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UK regulator sets return level for energy networks

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UK regulator sets return level for energy networks

The U.K. energy regulator on May 24 set the allowed return on equity for electricity and natural gas transmitters and distributors for its next round of price controls, saying it will save consumers £6 billion over a five-year period.

The allowed returns on equity and on debt under the so-called RIIO-2 program are higher than what the Office of Gas and Electricity Markets, or Ofgem, initially proposed last December. Distributors including National Grid PLC and SSE PLC, owner of Scottish and Southern Electricity Networks, noted the increase from the original proposal, but still expressed disappointment.

"These proposals, if implemented, will have damaging impacts on the energy networks' ability to deliver the government's plans for clean growth and the wider economy, undermining efforts to build a smarter, more efficient energy system for the public," Energy Networks Association CEO David Smith said in a statement.

Price controls under the RIIO-2 program take effect in 2021 for gas distribution networks and electricity and gas transmission networks, and in 2023 for electricity distribution networks. They will succeed price limits set under the earlier RIIO-1 program. Ofgem on May 24 released its sector-specific methodology decision on price controls, saying it will "deliver a smarter and more sustainable energy network that will come at a lower cost to consumers."

Final decisions on the allowed return on equity for the other sectors will come late next year, Ofgem said.

Ofgem laid out an allowed baseline return on equity of 4.3% in an overall range of 4.0% to 5.6%, about half of what is allowed under the RIIO-1 program. Previously, the baseline had been proposed at 4.0% in an overall range of 4.0% to 5.0%. The agency also increased its assumptions around allowed cost of debt to 1.9% from 1.7%.

Analysts at Jefferies called the update "positive" for both National Grid and SSE. Analysts at Alliance Bernstein called the update "mildly positive."

Still, National Grid said in a statement, "We remain disappointed with the proposed range, which we believe does not fairly reflect the level of risk borne by networks. In the context of the role that networks will play in enabling the transition to a more efficient and decarbonized energy system, we believe this is not in the long-term interests of consumers."

Ofgem said the lower allowed returns will help lower bills for consumers by an average of about £25 per year.

"Lowering the cost of capital for network energy companies will put money back into consumers' pockets while service standards are required to remain high," Jonathan Brearley, Ofgem's executive director for systems and networks, said in a statement. "Our new price control for networks will pave the way for a cheaper, smarter and more sustainable energy system and is a key step in our journey to a low-carbon future."