q93 Mr Chaytor: What I am trying to say
is that these companies, like Kelda, had diversified. Yorkshire
Water, the original part of the business, seemed to them to be
a bit of a burden at the time, and they wanted to shunt it off
to one side and give it to the customers, as it were, with a mutual
arrangement, so that they were not then the whole business, the
group business, and burdened with these regulatory requirements.
Ms Taylor: There are no circumstances
in which a water operator can avoid the regulatory burden, either
from the economic regulator, the environmental regulator or the
quality regulator, or indeed the Government guidance. There is
no structure that would enable them to do that. They were looking
at their finance-ability as they go forward and making a decision
at board level as to what would be the best way of taking out
that mortgage we were talking about earlier on behalf of their
customers. They were shaping themselves to be able to shop around
in the market for the easiest and least expensive way of raising
the finances they needed in order to carry out the work they needed
to do. In those circumstances you are always trying to see how
much of the risk you get, in terms of what the City would perceive
as risk. That was something that admittedly Yorkshire Water flirted
with at the time, but now they are certainly on record as saying
that their board does not believe that it is the right way for
them to go in the future. That does not mean that boards do not
keep this constantly under review because, obviously, they have
a responsibility to do that because they will need to raise money
for the future.
Mr Jones: Thinking about the original
point about margins varying, if one is thinking about the margin
used when setting price limits, it is Ofwat that assumes the financing
costs in that calculation; they assume the cost of capital, and
that is done on an industry-wide basis. It is the same cost of
capital, the same financing costs, that are assumed for all companies
when prices are set.
Q94 Gregory Barker: How aware do you
think your customers and indeed the public at large are of the
environmental improvement work that the water companies are doing?
Do you have a policy of raising that awareness?
Ms Taylor: Yes, we do. We think
it is important that customers should appreciate what it is that
they are paying for when they pay their water bill, and we also
think it is important that customers should have a view on what
it is they are paying for in their water bill. In the beginning
it was easier for customers to understand; now I think it is a
little more difficult when you are looking at issues that we touched
on earlier such as diffuse pollution. Is it right for a water
industry customer to pick up the bill for cleaning up water that
has been polluted by chemicals from farming? I do not think that
is right. In terms of raising customer awareness, as to what it
is they are paying for, we work with other environmental groups.
We work in partnership with the RSPB and the Wildlife Trust to
reach customers more effectively. We join and fund programmes
jointly with them in order to raise awareness and to bring projects
and issues to communities. There is a whole raft of things that
we do.
Q95 Gregory Barker: What does it actually
mean?
Ms Taylor: For example, in the
Wildlife Trust, we will fund programmes that they carry out, and
that is then something that local communities will be part of,
so they will understand through the work that the Wildlife Trust
does, the role that the water company also plays. Then they will
begin to have a practical understanding of where some of their
money is going.
Mr Baty: We also write and tell
the customers.
Q96 Gregory Barker: Could you do more?
Ms Taylor: Always.
Q97 Gregory Barker: If you did do more,
they might be more willing to pay for the environmental improvements.
Ms Taylor: We carried out research
this time around, and are very pleased that for the first time
it has been joint research with the regulators, WaterVoice and
environmental groups and so on. The headlines of the research
show that customers would be willing to pay a little more—not
all of them—for environmental improvements. It is important
that they should understand that as we go forward, particularly
if we look at the Water Framework Directive. We have to not just
persuade customers more and more and more that they should pick
up more and more of the bill, but we should be looking at how
appropriate it is for customers in the future to be picking up
all the bill. Should farming be picking up some of the bill; should
transport be picking up the bill? I think there is some cleverer
thinking that needs to be done.
Q98 Gregory Barker: I want to touch on
investigations by water companies. We understand that some of
the actions you are due to carry out during AMP3 were investigations
you agreed to carry out so that the results could be fed in to
the current review. However, English Nature told us yesterday
that this has often not been the case. Why is this? Does it mean
that once some of the investigations are completed, as you are
committed to doing, there may be more work that will still need
to be carried out and perhaps be postponed to the next review.
Ms Taylor: I am pretty scared
about the thought of your Chairman saying we have been silent
twice, but I am not sure I understand. I cannot think what that
may be. If it would help, we would take that away and look at
that issue.
Q99 Gregory Barker: I was not here at
the evidence session when it arose, but perhaps colleagues can
shed light on that.
Ms Taylor: We would happily take
it up and write to the Committee.
Chairman: The allegation was that there
was work that you had agreed to do which was going to help in
future assessments in the periodic review process, which for certain
cases was possibly deliberately being deferred so that it was
not possible to analyse the outcome of that work in time for the
next periodic review.
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