Appendix 1: Government response
RESPONSE TO THE BUSINESS AND ENTERPRISE COMMITTEE
REPORT FUNDING THE NUCLEAR DECOMMISSIONING AUTHORITY.
1. The purpose of this memorandum is to provide a
response to the Business and Enterprise Committee's report, "Funding
the Nuclear Decommissioning Authority", which was published
on 7 April.
2. We welcome publication of the Committee's report
and have noted the detailed conclusions and recommendations.
The report makes a number of pertinent and constructive comments
and asks the Department to produce additional work to address
several issues. In a number of cases, these are issues which
the Department had already identified as needing further work,
and we have already begun discussing with the NDA and Treasury.
3. Attached to this response is a report, "NDA
Budgeting Shortfall 2007-08 - Lessons Learned Report", commissioned
by the Permanent Secretary and referred to in his evidence to
the Committee.
Waste Substitution Income
We emphasise that none of the issues raised in
this short report should have any consequences for the construction
of new nuclear power stations. Separate special funding arrangements
are being developed for their decommissioning. (Paragraph 7)
4. We welcome the Committee's recognition that none
of the issues raised in the report should have any consequences
for the construction of new nuclear power stations.
Shortfall in the NDA's Budget
The National Audit Office (NAO), in its January
2008 report into the NDA, identified uncertainty as to whether
the waste substitution income budgeted for would actually be forthcoming
in the 2007/08 period. It seems that this uncertainty has been
resolved and the money has been raised; we are therefore surprised
that the NDA was suddenly told by the Treasury that—owing
to a technical accounting issue—it might not be able to
spend it. (Paragraph 12)
We believe this issue could and should have been
addressed earlier. The nature of waste substitution income has
been known since the 2004 consultation, if not earlier, and we
find it unlikely that the relationship of these contracts to the
original reprocessing contracts became clear only immediately
before contracts were finalised in December 2007. (Paragraph 13)
5. In Autumn 2006 the Department recognised that
there was uncertainty about waste substitution income, a significant
element of the NDA's commercial income for 2007/08. As noted
in the National Audit Office's report, The Nuclear Decommissioning
Authority: Taking Forward Decommissioning (para 3.18) the
possibility that there would be a £400 million shortfall
in commercial income in 2007/08 led to a review from November
2006 of how that shortfall could be managed, including through
finding offsetting savings and the deferral of work on sites owned
by the NDA.
6. In February 2007 when notifying the NDA of their
budget allocation for 2007/8 the Department and the NDA recognised
that there was still a significant degree of uncertainty remaining
in relying on income from the waste substitution contracts.
7. The waste substitution contracts and underlying
waste reprocessing contracts are exceptional and are highly complex,
reflecting both the nature of the activities performed and individual
variations between customers. The contracts themselves have been
in the process of negotiation for a number of years and the detailed
terms of the contracts were not finalised until December 2007.
8. As the terms of the contract were being finalised,
the Department, the NDA and its advisers and the NAO looked at
the detail of the budgeting and accounting treatment of waste
substitution income. As these discussions developed between NDA,
BERR, Shareholder Executive and HMT, it became clear that there
were doubts about whether the proceeds could be applied in total
and immediately to expenditure
9. At the time of the Spring Supplementary, the Department
took a prudent position on the NDA's budget, based on the information
available at the time having taken into account advice from NDA's
advisers. This indicated that on the basis of analysis conducted
up to that point, there would be a requirement to recognise the
revenue over the life of the original reprocessing contracts rather
than being able to apply the proceeds immediately and in full
in 2007/8. Therefore, at this stage the prudent course of action
for the Department was to submit a bid to cover the shortfall
in NDA's budget that would then result.
10. On 21 April 2008 the NAO submitted their final
paper setting out their opinion on the proposed accounting treatment
of WSI. Their conclusion is that the NAO considers the NDA's
proposed accounting treatment to recognise all of the WSI in 2007/8
is reasonable. With the accounting treatment confirmed, the
budgeting treatment usually follows suit. This will allow the
Reserve Claim and additional funding provided by BERR at the Spring
Supplementary to be repaid.
NDA Derogation
The previous existence of a derogation allowing
the NDA to recognise the income from some long-term contracts
upon receipt suggests that the NDA, the Treasury and the Department
should already have been alert to the fact that the accounting
treatment of long-term contracts might need to be considered.
We are therefore surprised and disappointed that when this issue
reappeared, albeit in a different context, everyone appears to
have been caught unawares. (Paragraph 16)
11. The response to this is addressed in detail in
the accompanying report, "NDA Budgeting Shortfall 2007-08—Lessons
Learned Report."
The 2005/06 derogation could have been the basis
for a solution that would not have involved spending £256
million of the Department's accumulated EYF and claiming on the
reserve. We would like to know if this was considered as an option
once the issue came to light and, if it was rejected, for what
reason. Given the references to the derogation in the Estimate
Memorandum we would like to know whether any party wrongly assumed
that the derogation still applied and if not—as seems likely
from the evidence we received—why the Estimate Memorandum
made reference both to the derogation and the date of its expiry
in April 2006. (Paragraph 17)
12. Reinstating the derogation was rejected as an
option for funding the shortfall in the NDA's budget as it would
have the same cost for Government as providing additional funding
through End Year Flexibility and from the Reserve and would also
be less transparent.
Spring Supplementary Estimate Memorandum
The Spring Supplementary Estimate Memorandum did
not give an entirely accurate picture of the situation. Accuracy
in such documents is always essential, but for such a large request
for additional funding at such a late stage in the financial year,
this is particularly regrettable. These differences between the
Memorandum's version of events and what we were told in evidence
suggest poor communication between the Department and the NDA,
which might have played some part in the situation occurring in
the first place. We expect that future Estimates Memoranda will
be drawn up after close consultation between the parties involved.
(Paragraph 21)
13. The Memorandum on the Spring Supplementary Estimate
was prepared by the Department on the prevailing understanding
of the issue at the time—i.e. that the need to recognise
WSI under the principles of long-term contract accounting had
resulted in a potential shortfall in NDA budgets in 2007/8 which
needed to be addressed through the use of End Year Flexibility
and a Call on the Reserve. This was essentially a snapshot during
a time of intense co-operative work between BERR, NDA, HMT, the
NAO and external advisors to determine the correct accounting
treatment for the complex waste reprocessing contracts and the
substitution contracts. BERR, NDA and HMT also worked closely
together to prepare evidence for the Committee hearing. The Department
accepts that it is crucial that all parties involved communicate
fully on issues around the Estimates Memoranda.
Impact on the Department
We recognise that, due to the provision in the
Spring Supplementary Estimate, there has been relatively little
impact on the NDA, despite the sums of money involved. We are
concerned, however, that accounting uncertainty had the potential
to impact drastically upon the NDA's funding of decommissioning
of existing nuclear liabilities. We urge the Government to resolve
this issue as soon as possible in a way which will not delay future
spending on decommissioning. (Paragraph 25)
14. The waste substitution income contracts are highly
unusual in that they combine significant complexity with very
high value (hundreds of millions of pounds). As a result, the
question of whether the income could be recognised in 2007/8 had
a very substantial impact both on the Department's and the NDA's
budget.
15. The Spring Supplementary Estimate process ensured
that the NDA's decommissioning expenditure commitments were safeguarded.
However, for commercial income contracts of such complexity it
is inevitable that there will be some degree of uncertainty over
income levels until the NAO sign-off the accounts.
16. The Department will continue to work with the
NDA and its advisors and the NAO to ensure that any areas requiring
accounting judgements are highlighted and well understood in order
to minimise levels of uncertainty at year end.
Sir Brian told us that the precise sequence of
events that led up to the requirement for an additional £303
million is the subject of a review within the Department, HM Treasury,
the NDA and the Shareholder Executive. We look forward to receiving
the Permanent Secretary's promised note outlining its findings
and any action to be taken. In particular, we would like to know
exactly when and how this issue came to light, what advice the
Department gave to the NDA, what advice the Treasury gave to the
Department, what grounds there were for the Treasury's apparent
insistence on spreading this income over several years and what
action will be taken to ensure that such issues are identified
sooner in future. (Paragraph 26)
17. The points in paragraph 8 of the conclusions
and recommendations in the report are addressed in the accompanying
report, "NDA Budgeting Shortfall 2007-08—Lessons Learned
Report."
Funding the NDA
Public funding for the NDA will almost certainly
have to increase significantly in the coming years over and above
current plans. If nuclear decommissioning is going to be carried
out as planned this has major implications for the Department
for Business, Enterprise and Regulatory Reform, which already
spends over 40% of its Departmental Expenditure Limit on the NDA.
(Paragraph 31)
18. Government spending on the NDA will increase
by over £0.8bn in the Comprehensive Spending Review 2007
(CSR07) compared with Spending Review 2004 settlement; this is
equivalent to annual average real growth of 4.9%, reflecting the
Government's commitment to ensure the UK's civil nuclear liabilities
continue to be managed safely, securely and cost effectively.
The level of public funding for the NDA will be reviewed in future
Spending Reviews, recognising the need to strike a balance between
what is desirable and what is affordable, while ensuring site
safety.
19. We have issued formal budget allocations for
2008/9 and indicative budget allocations for the remainder of
the CSR period that reflect the Department's settlement and are
unaffected by the action taken on the NDA in the Spring Supplementary
Estimates.
We welcome the assurance given by the Permanent
Secretary that the Department's budget will be insulated from
the NDA for 2008/09 and subsequent years and look for further
specific assurances from Government that NDA funding requirements
will not impact on other areas of the Department's work. Government
departments that have experienced funding problems in one area
of their activities have often had to make reductions in other
unrelated areas. The scale of the NDA as a proportion of BERR's
overall budget makes such a prospect completely unacceptable in
this case. (Paragraph 32)
20. The NDA's budget is ring-fenced within BERR's
budget. Current arrangements are that all BERR budgets (including
the NDA) are managed within the overall Departmental Expenditure
Limit. As such, should additional funding be needed for the NDA
in future years BERR will first look to non-ringfenced budgets
to make good the shortfall: this is a standard budgeting arrangement
and ensures resources are allocated as efficiently as possible
within the department and across Government and better enables
the Government to manage its total finances.
We believe the NDA's funding model is unsustainable.
We note the Department's assurances that a solution has been found
for the current Comprehensive Spending Review period. However,
in view of the volatile—and declining—nature of the
NDA's commercial income we are sceptical about how watertight
such an assurance can be. Nuclear decommissioning is too important
to be left to the mercy of changing priorities in the Treasury
and uncertain commercial income; as the Permanent Secretary acknowledged,
a new system of funding is needed, and work on this needs to begin
urgently. (Paragraph 37)
21. The NDA was set up to deliver the Government's
commitment to dealing with the nuclear legacy, which was not being
sufficiently addressed by either BNFL or UKAEA, neither of which
had decommissioning as a priority.
22. The NDA is funded by a combination of Government
funding and commercial income. This duality of funding provides
an incentive for NDA to optimise the returns from its commercial
assets but does present a challenge as a number of these assets
are ageing and therefore operationally unpredictable. Since the
NDA was created the amount being spent on decommissioning and
liabilities management has very significantly increased year on
year. The NDA's total spend was £2.4 billion in 2005/06;
£2.6 billion in 2006/07; and is forecast to be around £2.7bn
in 2007/08. Government funding has increased proportionately
more at £1.2 billion in 2005/06, £1.5 billion in 2006/07
and £1.8 billion in 2007/8. Commercial income is volatile
and over time is declining as sites progressively close and move
into the decommissioning phase.
23. The funding model was originally selected because
it incentivises NDA to make the best use of its existing assets
for revenue generation, minimising decommissioning costs for the
taxpayer, whilst providing ring-fenced funding from BERR's budget.
24. Government has agreed that it will consider whether
there are changes that could be made to the NDA funding model
to better enable its funding to be managed effectively while maintaining
the right incentives and controls. It has been agreed that these
options will be considered by HMT in advance of the next spending
review.
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