Gas network price controls

RNS Number:3261X
OFGEM
29 May 2007

R/22

Tuesday 29 May 2007

OFGEM PUBLISHES INITIAL PROPOSALS FOR GAS DISTRIBUTION PRICE CONTROLS

* Proposals call for significant reductions in operating expenditure
from current level

* Increased allowances for investment and replacement of old iron gas
mains

* Obligations to offer good customer service will be strengthened

* New approach to charges and incentives to extend gas network to fuel
poor communities

Energy regulator Ofgem has today (Tuesday) published its initial proposals for
the price controls which will apply to the gas distribution networks (GDNs)
between 2008 and 2013.

In 2005 National Grid sold four of the gas distribution networks to new owners.
These initial proposals make full use of the new information now available to
Ofgem through comparison of four independently owned GDNs. They also take
account of the challenges the GDNs face including the significant ongoing
programme of mains replacement, and the outputs they must deliver.

Ofgem is proposing a reduction in the GDNs' operating expenditure of 3.3 per
cent a year from forecast actual levels in 2006-07. Ofgem recognises that this
is a challenging target.

Ofgem also recognises that fulfilling the Health and Safety Executive's
requirements on mains replacement and meeting steady growth in gas demand will
result in higher capital and replacement expenditure. These proposals contain
increases in capital and replacement expenditure of 26 per cent and 32 per cent
respectively compared with expenditure in the previous price control period
(2002-2007). In total, allowances for capital and replacement expenditure are
approximately #1 billion per year for the four companies. Ofgem has challenged
the companies' expenditure forecasts to ensure customers get good value. The net
effect of the proposals is a small rise in gas distribution charges, which would
increase an average domestic customer's bill by less than #1 per year in real
terms.*

Ofgem Chief Executive, Alistair Buchanan, said: "Today is one of a number of
milestones along the way to our final proposals this December. We will listen
carefully to the feedback we receive. We do intend to set challenging price
controls to give the companies incentives to operate more efficiently. This will
generate savings for customers which will be passed on in successive price
controls.

"Our initial proposals set out how existing customer service obligations can be
improved and we have also offered incentives to the companies to extend parts of
the gas network to connect up fuel poor communities."

The obligations on the GDNs to offer good customer service will be strengthened.
For example, the existing targets for handling calls about gas leaks and
attending them will be specified in licence conditions. This will enable Ofgem
to take more appropriate enforcement action against GDNs in the event of a
failure to meet the specified performance level. Other examples include reducing
the time allowed to complete reinstatement after a GDN has finished work on a
connection or repaired a pipe from ten days to five days.

Extending the gas network can in some circumstances help to alleviate fuel
poverty and have environmental benefits. Ofgem is recommending changes which
will reduce upfront connection charges to these communities. In addition, we
propose to implement an incentive scheme that will encourage GDNs to help these
communities, for example, by coordinating various sources of government funding
for central heating systems or insulation.

- ends -

Notes to editors

*Gas distribution charges make up around one fifth of a domestic customer's
bill. Ofgem estimates that the effect of the initial proposals will be an
increase in a domestic customer's bill of less than #1 per year in real terms,
(i.e. excluding for example changes due to inflation).

1. In June 2005 National Grid Gas completed the sale of four of its eight gas
distribution networks. The Scotland and south east of England networks were sold
to Scotia Gas Networks. The Wales and south west network was sold to Wales &
West Utilities and the network in the north east was sold to Northern Gas
Networks.

2. The table below shows Ofgem's initial proposals for expenditure allowances
(prior to the application of the information quality incentive*) and how they
compare to companies' forecasts:

Average annual 2007-08 Average annual GDN Average annual Difference
actual 2002 to Allowances forecast over Ofgem allowance GDN forecast
#m in 2005-06 2007 2008-13 over 2008-13 to allowance
prices

Operating 662.4 652.5 722.1 598.0 -17%
expenditure
Capital 260.5 358.4 393.1 328.2 -17%
expenditure
Replacement 493.9 588.0 797.5 654.0 -18%
expenditure

*The information quality incentive is designed to address concerns that
companies have an incentive to bid for higher capital expenditure allowances
than they actually require. Companies that put forward sensible projections will
receive bigger rewards for outperforming these allowances in future than those
who have bid for higher allowances.

3. All gas distribution companies carry out a mains replacement programme which
has been approved by the Health and Safety Executive to address safety concerns.
This programme was introduced in 2002 and means all iron gas mains within 30
metres of homes and premises must be replaced over a 30-year period. The GDNs
face rising costs for delivering this programme due to several factors including
increasing labour costs.

4 Ofgem sets the allowed rate of return the companies can recoup when they
invest in their networks - this is the cost of capital. The detailed analysis on
cost of capital is yet to be done and the decision on the final figure will not
be taken until final proposals. For the purposes of initial proposals Ofgem has
used a weighted average cost of capital (pre tax debt, post tax equity) of 4.84
percent.

5. Ofgem is the Office of the Gas and Electricity Markets, which supports the
Gas and Electricity Markets Authority, the regulator of the gas and electricity
industries in Great Britain. The Authority's functions are set out mainly in the
Gas Act 1986, the Electricity Act 1989, the Competition Act 1998 and the
Utilities Act 2000. In this note, the functions of the Authority under all the
relevant Acts are, for simplicity, described as the functions of Ofgem.

For further press information contact:

Chris Lock: 020 7901 7225
Mark Wiltsher: 020 7901 7006
Julia Collings: 020 7901 7217
Out of hours contact: 07774 728971 or 07766 511470

This information is provided by RNS
The company news service from the London Stock Exchange
END

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