Wastewater totex programme and exclusions

Transcription

REP04 (redacted) Wastewater
totex programme and
exclusions
Contents
1.
Overview........................................................................................................................................2
Wastewater Cost Estimates and Efficiency.................................................................................3
Cost Exclusions ..........................................................................................................................4
2.
NEP5 Water Framework Directive Summary ...............................................................................11
2.1
Need ........................................................................................................................................11
2.2
Whether most cost beneficial solution ......................................................................................12
2.3
Robustness of estimate ............................................................................................................14
2.4
Whether consumers are protected ...........................................................................................24
3
Shellfish Summary .......................................................................................................................26
3.1
Need ........................................................................................................................................26
3.2
3.3
3.4
4.
Chemical and Phosphorus Investigations Summary ....................................................................37
4.1
Need ........................................................................................................................................37
4.2
4.3
4.4
5.
Davyhulme Summary...................................................................................................................46
5.1
Need ........................................................................................................................................50
5.2
5.3
5.4
6.
Oldham and Royton Summary .....................................................................................................71
6.1 Need ............................................................................................................................................71
6.2 Whether most cost beneficial solution ..........................................................................................75
6.3 Robustness of estimate.................................................................................................................78
6.4
7
Base totex Summary....................................................................................................................87
7.1
Need ........................................................................................................................................89
7.2
Whether most cost beneficial solution .................................................................................... 101
7.3
Robustness of estimate .......................................................................................................... 101
7.4
Whether consumers are protected ......................................................................................... 111
Appendix A – Breakdown of additional site specific scope and cost for CIP2 and Low Phosphorus Pilot
trials. .................................................................................................................................................... 113
Appendix B - Davyhulme trade effluent growth in AMP6 ....................................................................... 117
Appendix C – Changing rate of regional trade effluent decline ............................................................. 119
Appendix D – [redacted text, reason 2] ................................................................................................. 120
Appendix E - PPC (IED) Cost Analysis ................................................................................................. 124
Appendix F - UUW permit subsistence costs current of 2013/14 .......................................................... 131
Appendix G - Measuring Enhanced Sludge Digestion and Sludge Incineration Capacity ...................... 132
1.1
1.2
Document ref: REP04 (redacted) Wastewater totex programme and exclusions
1
United Utilities Water PLC
REP04 (redacted) Wastewater totex programme and exclusions
1. Overview
In our June submission we proposed a number of wastewater totex “cost exclusions” on Table S11,
having identified areas where we believed that Ofwat’s suite of econometric and unit cost totex models
did not appropriately reflect the company’s requirements. This can arise due to any of the following
issues, either singly or in combination:
1. Requirements are not always being reflected in the suite of models. Ofwat’s “volume”
assumptions (e.g. the number or average size of particular types of outputs) are set out in
Jacobs’ report for Ofwat on “PR14 Forecast of Exogenous Variables”. In some areas the number
or type of required outputs being used as model inputs do not adequately reflect the company’s
requirements. Examples include outputs due to be published in NEP Phase 5 and shortfalled
outputs from the prior AMP such as Freshwater Fish Directive outputs at Davyhulme and
Oldham.
2. Past costs (or unit costs) are not always suitable for predicting future cost requirements.
The assumptions used in the suite of unit cost models are set out in the Jacobs report, and are
largely based on historic information, mostly from AMP5. In some areas, these assumptions do
not form a reasonable basis on which to forecast future cost requirements. For example, the
average size of a storage scheme (the physical volume of a tank) has been taken from AMP5
schemes delivered to meet the Urban Wastewater Treatment Directive (UWWTD). However, our
AMP6 storage schemes are predominantly required as a result of the more stringent Bathing
Water Directive which requires much larger storage volumes. As a result, the models significantly
underestimate AMP6 requirements because they do not take account of the differences between
historic and future schemes.
3. The models do not reflect company specific circumstances, outside of management
control. In some areas of operation, individual companies may face specific circumstances
which differ from those which apply to the generality of the industry in a way that materially
impacts on costs due to circumstances beyond management control. In our case the company’s
environmental circumstances have led to high levels of required investment to meet both
environmental obligations and industry wide standards of service performance. As a result of this
the company has, for example, high levels of tertiary treatment, and a high proportion of
combined sewers. The on-going base cost of maintaining and operating this more intense level of
infrastructure is not reflected in relatively simplistic base totex econometric models which account
only for differences arising from company scale and the density of customer connections.
The Draft Determination included a number of movements from the basic cost threshold in response to
three of the nine cost exclusions included in our June submission. For two of these cost exclusions –
NEP 3 and 4 Bathing water intermittent discharge projects and NEP 3 and 4 Biodiversity (P removal in
Windermere) – we accept the adjustments made and propose that Ofwat do not need to re-examine
these claims. We have, however, addressed feedback with regard to customer protection associated
with the Windermere scheme, providing confirmation from the Environment Agency of the phosphorus
standard to be achieved, and therefore evidencing that no further action is required by Ofwat1.
We are providing additional evidence in response to the Draft Determination for the partial allowed cost
exclusion for Davyhulme WwTW and the remaining six cost exclusions. This evidence addresses the
specific concerns raised by Ofwat and addresses the feedback received.
As part of our June submission we sought cost exclusions with a gross value of £964m (net value of
£821m after deducting any assumed implicit allowances), with Ofwat accepting or partially accepting
£156m (net of implicit allowances) of exclusions in the Draft Determination. Our representation on this
Draft determination now includes cost exclusions with a total gross value of £830m (net value of £485m
1
REP06 Outcome Delivery Incentives
Document ref: REP04 (redacted) Wastewater totex programme and exclusions overview
2
after deducting our revised implicit allowances), inclusive of those exclusions already accepted in the
draft determination. This reduction is due to a combination of:
the removal of our “trunk mains network reinforcement” claim, and the removal of our AMP7 Early
Start Programme associated with the NEP5 Water Framework Directive;
Specific cost reductions to both the Davyhulme and Oldham claims, following receipt of tender
prices received post out June plan submission; and
further cost reductions across the wastewater plan, which ensures that our wastewater totex
represents a level of efficiency which meets or exceeds Ofwat’s definition of upper quartile
efficiency. This is supported by third party assurance which has also been provided.
After netting off our increased assumed implicit allowances and the £156m of exclusions accepted by
Ofwat at the draft determination, the further incremental adjustment to Ofwat’s baseline that we are
proposing, from the draft determination position, is £485m of wastewater totex, compared to a “gap”
between the draft determination and our revised business plan of £472m. The detailed movement on our
proposed exclusions is set out in Figure 2 below.
1.1
Wastewater Cost Estimates and Efficiency
The Wastewater Wholesale Business Plan submitted in December 2013 had its costs independently
assured by Franklin and Andrews. We engaged them again ahead of our June 2014 submission to
provide additional assurance on our level of costs. Their high level conclusion was that our pre-efficiency
Investment Programme Estimating System (IPES) unit costs were, on average for water and wastewater
combined, up to 5% higher than the industry. Wastewater infrastructure IPES costs were estimated to
be 9% above industry average and wastewater non-infrastructure IPES costs some 8% above industry
average. In response to this feedback we applied a 10.5% efficiency to our plan, demonstrating that our
plan was slightly below industry average costs by c.£40m.
In parallel with this assurance work, and in responding to feedback received from Ofwat, we have made
a series of scope modifications to our plan as certainty in specific areas has increased. Ahead of our
June submission we removed £28m of scope and as part of our October representation we have
removed a further £89m of scope.
At each of these stages we have applied additional costs efficiency, informed by market data and the
extrapolation of further specific assurance activities associated with discrete programmes or projects
within our Wholesale Plan. This has resulted in a revised plan now expected to cost £3.112bn.
Our interpretation of the feedback received through the Draft Determination is that Ofwat acknowledge
Franklin and Andrews’ assessment that our plan costs are marginally better than average. This is
because Ofwat has applied its assessment of upper quartile efficiency from that average starting
position, at 10.5%, with no additional adjustments. On this basis we consider that the equivalent scope
included in our October representation at average cost would be £3.495bn – therefore our current plan of
£3.112bn represents an efficiency saving of £383m or an additional 8.6% from our December plan.
Whilst we do not consider that Ofwat’s approach to calculating upper quartile efficiency is reasonable –
as set out in our June business plan response to the Ofwat Totex Models – if we applied Ofwat’s
assessment of upper quartile, 10.4%, consistent with the adjustments made in the Draft Determination to
our December plan (£3.495bn totex on like for like scope basis to our current plan), this implies a £363m
efficiency challenge. Therefore the efficiency assumed in our current plan of £383m exceeds the
efficiency challenge set by Ofwat. The resulting plan value of £3.112bn beats Ofwat’s estimate of upper
quartile efficiency and, in our view, is likely to be even closer to the frontier.
On this basis, we believe that it has been clearly demonstrated that our overall Wastewater Wholesale
plan is now marginally better than Ofwat’s assessment of upper quartile and no further efficiency
adjustments are necessary.
3
Figure 1 – Waterfall graph identifying how our costs now represent better than Upper Quartile efficiency at
a price control level
1.2
Cost Exclusions
In considering the feedback received in the Draft Determination we have carefully considered our
position with respect to each cost exclusion, reflecting on how to address the concerns raised by Ofwat
to ensure that we would clearly demonstrate the required evidence bar had been met.
The table below summaries how we have adjusted our cost exclusions in response to the feedback
received in the Draft Determination. Identifying the scope reductions, efficiencies and implicit allowances
for each exclusion. The final value required is the adjustment that we now expect to be made to the
baseline as a consequence of the additional evidence and assurance presented as part of our
representation.
4
Bathing Waters
Biodiversity
C&P Investigations
Davyhulme
Oldham & Royton
Base Totex
Trunk mains resilience
35
181
43
33
162
105
145
25
964
-3
Net increment £m
-16
Amount reflected
in Ofwat DD £m
-61
Other changes £m
235
Recognise Implicit
Allowance £m
Move to Ofwat UQ
efficiency £m
NEP5 Water Framework
Directive
NEP5 Shellfish Directive
Removed £m
Name of Exclusion
Gross Value
(June) £m
158
-2
-10
-3
-4
-32
-21
33
-78
-15
-18
-55
-22
-1
-92
-25
0
0
9
36
61
188
-39
+43
-21
-4
-192
-85
-88
+42
Total
Figure 2 – Summary table of adjustments to be made to the Wastewater baseline
0
-156
485
Below we summarise our representation approach to each of the nine cost exclusions included in our
June Submission.
1.2.1 NEP5 – Water Framework Directive
There is no totex model that reflects Water Framework Directive output volumes, which are due to be set
out in NEP Phase 5 in December 2015. In our June submission we sought a cost exclusion of £235.4m
in relation to these water quality projects in recognition of this.
In its Draft Determination Ofwat confirmed that there was no implicit allowance for these statutory
obligations. The cost exclusion partially passed the need test, with concerns being raised regarding our
AMP7 early start programme. It passed the cost benefit test and failed the robustness of estimate test.
Since receiving this feedback we have completed independent project specific assurance, utilising three
different organisations to examine our approach to costs and solution development. These reviews,
together with increased certainty regarding some projects, has enabled us to reduce the level of
expenditure associated with this cost exclusion.
We have also reviewed our position in relation to the inclusion of costs for our AMP7 Early Start
programme. Whilst we remain confident that the overall level of expenditure proposed in our Early Start
programme will be necessary and would be in the best interests of customers, we recognise that no
other company has taken this long term perspective to planning and preparation for delivering this
investment. As such, our approach has left us as an outlier in the industry.
We are now proposing to remove the costs and associated performance commitment for the Early Start
programme. We are doing so in the expectation that there will be transitional arrangements in place
which will allow for a sensible transition between AMP 6 and AMP 7, when specific requirements are
likely to be even clearer. We believe that it would be helpful if Ofwat gave some recognition in the Final
Determination of the expectation that there should be a mechanism to allow for this approach during
AMP6.
5
In relation to other NEP5 Water Framework Directive spend in AMP6, we believe that our representation
clearly demonstrates that we have addressed the concerns raised in the draft determination. Having
applied an adjustment to our cost estimates which we believe is consistent with Ofwat’s view of upper
quartile efficiency, we are seeking a cost exclusion of £158.1m to be made in the Final Determination.
Our proposed Outcome Delivery Incentive (ODI) covering this cost exclusion is fully compliant with the
methodology, which means that customers are fully protected.
1.2.2 NEP5 Shellfish schemes
Following a policy change, the Shellfish Directive only schemes were removed when NEP Phase 4 was
published and were to be subject to cost benefit tests by the Environment Agency. As such Ofwat did not
include them in the unit cost modelling. We have worked with the Environment Agency to understand the
likely outcome of these tests. As a result we are almost certain that they will be included in the River
Basin Management Plan and, subsequently, NEP Phase 5 and they will become statutory obligations.
We included a cost exclusion of £35.4m in recognition of this expectation. Ofwat confirmed that there
was no implicit allowance for the schemes. The cost exclusion passed the first two tests, but failed the
robustness of estimate test.
Since receiving this feedback we have completed independent project specific assurance of the costs
and solution. Our representation clearly demonstrates that we have addressed the concerns raised in
the Draft Determination and, following the application of an adjustment which takes us to Ofwat’s view of
upper quartile efficiency, we are seeking an adjustment to the baseline of £33.3m to be made in the Final
Determination. We have made no changes to our ODI “contribution to bathing waters improved” since
our June submission. We consider that we have provided an ODI mechanism which, in addition to the
other financial and regulatory measures available, ensures that customers are protected in the event that
we do not deliver the schemes within this cost exclusion.
1.2.3 NEP 3 and 4 Bathing water intermittent discharge projects
In NEP Phase 4 the statutory obligations associated with compliance with the revised Bathing Water
Directive were confirmed. We included a cost exclusion of £180.8m in our June submission as six of the
schemes included in our programme were poorly represented in the unit cost models. An implicit
allowance of £77.9m was calculated by Ofwat with an additional allowance of £92.2m included in the
Draft Determination, resulting in a total allowance of £170.1m. We accept the Draft Determination and
have reflected the revised gross value of the exclusion in S11.
1.2.4 NEP 3 and 4 Biodiversity (P removal in Windermere)
In NEP Phase 3 (and Phase 4) the statutory obligations associated with compliance with biodiversity
legislation were confirmed. We sought a cost exclusion of £42.7m in relation to these biodiversity
projects because past costs incurred by the industry were not a good predictor of future costs due to be
incurred by the company. An implicit allowance of £15.2m was calculated by Ofwat with an additional
allowance of £24.6m included in the Draft Determination, resulting in a total allowance of £39.8m. We
accept the Draft Determination and have reflected the revised gross value of the exclusion in S11.
In the Draft Determination Ofwat raised concerns with regards to customer protection associated with the
scheme, as there was still some uncertainty regarding the phosphorus limits to be achieved. The
Environment Agency has completed a refresh of NEP4 and adding in the final consent limits to be
achieved through this expenditure, we provide this as additional evidence2, together with a letter from the
Environment Agency. This confirms that our indicative design standards where correct and clearly
demonstrates that no additional customer protection is required with respect to this claim.
2
REP06 Outcome Delivery Incentives – Appendix 3
6
1.2.5 NEP 4 Chemical and P removal investigations
Our representation on C&P investigations is not a cost exclusion, it is a representation that Ofwat’s cost
assessment for this programme is incomplete, and hence prevents an appropriate assessment of the
correct costs for meeting this obligation.
In NEP Phase 4 the statutory obligations associated with our contribution to the national investigations
and trials into chemical and phosphorus removal were confirmed. For the Draft Determination Ofwat has
acknowledged the requirement for additional sampling and analysis as a result of the Defra intervention.
This acknowledgement resulted in an increase in the cost assessment by c.£3m and the conclusion that
our claim was below materiality. We do not believe that the materiality assessment should apply in this
case, as our challenge is to the underlying cost assessment approach and assumptions, not as a cost
exclusion which reflects company specific circumstances.
We believe that Ofwat has taken an incorrect approach to establishing the cost of this programme. This
is because inappropriately low unit sampling costs have been extrapolated from the Atkins Report. This
is in addition to failing to recognise the full cost for the delivery of pilot plant equipment and together
these result in the costs being underestimated. We have reviewed additional information provided to us
by Ofwat since the receipt of the Draft Determination and consider that the level of costs reflected is
insufficient to cover the successful completion of the proposed monitoring programme and pilot plant
trials.
We are therefore making representations on the modelling approach, which we believe should be
corrected. In making this claim, we have updated our assessment of the cost for meeting the statutory
obligation and applied an efficiency adjustment which takes our costs to Ofwat’s estimate of upper
quartile efficiency. As a result of these changes and recognising the value already assessed by Ofwat as
£17.5m, we are seeking for this assessment to be increased by a further £8.7m in the Final
Determination, to better reflect the reasonable costs of this requirement.
1.2.6 Davyhulme WwTW
We sought a cost exclusion of £162m on the basis that Ofwat’s totex models are not designed to reflect
the cost of large, integrated schemes with multiple attributes. At the Draft Determination Ofwat noted
that “because this is an overlap scheme we are making an allowance for the quality element, which UU
says in its document RD207 is £39.27m”. However the rest of the exclusion was rejected, failing the
need and cost benefit analysis tests.
Since receiving this feedback we have received tenders and selected a preferred bidder for this project.
This, together with a further efficiency adjustment, has enabled us to reduce the gross level of
expenditure associated with this cost exclusion to £130m.
We have provided evidence that the totex cost associated with trade growth which is implicitly allowed
for in Ofwat’s model is negligible and, unless trade loads fall again by as much in AMP6 as they did in
2008-12, Ofwat’s sewage treatment growth model will significantly underestimate the unit costs of
accommodating only population growth over the period, let alone trade growth as well. We have
provided evidence from the traders themselves that significant trade growth in the Davyhulme catchment
is going to happen and recommend that an additional allowance of £36m should be made for this. We
have had Aqua Consultants provide “bottom up” estimating of our solution to provide independent cost
assurance of the scheme. Combined with the review of solution development previously completed by
Halcrow, this clearly evidences the full suite of assurance sought; confirming the need, that the approach
is cost beneficial and is efficiently costed. This has demonstrated that our costs are more efficient than
upper quartile for this project and that we considered an appropriate range of solutions that are
appropriately sized based on achieving the statutory obligation.
7
Allocating the sewage treatment growth model allowance in proportion to the population growth expected
in Davyhulme’s catchment suggests an implicit allowance of £7.4m for treatment growth specifically at
this works. Further to this we have engaged KPMG establish a view of the Implicit Allowance of the
capital maintenance associated with the scheme. This has identified that the maintenance requirement
at Davyhulme is included in the Basic Cost Threshold. Reducing the net value of the adjustment to the
Cost Threshold for maintenance to zero.
We have also adjusted our penalty mechanisms for our ODIs “protecting rivers from deterioration due to
population growth” and “maintaining our WwTWs” to increase the penalties associated with failing to
deliver this project to ensure customers are protected.
1.2.7 Oldham & Royton WwTW
In June we sought a cost exclusion of £104m on the basis that Ofwat’s totex models are not designed to
reflect the cost of large, integrated schemes with multiple attributes. Ofwat confirmed that there was no
implicit allowance for the quality element of the scheme.
The claim failed Ofwat’s tests on both Need and Robustness of Estimate, due to “no evidence for why
the majority (58%) of the costs of this scheme (capital maintenance) were not already covered by our
modelled allowance… apparent lack of project cost maturity”3. Since receiving this feedback we have
received the results of a tender process for this project. This, together with a further efficiency
adjustment, has enabled us to reduce the level of expenditure associated with this cost exclusion to
£83m.
We have had Aqua Consultants provide “bottom up” estimating of our solution to provide independent
cost assurance of the scheme. Combined with the review of solution development previously completed
by Halcrow, this clearly evidences the full suite of assurance sought; confirming the need, that the
approach is cost beneficial and is efficiently costed. This has demonstrated that our costs are better than
upper quartile and that we considered an appropriate range of solutions that are appropriately sized
based on achieving the statutory obligation.
Further to this we have engaged KPMG establish a view of the Implicit Allowance of the capital
maintenance associated with the scheme. This has identified that £22m of the planned £44m is already
included for in the Base Totex model, reducing the net value of the adjustment to the Cost Threshold to
£61m.
1.2.8 Base total expenditure
In our June plan, we represented that the environmental factors which affect the north west region result
in us having historically higher levels of investment requirements and therefore more assets to maintain
and operate than an average company. This manifests itself in a higher than average asset value, as
measured by the Gross Modern Equivalent Asset Value (GMEAV), which is the basis that companies
have recorded and reported asset values for the regulatory accounts for many years.
In its draft determination, Ofwat expressed concern about the use of MEAV as a measure. Further, when
assessing our claim, Ofwat applied “an adjustment of 25% to reflect the fact that United Utilities' GMEAV
is typically significantly above industry average.” This was despite the evidence that our GMEAV being
typically higher than this industry average, as a result of higher than average investment requirements, is
the reason why our base totex is also above average and hence not reasonably represented by the totex
models.
3
PL14S011 Cost template – DD11 – Atypical, integrated AMP5/6 large project solutions – Oldham & Royton
WwTWs
8
We continue to consider that GMEAV is a reasonable basis on which to estimate an overall impact of the
confluence of issues affecting our base totex. In order to address Ofwat’s concerns over the use of
GMEAV, we have needed to examine a series of individual, narrower assessments - the impact on the
environmental factors affecting the North West are wide and varied in their impact on our costs, and
therefore there is no single measure (other than GMEAV) which is capable of reflecting a single overall
impact on base totex. This approach to the assessment has a number of considerations:
The individual assessments are not separable exclusions in their own right – they are all facets of
the combination of environmental factors which affect us, and therefore it is the total value which
represents the proposed cost exclusion.
We believe this approach acts to understate the overall value of this impact on our base totex
costs, as not all facets have been identified and valued.
In the event that some of the facets appear to overlap, we have prudently assumed a 100%
overlap, and hence further sought to propose a reasonable valuation.
On the basis of this work, we have proposed an S11 exclusion of £188m in respect of Base Totex,
summarised in Figure 3.
Impact
Value
(2012-13
£m)
Network storage (opex)
6.0
Network storage (CM)
7.0
Treatment capacity (CM)
102.6
Tertiary treatment (opex)
36.6
IED permits (opex)
7.4
Enhanced sludge treatment (opex)
7.3
Enhanced sludge treatment (CM)
7.3
Short asset lives (CM)
Opex
CM
Sewage
Treatment
Opex
CM
Sludge Tment /
Disposal
Opex
CM
47.0
Combined network (opex)
7.6
Combined network (CM)
6.2
Raw total
Network
256.5
13.6
Assume all short asset lives CM
overlaps with sewage treatment capacity
CM
Minimum total £m
188.0
13.6
Figure 3 - Summary of base totex cost exclusion elements
36.0
36.6
(22.8)
13.2
125.4
14.7
30.1
(22.8)
36.6
102.6
(22.8)
14.7
7.3
1.2.9 Trunk mains network reinforcement not subject to developer contributions
Given the high evidential bar set by Ofwat, we have been unable, in the time available, to gather
sufficient evidence on costs and income recovery such that we could demonstrate efficiency relative to
our peers. We have retained these projects in our programme and will seek to recover more income
from developers in AMP6 such that this exclusion would become immaterial. Therefore we will no longer
seek an adjustment to the baseline via an S11 exclusion.
We do have concerns about the principle that all network supply demand costs are recoverable from
developers. Our network models forecast flows will increase over the next 25 years as a result of
climate change and urban creep, this is far more significant in volumetric terms than new development.4
4
Network models suggest climate change and urban creep responsible for c.20% of flow increase by 2036, new
development and changing demands cause c.2% flow increase by 2036.
9
The cost of maintaining service levels as a result of surface water runoff increasing due to the paving
over of permeable areas and a changing climate should be borne by the wider customer base and not
imposed solely on developers who usually install separate foul and surface water systems. We would
welcome the opportunity early in AMP6 to discuss with Ofwat and other water companies how the
developer funding framework is functioning and to ensure network supply demand expenditure
requirements are equitably shared between existing and new customers.
We will continue to work with the Local Authorities to ensure planning guidance is being robustly
enforced and that future development maximises opportunities for more sustainable approaches to
tackling surface water drainage. On the basis that we will be successful in recovering more costs from
developers in AMP6, we therefore now expect no additional allowance for these projects.
10
2. NEP5 Water Framework Directive Summary
The Draft Determination Deep Dive Assessment provided the following feedback on the £235m cost
exclusion we made for the NEP Phase 5 Water Framework Directive in the June submission;
£0m implicit allowance, Adjustment £0m, Remaining Gap £235.4m
Undertake additional cost and scope assurance work
Consider opportunities for additional Early Start evidence and scope
Need
CBA
Costs
Customer
Partial Pass
Pass
Fail
n/a
Figure 4 - Outcome of Deep Dive for Draft Determination
In response to Ofwat’s feedback we are:
• Proposing to reduce the value of the exclusion claim to £158.1m from £235.4m in our June plan
by;
• Removing the AMP7 early start expenditure of £41.2m (and will seek to recover
expenditure through transitional arrangements at PR19)
• Removing £19.9m cost and associated scope following the completion of the assurance
work and increased certainty regarding environmental outcomes
• Applying an additional efficiency to this programme of 8.6% which results in an additional
cost reduction to our June plan of £16.3m
• Demonstrating that our costs are upper quartile, we have undertaken additional specific cost
assurance for the projects within this cost exclusion
• Providing explanation of our comparative performance against Ofwat’s Unit Cost Curves
• Seeking that £158.1m is added to the baseline, in response to these changes and the additional
evidence provided
2.1 Need
The Water Framework Directive requires all rivers to reach “good status” by 2027. Enforcement of these
standards on water companies will be through environmental permits (formerly discharge “consents”),
under the Environmental Permitting Regulations (EPR).
The Environment Agency is updating River Basin Management Plans (RBMP) to inform environmental
improvements required by 2027 by each sector. These requirements will be set out in NEP Phase 5 in
December 2015 for the water industry. Following publication of NEP Phase 5, the Environment Agency
will issue legally enforceable discharge permits, under the EPR.
We have engaged with the Environment Agency to ensure that the requirements are valid and robustly
evidenced through the joint simulated catchment modelling (SIMCAT) and Integrated Catchment
Modelling (ICM) models. This provides us with an opportunity to influence how these requirements affect
us and customers in our region. For example, we removed the totex associated with the improvements
at Talkin and Skelton in Cumbria that were included in our December Business Plan. This is in light of
new information from the Environment Agency that there was uncertainty regarding the cause of
eutrophication issues. This decision has removed c£3.5m of totex from our plan and demonstrates that
we have challenged those requirements that fail the evidence test.
We estimate that the total cost of delivering our contribution to “good status” by 2027 to be c.£1.5bn.
11
2.1.1 Our interpretation of the Draft Determination
We understand from the Draft Determination that there are concerns regarding the inclusion in our
Business Plan of £43m of expenditure to mobilise projects which we expect that we will deliver in AMP7
under this legislation. We note Ofwat’s statement that no other company has taken this long term
perspective to planning and preparing to deliver this investment and as such we appear to be an outlier
in the industry. When seeking to ensure that all customers receive a similar service at a cost derived
through models we can see how this creates a conflict and inconsistency.
2.1.2 Our response to the Draft Determination
Our plan for Water Framework Directive was extremely well supported by the Customer Challenge
Group and the Environment Agency. In particular the Environment Agency was keen to ensure that our
plan included costs for us to prepare efficiently and effectively for AMP7 and AMP8 through the
identification of investment to smooth the transition from one regulatory period to the next5.
We remain confident that the overall level of expenditure proposed in our Early Start programme will be
necessary. We note that the Blueprint for Water coalition recognised that our “plans include good
progress across 90% of areas” and consider this is in part due to our approach to longer term planning.
However, as we have discussed with Ofwat, there are a number of uncertainties related to this
programme, which mean that providing compelling assured evidence of the specific schemes we would
invest in and the amount we would propose to invest in each scheme is unfeasible at the present time. It
is with this in mind that in responding to the Draft Determination we have opted to remove the
expenditure from our plan with a view to achieving an appropriate regulatory solution for transitional
arrangements later in the AMP.
Within our performance commitment we had included a river length of 24.23km directly associated with
the Early Start investment and as a result we propose a double sided adjustment to remove this from our
plan also6.
2.1.3 Expectations for the Final Determination
The inclusion of our Early Start programme was cited as the single reason why our cost exclusion for
Water Framework Directive had been scored as a ‘partial pass’ in the Draft Determination, having been
adjusted from a ‘pass’ at the Risk Based Review in April. We would therefore expect that the change
which we have proposed results in the test being considered a ‘pass’ again.
We remain confident that the overall level of expenditure proposed in our Early Start programme will be
necessary and would seek that Ofwat acknowledge through the Final Determination to engage in
discussion early in the next AMP to agree appropriate transitional arrangements to enable the industry to
ensure it can deliver against its statutory obligations in this area as the uncertainty reduces.
2.2 Whether most cost beneficial solution
The modelling and investigation that we have undertaken as part of our approach to managing
uncertainty has confirmed that a high proportion of the waterbody failures in our densely populated urban
catchments are linked to our wastewater discharge activities, principally related to phosphorus and
ammonia loading7,8. We have identified a total of 123 wastewater treatment works and 113 intermittent
5
Environment Agency Response to United Utilities, 28 November 2013 – Update following further communication
with the company
6
7
Environment Agency, North West River Basin District Facts and Statistics, June 2013
12
discharges that contribute to Water Framework Directive failures, and established the current level of
certainty in each case.
We have assessed the contribution our measures will make to improving river quality at these locations,
using both information provided by the Environment Agency and our own modelling9. This has informed
our cost-benefit assessment of each scheme. The Environment Agency has also carried out wider
environmental and societal benefit valuations using a nationally agreed methodology for assessing the
overall cost-benefit of Water Framework Directive schemes at a sub-catchment scale10. We have used
these cost-benefit assessments to challenge solutions and identify those measures where more
investigation is needed before confirming the way forward.
We have followed the joint regulators’ best practice guidance11 in carrying out cost benefit analysis for
our Business Plan and for this submission. In selecting specific schemes for the AMP6 Water
Framework Directive programme we have annualised the costs associated with all options for each
identified need and related these to the expected annual benefits. We have then typically selected the
option with the highest cost benefit ratio to contribute to the overall programme.
In the Ofwat Draft Determination feedback we note that there was no definitive statement regarding the
cost beneficial nature of our schemes or the programme overall.
We have reviewed the Environment Agency’s assessments of the overall value for improving river
quality. The Environment Agency assessments give significantly higher values than those derived from
customer research12.
The net benefit, based on our analysis, indicates that 10 of the 28 NEP5 specific schemes included in
our programme do not appear to be cost beneficial. The Environment Agency has completed, as
required by the Water Framework Directive, independent cost benefit analysis of these schemes, using
their national methodology, and confirmed that they consider them all to be cost beneficial and as such
will promote them in the draft and final River Basin Management Plan and NEP5, thereby making them
obligations13. We consider that the Environment Agency's analysis takes precedence over that
completed by ourselves in informing our legal requirements and as such should be considered as
evidence that our programme is cost beneficial.
We note that in the deep dive for the Draft Determination Ofwat considered that sufficient evidence had
been provided to consider this test to have been passed. The confirmation that the Environment Agency
considers all the schemes in the cost exclusion to be cost beneficial should serve to strengthen this
assessment and we would expect that this test will continue to be assessed as passed.
8
Water Framework Directive Reasons for Failure Database – November 2012
United Utilities document RD206 Wastewater Wholesale cost exclusions (Test 4.1) Annex A, section 2, June
2014
10
Environment Agency River Basin Planning economic appraisal methodology
11
Review of Cost-Benefit Analysis and Benefit Valuation 10/RG/07/18 (http://www.ukwir.org/ukwirlibrary/93550)
12
United Utilities document RD209 Wastewater project optioneering spreadsheet (Test 4)
13
Environment Agency, Briefing to water companies - Initial outcomes of the economic appraisal of River Basin
planning measures, May 2014
9
13
2.3 Robustness of estimate
In order to ensure our estimates in this area were robust, we have used our Integrated Asset Planning
(IAP) process to identify existing and future needs and requirements, including those expected to be
necessary for contributing to the achievement of ‘good’ ecological status under the Water Framework
Directive. Through the process we have sought to cluster issues (geographically and in time), so that
projects will deliver multiple outcomes and best value for customers.
In particular we have taken a long term view of the needs of the Water Framework Directive. Through
our joint water quality modelling with the Environment Agency we have developed a comprehensive
understanding of the investment requirements to meet good ecological status.
We have also looked for opportunities when such schemes have been identified to develop solutions
which not only address the new quality obligation, but also existing or forecast maintenance
requirements. These integrated solutions enable us to deliver against multiple outcomes, for instance
“Maintaining our wastewater treatment works” and “Contribution to rivers improved” in single project.
Having identified these requirements and established their priority, we have considered a range of
options for each project, this optioneering was evidenced in RD209 Wastewater project optioneering
spreadsheet, as part of our June Submission. We have then had the options reviewed internally and
externally initially at a programme level and now at a project specific level to ensure demonstration of
robust costs.
Ofwat observed, based on its comparative unit cost analysis that the planned expenditure for both
phosphorus removal and storage schemes is more expensive than other companies and therefore
considered to be less efficient.
The report provided by Franklin and Andrews has been considered to demonstrate that our IPES14 preefficiency costs are, on average for water and wastewater combined, up to 5% higher than the industry.
With wastewater infra IPES costs 9% above industry average and wastewater non-infra IPES costs 8%
above industry average. It appears that the efficiency challenge that we have applied is acknowledged,
but the Ofwat analysis of comparative cost has taken precedence.
We note that only two other companies have included storage schemes in their managing uncertainty,
NEP5 programmes. This appears to have resulted in Ofwat only having a comparatively small sample
size of schemes to compare our storage volumes against. The inclusion of storage schemes appears to
make us atypical compared to an average company.
The reasons given for the failure of this test were that no specific external assurance of costs was
considered to be associated with this claim and that the comparative analysis of cost and the findings of
the Franklin and Andrews benchmarking indicated that we were only marginally above the average
industry benchmark.
14
Investment Programme Estimating System our Parametric estimating system
14
Unit Cost Outliers
Phosphorus schemes
Ofwat completed comparative unit cost analysis on the capex associated with the phosphorus solutions
associated with this programme area. Ofwat's initial finding concluded that our proposed interventions
resulted in a programme which was significantly more costly when considered against the rest of the
industry, as shown by point 1 on Figure 5.
Having been provided the opportunity to review this information we have identified a number of key
differences which we envisage have resulted in a distorted analysis:
•
Aspatria
– Since our June submission we have matured the level of estimate for this scheme from
Level 1 to Level 2
– During this review we have identified that we undertook additional environmental
modelling which indicated a relaxation of the indicative standard was possible this has
resulted in a significant scope reduction and therefore an associated cost change of
£8.2m
– We have provided this revised information to Halcrow, which completed a review of this
information and confirmed the revised cost align to the need15
•
Northwich
– Developed through our Integrated Asset Planning as an integrated solution, the scheme
includes costs for delivering Water Framework Directive phosphorus requirements at
Oakmere and Cuddington, through a transfer of flows to Northwich
– Ofwat has included the enhancement costs for all three sites, without the associated
population equivalent. This has led to an incorrect conclusion being drawn
– In adjusting the enhancement cost (£4.7m) to include only Northwich and the associated
population equivalent (58,909) a more comparable assessment of the cost can be
completed
– We have not added Oakmere and Cuddington to the unit cost assessment as they have
multiple additional drivers (ammonia and BOD) which would make cost comparison
against the phosphorus driver misleading
– Halcrow has undertaken assurance of this scheme since our June submission and no
issues have been identified16
•
Crewe
– Developed through our Integrated Asset Planning as an integrated solution, the scheme
includes costs for meeting ammonia and phosphorus requirements
– Ofwat has included the full Q cost in the phosphorus unit cost curve. This double counts
expenditure with the ammonia unit cost model
– We have adjusted our view of the unit cost by subtracting the amount of expenditure used
for the ammonia unit cost from the total Q cost.
– This adjustment results in a reduced allocation to phosphorus removal of £16.4m, revising
the cost down to £8.789m
– Halcrow has undertaken assurance of this scheme since our June submission and no
issues have been identified17
15
Halcrow Management Services Ltd, PR14 Proposed NEP5 Programme – Capital Projects Audit, September
2014
16
Halcrow Management Services Ltd, PR14 Proposed NEP5 Programme - Capital Projects Audit, September 2014
17
Halcrow Management Services Ltd, PR14 Proposed NEP5 Programme - Capital Projects Audit, September 2014
15
We have then updated the cost curve to reflect these changes. This results in our costs moving closer to
the expected industry costs, as shown by data point 2 in Figure 5.
Figure 5 - Industry Unit Cost Comparison - Phosphorus Removal Schemes associated with NEP5
•
Low phosphorus removal schemes
– Two schemes (Wigton and Barton) have been identified through our joint SIMCAT
modelling with the Environment Agency as requiring low phosphorus limits (0.66 and
0.63mg/l respectively) and as such the technologies required to achieve these lower limits
are more complex and costly than those with consent levels of 1mg/l or greater18
– In AMP5 we successfully trialled BluePro and it is our standard generic low phosphorus
solution for small works. It is the technology expected to be deployed at these sites
– The Environment Agency confidence of Water Framework Directive failure associated
with eutrophication is considered to be ‘very certain’, confirming a definitive need19
– Both schemes have been reviewed by the Environment Agency and have passed their
cost benefit assessment20. In addition they also pass our own CBA21
– We have removed the BluePro scope items from these projects to enable for comparison
– This removes a total of £4m from the schemes. This has a significant impact when
comparing the unit costs of the NEP5 schemes
– No issues with either scheme have been identified by our assurance audits
We have then updated the cost curve to reflect these changes. This results in our programme costs
moving below the model industry cost curve, as shown by data point 3 in Figure 5.
The analysis shown in these costs curves in completed ahead of the additional efficiency adjustment of
the additional 8.6% that we have applied to this programme.
18
United Utilities Position Statement for Achieving Low Total Phosphorus Final Effluent Consents, September 2014
United Utilities document RD215 NEP5 justification – WFD uncertainty programme (Tests 2.4 & 4.1)
20
21
19
16
Storage schemes
Ofwat completed comparative unit cost analysis on the capex associated with the storage solutions
associated with this programme area. Ofwat's initial finding concluded that our proposed interventions
resulted in a programme which was more costly when considered against two other companies22.
Having been provided the opportunity to review this information we have identified a number of key
differences which we believe will have distorted the comparison.
•
Failsworth
– The scheme at Failsworth initially included scope and cost for phosphorus removal in
addition to storage. This full project value was used when plotting the unit cost model
– As part of our assurance audits we have identified that the driver for this scope item has
not been confirmed for delivery in AMP6 and should be removed from the project
– We have therefore removed this cost from our programme, reducing the capex
requirement by £3.7m
– The audit has found no further issues with the scheme, assuring the revised costs
•
Storage volumes at 4 sites
– Initial storage volumes were developed using Integrated Catchment Modelling (ICM)
– As the development of schemes progressed some storage requirements have
significantly increased, whilst we have also seen minor reductions elsewhere
– These changes were reflected in our June submission in RD209 Wastewater
Optioneering spreadsheet
– Ofwat has not reflected these changes in volumes in the unit cost model. This has
distorted the results of its analysis.
– Assurance audits have not identified issues with these projects
– The changes are shown in Figure 6 below:
Scheme Name
Original Volume
Revised Volume
OLD 0100
15,000m3
>21,000m3
OLD 0109
11,000m3
> 10,500m3
HYN 0008
6,000m3
>6,500m3
CHR 0021
8,000m3
> 17,400m3
Figure 6 - Changes to storage volumes following scheme development
Whilst the changes at OLD0109 and HYN0008 are relatively minor, effectively offsetting one another, the
increased storage volumes associated with OLD0100 and CHR0021 are significant. These changes are
reflected in Figure 7 below, moving our overall costs much closer to the single comparator company for
which data is available, with a strong statistical relationship.
22
Ofwat spreadsheet – Sewage – pap_tec1402feederrbrtemplatesnwtdd
17
Figure 7 - Industry Unit Cost Comparison – Storage Schemes associated with NEP5
We considered that the adjustments identified above provide a truer comparison of costs for these types
of intervention and address the comments raised within the Draft Determination feedback regarding cost
comparison.
The analysis shown in these costs curves was completed ahead of the additional efficiency adjustment
of 8.6% that we have applied to the programme.
Assurance and Cost Maturity
In addition to providing project specific assurance of the need and the scope for each of the schemes
within this cost exclusion utilising the skills and experience of Halcrow Management Services, we
engaged two cost consultants; Franklin and Andrews and Aqua Consultants to provide their views on
how our pre-efficiency costs perform against their view of industry averages and upper quartile.
We consider that in engaging three independent companies we are able to provide a fulsome picture of
assurance. The schematic below describes how this is picture is established. Halcrow are able to
confirm the need and scope and take a view on costs. Having had the options considered and preferred
solution confirmed as the best option to address the need, we have then used Franklin and Andrews in
parallel with Aqua Consultants to test the cost of each solution against their own databases of costs. By
using different methods and different data this ensures a better overall view of our costs.
18
Figure 8 - Summary of Water Framework Directive scope and cost assurance
Halcrow Management Services
Halcrow Management Services (HMS) has undertaken a specific review of the solution selection23, for
each of the projects relevant to this cost exclusion. They commented as follows;
“As a result of the audit work undertaken and subsequent Company responses to the challenges made,
we have no material concerns remaining and we consider that the asset intervention and sizing
proposed, from which the cost estimates have been produced, are reasonable and, given the assurance
on the costs and the costing processes provided by others, should predominantly present reasonably
central estimates, for the projects proposed and the programme as a whole…We have seen good
evidence of well-considered and appropriate solutions which have been developed to a level
commensurate with the time UUW has had to develop them and with their degree of certainty.”
As part of the assurance and our on-going process of developing certainty with regards to the
programme there are two projects where we are making scope and associated cost reductions
23
•
Kidsgrove
– The scheme at Kidsgrove initially included scope and cost for phosphorus removal in
addition to the scope to achieve the required reduction in ammonia.
– The standard required for phosphorus is now expected to be less than 1mg/l
– As a result of this we are deferring this expenditure until the need and certainty regarding
eutrophication is confirmed
– This has removed £5.7m from our programme
•
Hallsall and Haskayne
– The scheme involves the transfer of flows from both sites to a larger wastewater
treatment works at Hillhouse in Ainsdale
– Both sites are close to asset life-end and would require major and expensive upgrades if
additional treatment were to be provided on site
– The surrounding area is largely agricultural. The additional solution included costs to lay
the transfer pipeline in the highway.
– Halcrow audit has challenged this assumption and subsequently we have identified a
transfer route away from the highway in soft ground
– This has removed £2.3m from our programme
PR14 Proposed NEP5 Programme - Capital Project Audits
19
In addition to undertaking independent assurance to demonstrate that the projects are efficiently and
robustly developed, we have increased the maturity of two projects from Level 0 to Level 2 costing
estimates;
•
Kendal
– There is expected to be a no deterioration driver included in NEP5 associated with
ammonia
– The requirement was identified late in the process and as such we completed a level 0
estimate of £1.4m, which was included in our original submission
– We have now completed a Level 2 estimate which has identified that the quality costs
have increased to £2.8m (pre-efficiency). We are not seeking to have this increased cost
estimate reflected in the Final Determinations
– The scheme was reviewed following the completion of the revised estimate and has found
no further issues with the scheme, assuring the revised costs
•
Hayfield
– Hayfield is expected to be included in NEP5 with a driver to reduce phosphorus to 0.8mg/l
– The requirement was identified late in the process and as such we completed a level 0
estimate of £1.9m, which was included in our original submission
– We have now completed a Level 2 estimate which has identified that the quality costs
have increased to £3.4m (pre-efficiency), we do not propose to reflect this estimated cost
increase
– The scheme was reviewed following the completion of the revised estimate and has found
no further issues with the scheme, assuring the revised costs
Franklin & Andrews
Franklin and Andrews24 provided an independent review of the Water Framework Directive solutions
developed and assured by Halcrow Management Services through the use of top down benchmarking
using aligned Franklin and Andrews industry direct cost models where possible. Franklin and Andrews
selected three cost benchmark comparators that it considered to represent an upper quartile Company
and two average performing Companies.
In addition Franklin and Andrews also undertook a separate indirect cost benchmarking analysis and
compared our indirect costs. By comparing the direct and indirect costs separately Franklin and Andrews
has been able to significantly increase the sample size value and therefore the overall confidence with
their output.
Having completed top down analysis of both direct and indirect costs separately, Franklin and Andrews
weighted the combined direct and indirect elements of our schemes and compared them to the
equivalent water industry comparators.
Franklin and Andrews analysis concluded that for this specific programme and therefore cost exclusion
that when compared to the average water industry comparator, we were 6% more efficient. However,
when compared with an upper quartile water industry comparator, we were 4% less efficient.
Franklin and Andrews then identify that we applied a 10% efficiency to this programme as part of our
original business plan submission whereas the average post efficiency adjustment made by other Water
Companies appears lower, ranging from 0.7% per annum to 10% per AMP based on those declaring
capex efficiencies in their December business plan submissions. Franklin and Andrews therefore
considered that our 10% efficiency factor would improve our position and means that we had the
potential to become upper quartile.
24
REP-G Franklin and Andrews Benchmarking Assurance wastewater solutions
20
Aqua Consultants
To further demonstrate and understand our cost performance against the industry, and provide
additional assurance of our costs, in addition to the comparative top down analysis completed by
Franklin and Andrews on our Water Framework Directive projects we engaged Aqua Consultants25 to
provide bottom up assurance costs. In order to carry out the estimating Aqua utilised three of their in
house systems supplemented by other cost information as required. These systems are;
1. ENSCES this is an Engineering Scoping and Estimating tool which Aqua used to take basic
design information such as Population Equivalent or Flow to size a series of the most commonly
used Water, Wastewater, Sludge and Networks assets to produce a Bill of Quantity
2. ASD (Auto Structural Design) is Aqua’s web based tool used to undertake initial structural
engineering design, feasibility, validation or optimisation of proposed solutions efficiently,
effectively and confidently
3. Hindsight cost database is Aqua’s internal historical cost database which includes over 60,000
individual cost items across various sectors and geographical regions. The data includes civil,
mechanical and electrical items. Hindsight has the ability to adjust the historical costs for date
and location
This enabled Aqua to undertake a comparison of over 1,000 scope items against our costs. This
comparison resulted in Aqua identifying at a programme level a variation in cost of 19.9% from our
original estimate. The variation at a scheme level was greater, c.1% - 50%, this can be attributed to;
1. Alignment of design criteria. Signature designs v detailed designs
2. Alignment of coverage between the different approaches to coding structures.
3. Aqua’s detailed approach to estimating versus our parametric approach.
Aqua concluded that at a project and programme level;
“This variance can generally be attributed to Aqua’s bottom up engineered cost solutions verses UU’s
high level feasibility approach. By definition Aqua’s solutions will tend to be far leaner as they are pitched
further along the project development process, and generally do not capture area specific knowledge
which is incorporated into UU’s estimating processes.
As a result Aqua’s benchmarking is at the upper end of the upper quartile which accounts for
approximately 8% of the overall variation between the two estimates.”
In responding to the Draft Determination we have applied a total of 18.3% efficiency to our Water
Framework Directive programme, moving us beyond Franklin & Andrews assessment of upper quartile,
level with Ofwat’s assessment and close to Aqua Consultants raw assessment and beyond their
adjusted assessment.
Industry Comparison
We have undertaken a comparison of our revised programme of £158m against those allowances made
for other companies in the Draft Determination. The removal of our early start programme, the
adjustment of costs in response to the Halcrow assurance work and application of the 18.3% efficiency
overall indicates that our plans would be considered to be at or below the industry average expenditure
at upper quartile cost efficiency, as shown in Figure 9 and Figure 10 when data is normalised against
connected population and main river length.
25
REP-H Aqua Consulting report on WFD, Davyhulme and Oldham & Royton cost assurance
21
Figure 9 - Water Framework Directive cost allowances normalised against connected population
Figure 10 - Water Framework Directive cost allowances normalised against km’s of main river
Conclusion
Since June we have been able to review the approach to the managing uncertainty programme
associated with delivery of future obligations under the Water Framework Directive.
The Draft Determination made specific comments about our Early Start programme. Whilst we accept
that there is an additional level of uncertainty regarding the precise focus of the expenditure in this area,
we believe that this level of expenditure will be necessary. We consider that our approach is progressive
and forward looking and this does not necessarily compare easily against this approach taken by the rest
of the industry. We will remove the planned expenditure, but would welcome Ofwat’s acknowledgement
in the Final Determination that there is a need for an approach to be taken that will facilitate transitional
funding arrangements to AMP7.
We have worked closely with our independent assurers to understand and challenge the assumptions
which we used to develop our initial understanding of this programme. It has shown that the majority of
the projects included had scope which was considered robust, we have identified only 4 projects where
there is an opportunity to better align the scope with our new understanding of the requirements. In doing
this we have acknowledged that costs can be removed and taken this step.
We have considered the feedback from the Draft Determination with regards to our performance against
Ofwat’s assessment of Upper Quartile in conjunction with feedback received from the industry cost
comparison. As a result of this we have made an additional adjustment at a programme level to our plan
22
in this area. The summary of these changes is presented in Figure 11. This shows that our assurance
has identified a range of views regarding what is considered upper quartile performance. Based on our
revised scope our programme now outperforms the assessment completed by Franklin and Andrews,
meets the Upper Quartile efficiency benchmark set by Ofwat but does under perform the prediction of
Aqua Consultants. This clearly demonstrates that Ofwat assessment of Upper Quartile performance is
within the views of two independent organisations and that our programme now aligns with this view.
Figure 11 - Summary of Water Framework Directive programme adjustments from June to October
We recognise that the information and evidence provided under this test had failed to meet the high
evidence bar set by Ofwat in previous assessments. It is right that the evidence bar is set high given the
regulatory uncertainty with regards to this programme area.
In our representation we have clearly presented additional evidence which demonstrates additional
rigorous review of our costs. We have strengthened our external assurance adding an additional level of
scrutiny and comparison of our costs against the rest of the industry, responding to this data and setting
our costs at a level better than or equal to upper quartile, providing the evidence that no further cost
adjustments are required.
We have clearly demonstrated that the adjustments made to our programme bring us well in line with the
rest of the industry, whilst demonstrating that we have significantly more requirements than other regions
because of the unique confluence of factors in the North West26,27
We consider that these changes, together with the additional evidence that we have provided, addresses
all of the concerns raised in the Draft Determination Deep Dive Assessment and should result in this test
being passed ahead of the Final Determination.
26
United Utilities document RD206 Wastewater Wholesale cost exclusions (Test 4.1) Annex A, section 1, June
2014
27
Cascade, The Water Environment in the North West: Challenges for United Utilities
23
2.4 Whether consumers are protected
In response to the Risk Based Review and the Risk and Reward Guidance, we amended the targets and
ODIs for the measure of success associated with this programme of work (Contribution to rivers
improved). This is now a penalty and reward ODI.
In particular we removed the deadband which means that if any element of the programme is not
delivered to the required output date, then a penalty would be incurred and customers would be
compensated at the next price determination.
The Environment Agency will also regulate and potentially take enforcement action or prosecute for late
or non-delivery of this programme.
We note that no specific feedback was provided for this test with relation to the Deep Dive Assessment,
based on the failure of the previous robustness of estimate test. We identified that Ofwat made a specific
comment regarding the Windermere scheme in the Annex 4 of the Draft price control determination
notice: company specific appendix. This scheme is not covered by this cost exclusion.
In undertaking a horizontal review of other Draft Determination we have identified that a range of
proposals have been accepted from companies to ensure that customers are protected for expenditure
attributed to this cost exclusion. These range from only environmental regulatory enforcement through to
financial protection.
Our proposed Outcome Delivery Incentive (ODI) is fully compliant with the methodology, which means
that customers are fully protected. As a result of the regime included in our Draft Determination
customers would get money back which is directly equivalent to the value that they place on the
outcome.
The outcome delivery incentive regime has been designed to work alongside the totex incentive regime.
This ensures that customers would be financially compensated for any under delivery. The mechanism
works such that if we fail to invest to meet our performance commitment, then under the AMP6 totex
incentive mechanism customers would be compensated for approximately 50% of the avoided
expenditure. The ODI penalty would then act to increase the effective penalty level by a further 15% of
the planned expenditure.
The Environment Agency may also take a range of enforcement actions ranging from providing advice
and guidance, serving notices, through to prosecution.
In the case of late delivery of any of the schemes in the agreed programme, the Environment Agency
has to date followed an approach of issuing enforcement notices. However, in the case of schemes
delivered at WwTW to achieve tightening quality standards, the Environment Agency could classify any
such works as a “failing works” and as such significant penalties may now be imposed. Recent changes
to the sentencing guidelines are likely to result in significantly higher financial penalties for us, due to the
level of our turnover, for instance where deliberate harm is proven the fine could be in excess of £3m per
failure.
As explained in our response to the cost benefit test we are spending more than the customer valuation,
because of the legal and regulatory obligations, but this additional expenditure is more than protected by
the financial and other sanctions available to the relevant regulatory bodies.
24
We consider that we have provided an ODI mechanism which, in addition to the other financial and
regulatory measures available, ensures that customers are protected in the event that we do not deliver
any of the schemes within this cost exclusion, as such we consider that this test would be considered to
have passed the test.
25
3
Shellfish Summary
exclusion we made for the NEP Phase 5 Shellfish Waters Programme in the June submission:
£0m implicit allowance, Adjustment £0m, Remaining Gap £35.4m
Undertake additional cost assurance work
Review the cost of schemes in light of Ofwat’s comparison with the rest of the industry
Need
CBA
Costs
Customer
Pass
Pass
Fail
n/a
In response to this feedback we have:
• Provided additional scheme specific need and scope
• Provided additional cost assurance
• Demonstrated and explained our comparative performance shown on Ofwat’s Unit Cost Curves
In light of the additional information provided, we propose that £35.4m is added to the baseline.
3.1Need
The Shellfish Waters Directive (SWD) (2006/113/EC) was repealed by the Water Framework Directive in
December 2013. Its provisions are taken on board in the Water Framework Directive which will provide
at least an equivalent level of protection, supplemented by additional standards where necessary.
Obligations are implemented in the Surface Waters (Shellfish) Directions 1997. The guideline standard
on the levels of bacteria in shellfish flesh will be retained for shellfish protected areas and measures for
protecting and improving these will be part of the River Basin Management Plans (RBMP). Ensuring that
the water industry achieves these standards will be enforced though environmental permits (formerly
discharge “consents”), under the Environmental Permitting Regulations (EPR).
NEP Phase 3 included three continuous and five intermittent schemes with a Shellfish Waters Directive
driver only. As a result of this, and following discussions with Defra28, the Environment Agency removed
these schemes from NEP Phase 4 and included these schemes in the ‘managing uncertainty’
programme, which will be confirmed in NEP Phase 5. As such these schemes were not published as
part of NEP Phase 4, and hence the volumes related to this required scope of work are not reflected in
Ofwat’s totex models.
Once the Shellfish Water Directive moved to form part of the Water Framework Directive, the schemes
that had been listed within NEP3 were subject to cost benefit assessment. An assessment was
completed for each shellfish water impacted by a scheme. The Environment Agency shared the results
with us, as set out below29
28
29
th
Letter from David Cooper (Defra) to Ed Mitchell (EA) dated 27 November 2013 in RD-J Appendix J
st
Environment Agency, Economic Appraisal for Shellfish Waters – North West update 21 February 2014
26
Schemes associated with
shellfish water
Hesketh bank storm tanks
Shellfish water
Cost benefit ratio
Ribble
>1
Morecambe Bay Leven
>0.5, <1
Ravenglass
>1
Solway
To be assessed. Probably <0.5
largely due to high opex for
Rabycote outfall but high costs for
agricultural diffuse pollution too
To be assessed. Probably <0.5 Carlisle WwTW
largely due to high opex for
Rabycote outfall but high costs for
agricultural diffuse pollution too
Silloth
Kendal WwTW
Ulverston WwTW
Dragley Beck CSO LAK0058
Ravenglass WwTW
Ravenglass storm tanks
Ravenglass CSO
Figure 13 - Cost benefit analysis for shellfish waters with schemes in NEP Phase 3, provided by the
Environment Agency
This cost exclusion is only related to those schemes that have been identified as being cost beneficial
through the Environment Agency’s analysis. This resulted in us retaining seven of these schemes from
our December plan and removing the scheme at Carlisle WwTW on cost benefit grounds. Since then we
have learnt from the Environment Agency that there is a reasonable likelihood that the shellfish scheme
at Carlisle WwTW will pass a cost benefit test and therefore it would be included in NEP5 30. We have
not included this scheme in our business plan as it has not yet been confirmed that it is cost beneficial.
We understand from the Draft Determination that Ofwat have accepted the need for the shellfish
schemes on the basis that the likelihood of the schemes appearing in NEP5 is at least as high as other
schemes which have passed the “need” case.
We recognise that Ofwat have accepted our case that there is a need to include the shellfish schemes
we expect to see in NEP5 in our business plan.
We expect Ofwat to continue to accept the need for our shellfish schemes shown in Figure 14.
30
th
Email from Jeremy Cheetham, Environment Agency 8 May 2014
27
Project ID
20120627PROJECT000011
20121213PROJECT000072
Project Name
Ulverston WwTW Q AMP6
Shellfish
Kendal WwTW NEP UV
requirement
20120627PROJECT000012
Wastewater IAP: Ravenglass
designation Shellfish Waters
20130104PROJECT000068
Hesketh Bank WwTW L2 Q and X
NEP 5 scheme name (likely)
Ulverston WwTW
Dragley Beck CSO
Kendal WwTW UV
Ravenglass WwTW
Ravenglass Storm Tanks
Ravenglass CSO
Hesketh Bank WwTW
Figure 14 - Shellfish waters projects (with NEP5 scheme name and project name as per the RD209 Ww
Project Optioneering Spreadsheet)
3.2
Whether most cost beneficial solution
Since submitting our business plan we have continued to work with the Environment Agency on refining
this programme of work, and confirming the need for all elements. The Environment Agency has
completed its cost / benefit assessment for shellfish schemes31. The schemes that remain in the plan are
those that we have a high level of confidence will be required. The cost benefit ratio for the Ribble,
Morecambe Bay East and Ravenglass shellfish beds were greater than 1 and the Morecambe Bay
Leven shellfish bed was calculated to be less than 1 but greater than 0.5.
We removed the scheme at Carlisle WwTW from our programme. This was based on discussions with
the Environment Agency that suggested the cost / benefit ratio for the Solway shellfish bed was likely to
be less than 0.5 We have since learnt from the Environment Agency that they believe there is a
reasonable risk that a shellfish scheme will be required at Carlisle WwTW as they believe it will become
cost beneficial once non-monetised benefits are included in the CBA32. We will continue to work with the
Environment Agency to determine if investment is necessary at this location. If investment is required at
Carlisle WwTW to improve the shellfish beds we will look to manage this through our exchange
mechanism with the Environment Agency.
We note in the draft determination Ofwat accepted that the shellfish waters schemes passed the cost
benefit test.
We expect Ofwat to continue to accept that these schemes meet the cost benefit test. We will work with
the Environment Agency to determine if the proposed project at Carlisle is cost beneficial.
We expect Ofwat to continue to recognise these schemes meet the cost benefit test criteria
31
32
st
Environment Agency, Economic Appraisal for Shellfish Waters – North West update 21 February 2014
th
Email from Jeremy Cheetham, Environment Agency 8 May 2014
28
3.3
Robustness of estimate
In order to ensure our estimates in this area are robust, we have used our Integrated Asset Planning
(IAP) process to identify existing and future needs and requirements, including those expected to be
necessary for contributing to improving the quality of shellfish waters.
We have looked for opportunities when such schemes have been identified to develop solutions which
not only address the new quality obligation, but also existing or forecast maintenance requirements.
These integrated solutions enable us to deliver against multiple outcomes, for instance “Maintaining our
wastewater treatment works” and “Contribution to bathing waters improved” in single project.
Having identified these requirements and established their priority, we have considered a range of
options for each project; this optioneering was evidenced in RD209 Wastewater project optioneering
spreadsheet, as part of our June Submission. We have then had the options reviewed internally and
externally initially at a programme level and now at a project specific level to ensure demonstration of
robust costs33 34
Ofwat observed, based on their comparative unit cost analysis, that the planned expenditure for storage
schemes for shellfish waters and Water Framework Directive are more expensive than other companies
and therefore considered to be less efficient.
The report provided by Franklin and Andrew’s has been considered to demonstrate that our preefficiency costs are higher than the industry average, for water and wastewater combined, up to 5%
higher than the industry. The report notes wastewater infrastructure costs are 9% above industry
average and wastewater non-infrastructure costs 8% above industry average. It appears that the
efficiency challenge that we have applied of 10.5% is acknowledged, but the Ofwat analysis of
comparative cost has taken precedence.
We note that only two other companies have included storage schemes in their managing uncertainty,
NEP5 programmes. This appears to have resulted in Ofwat only having a comparatively small sample
size of schemes to compare our storage volumes against. The inclusion of storage schemes appears to
make us atypical compared to an average company.
No specific external assurance of costs was considered to be associated with this claim, this combined
with the comparative analysis of cost and the findings of the Franklin and Andrews benchmarking, which
indicated we were only marginally above the average industry benchmark are considered to be the
reasons for the failure of this test.
In considering the feedback from this Deep Dive Assessment we consider that there are essentially two
key areas were further evidence is required to address the Ofwat test, these are set out below.
Unit Cost Outliers
The Ofwat comparison of unit costs for our storage schemes has been reproduced in Figure 15 and
shows there are 4 of our projects which appear to be outliers (circled in red). In our response to the
Draft Determination for the Water Framework Directive we explain how we have reviewed the cost
outliers under this programme and why we believe the comparison does not truly reflect our unit costs.
This section therefore focuses only on the shellfish projects which formed part of the cost comparison.
33
34
REP-F Halcrow NEP5 programme assurance – Capital Project Audits
29
The graph in Figure 15, appears to show the Ulverston shellfish project to be a significant outlier. We do
not agree with this position due to a range of important factors which have not been taken into account
relating to this scheme.
Figure 15 - Ofwat’s analysis of our unit costs for storage compared with other companies
The Ulverston project includes both Dragley Beck Combined Sewer Overflow (CSO) in the network and
Ulverston WwTW storm tanks. The scale of this project is influenced by the extent of groundwater
infiltration in the sewer network which amounts to 73 % of the flow35 arriving at the wastewater treatment
works in dry weather. Compared with typical design infiltration figures for a wastewater treatment works,
the infiltration volume at Ulverston is 3-4 times the normal figure.
This scheme is not fairly represented on the graph as the 4500m3 storage in the network is a small part
of the scope36. In addition to this we need to double the flow we treat at this wastewater treatment works
from 170l/s to 340l/s which leads to a need to increase the capacity of many of the treatment stages and
pumping stations. We arrived at this solution as the alternative solution would have required 90,000m3
of storage at the wastewater treatment works if we did not increase the treatment capacity. This is in
addition to the 4500m3 of storage required in the network. This volume of storage is so excessive that it
would not be feasible to empty the tanks most of the time rendering the solution ineffective. We
calculate that a tank of this size at this wastewater treatment works would take in excess of 28 days to
empty. This means it will not only be unavailable to capture future storm flows and flows will turn septic
leading to significant difficulties treating them as well as the generation of offensive odours.
Other factors influencing the cost of working at Ulverston include:
35
36
Ulverston WwTW DS1
RD209 Wastewater project optioneering spreadsheet
30
The industrial history of the site as an iron works. It is understood that there is a considerable
amount of contaminated material to deal with at this site as a result of this history. Additionally;
the site is also the location of an old landfill37.
The treatment works is located in Morecambe Bay which is the location of several protected
areas including a Site of Special Scientific Interest (SSSI), a Ramsar site, Special Protection
Area (SPA) and a Special Area of Conservation (SAC) which our project will need to be
sympathetic to.
[redacted text, reason 2] 38 39.
We also investigated the provision of UV disinfection treatment for the storm discharge. Whilst this
option has been used in the past by us at Millom and other water companies it presents significant
issues for this application as Dragley Beck CSO is modelled as spilling with a frequency of over 100
times a year due to the infiltration problem40. The storm tanks at Ulverston also have a high spill
frequency. We understand that the Environment Agency would have an issue permitting this type of
solution as they must take account of the current infraction proceedings against the UK for noncompliance with the UWWTD. There is therefore no certainty that this solution would be viable.
As the project at Ulverston includes both storage and treatment elements it cannot be meaningfully
compared with stand-alone storage schemes and thus we’ve removed it from our analysis shown in our
Water Framework Directive exclusion document. We note that the Kidsgrove and Lawton Gate schemes
were removed from the unit cost analysis by Ofwat as they contained by storage and treatment
investment and thus it seems reasonable to take the same approach with the Ulverston scheme. We
understand that Lawton Gate and Kidsgrove were excluded from Ofwat’s analysis as the schemes have
multiple drivers leading to the need to provide storage and improvements to treatment. Whilst the
Ulverston scheme only has the shellfish driver we have clearly demonstrated that the best option is to
provide additional storage and upgrade the capacity of the wastewater treatment works to meet the
investment need and thus this scheme is not comparable in cost terms with schemes that provide
storage only.
Assurance
In addition to providing project specific assurance of; the need and the scope for each of the schemes
within this cost exclusion utilising the skills and experience of Halcrow Management Services. We
engaged two cost consultants; Franklin and Andrews and Aqua Consultants to provide their views on
how our pre-efficiency costs perform against their view of industry averages and upper quartile.
We consider that in engaging three independent companies we are able to provide the richest picture of
assurance. The schematic below describes how this is picture is established. Halcrow are able to
confirm the need and scope and take a view on costs. Having had the options considered and preferred
solution confirmed as the best option to address the need, we have then used Franklin and Andrews in
parallel with Aqua Consultants to test the cost of each solution against their own databases of costs. By
using different methods and different data this ensures a better overall view of our costs.
37
United Utilities Geotechnical and Geoenvironmental Desk Study Report, Ulverston WwTW 80040104, February
2014
38
[redacted text, reason 2]
39
40
MWH PR14 UIDs – Ulverston Shellfish Technical Note
31
Figure 16 - Summary of shellfish scope and cost assurance
In response to the Draft Determination we engaged Halcrow to audit the need for our schemes, the
proposed solution, costs and timescales. In the vast majority of cases Halcrow has commented that “ we
have seen good evidence of well-considered and appropriate solutions which have been developed to a
level commensurate with the time UU has had to develop them and with their degree of certainty”41
There are two projects in the shellfish exclusion which they have categorised as amber. In the case of
both Ravenglass and Kendal UV they have been graded as amber for the proposed solution and cost.
Halcrow note for the Ravenglass project that the scope may reduce in size once the network infiltration
issues are addressed. Whilst we agree there is some uncertainty around the extent to which we will
remove infiltration, the new wastewater treatment works will be designed to treat the existing flow to full
treatment and thus the infiltration rate will not significantly impact the sizing of assets. This uncertainty
arises due to very specific circumstances which surround this project. This wastewater treatment works
currently only has primary treatment having never required secondary treatment under the Urban
Wastewater Treatment Directive due to its size. As we now have a need to provide UV disinfection it is
necessary for us to treat the effluent to a higher standard such that we can successfully disinfect it. This
involves adding secondary treatment however the extensive saline intrusion into the sewer network in
Ravenglass will give rise to variable levels of salinity which present an issue in terms of providing reliable
secondary treatment.42 There is therefore a need to address the saline intrusion by relining the sewer
network. Once this is complete we can then put in place secondary treatment.
The Halcrow audit also noted that there were two differences in the Ravenglass estimate compared with
other schemes. The first was inclusion of a pain/gain adjustment and the second was the exclusion of a
calibration adjustment. These differences exist because the solution cost for Ravenglass was estimated
much earlier in the development of our business plan than other estimates as we were under pressure
from the Environment Agency to deliver the scheme in AMP543 The estimate has been revised and it is
within 10% of the original estimate.
In the case of the Kendal UV project, Halcrow note that a separate project to address “no deterioration”
at Kendal will alter the BOD and suspended solids performance of the wastewater treatment works and
thus the final design for the UV project is dependent on the “no deterioration” project. Whilst this is
correct they also note that the impact of this is that the cost of the project may go up or down 44 . We
have since re-estimated the Kendal UV project to a higher level of certainty and the costs have
41
REP-F Halcrow NEP5 programme assurance - Capital Project Audits
United Utilities, Report on Saline Intrusion into the MEPAS
43
th
Letter from P Wittred, Environment Agency, 20 Dec 2011
44
REP-F Halcrow NEP5 programme assurance – Capital Project Audits
42
32
increased. We have not included the cost increase in our plan and thus we will carry this risk of cost
escalation.
Franklin & Andrews
Franklin and Andrews45 provided an independent review of the NEP5 solutions developed and assured
by Halcrow Management Services through the use of top down benchmarking using aligned Franklin and
Andrews industry direct cost models where possible. Franklin and Andrews selected three cost
benchmark comparators that it considered to represent an upper quartile Company and two average
performing Companies.
In addition Franklin and Andrews also undertook a separate indirect cost benchmarking analysis and
compared our indirect costs. By comparing the direct and indirect costs separately Franklin and Andrews
has been able to significantly increase the sample size value and therefore the overall confidence with
their output.
Having completed top down analysis of both direct and indirect costs separately, Franklin and Andrews
weighted the combined direct and indirect elements of our schemes and compared them to the
equivalent water industry comparators.
Franklin and Andrews analysis concluded that for this specific programme and therefore cost exclusion
that when compared to the average water industry comparator, we were 6% more efficient however
when compared with an upper quartile water industry comparator, we were 4% less efficient.
Franklin and Andrews then identify that we applied a 10% efficiency to this programme as part of our
original business plan submission whereas the average post efficiency adjustment made by other Water
Company’s appears lower, ranging from 0.7% per annum to 10% per AMP based on those declaring
capex efficiencies in their December business plan submissions. Franklin and Andrews therefore
considered that our 10% efficiency factor would improve our position and means that we had the
potential to become upper quartile.
Aqua Consultants
We engaged Aqua Consultants to further demonstrate and understand our cost performance against the
industry and provide assurance of our costs. In addition to the comparative top down analysis completed
by Franklin and Andrews on our NEP5 projects we engaged Aqua Consultants46 to provide bottom up
assurance costs. In order to carry out the estimating Aqua utilised three of their in house systems
supplemented by other cost information as required. These systems are;
1. ENSCES this is an Engineering Scoping and Estimating tool which Aqua used to take basic
design information such as Population Equivalent or Flow to size a series of the most commonly
used Water, Wastewater, Sludge and Networks assets to produce a Bill of Quantity
2. ASD (Auto Structural Design) is Aqua’s web based tool used to undertake initial structural
engineering design, feasibility, validation or optimisation of proposed solutions efficiently,
effectively and confidently
3. Hindsight cost database is Aqua’s internal historical cost database which includes over 60,000
individual cost items across various sectors and geographical regions. The data includes civil,
mechanical and electrical items. Hindsight has the ability to adjust the historical costs for date
and location
45
46
REP-H Aqua Consultant’s report on WFD, Davyhulme and Oldham & Royton cost assurance
33
This enabled Aqua to undertake a comparison of over 1,000 scope items against our costs. This
comparison resulted in Aqua identifying at a programme level a variation in cost of 19.9% from
our original estimate. The variation at a scheme level was greater, c.1% - 50%, this can be
attributed to;
Alignment of design criteria. Signature designs v detailed designs
Alignment of coverage between the different approaches to coding structures.
Aqua’s detailed approach to estimating versus our parametric approach.
Aqua concluded that at a project and programme level;
“This variance can generally be attributed to Aqua’s bottom up engineered cost solutions verses UU’s
high level feasibility approach. By definition Aqua’s solutions will tend to be far leaner as they are pitched
further along the project development process, and generally do not capture area specific knowledge
which is incorporated into UU’s estimating processes.
As a result Aqua’s benchmarking is at the upper end of the upper quartile which accounts for
approximately 8% of the overall variation between the two estimates.”
In responding to the Draft Determination we have applied a total of 18.1% efficiency to our Water
Framework Directive programme, moving us beyond Franklin & Andrews assessment of upper quartile,
level with Ofwat’s assessment and close to Aqua Consultants and beyond their adjusted assessment.
Conclusion
We have considered the feedback from the Draft Determination with regards to our performance against
Ofwat’s feedback that outperformance against the unit cost model was not prima facie evidence of
efficiency, in conjunction with feedback received from the industry cost comparison. As a result of this we
have made an additional adjustment at a programme level to our plan in this area. The summary of
these changes is presented in Figure 17. This shows that our assurance has identified a range of views
regarding what is considered upper quartile performance. Based on our revised scope our programme
now outperforms the assessment completed by Franklin and Andrews and Ofwat unit cost model but
does under perform the prediction of Aqua Consultants. On balance this provides compelling evidence
that our cost exclusion can be considered to represent at least upper quartile performance.
Figure 17 - Summary of Shellfish programme adjustments from June to October
34
We recognise that the information and evidence provided under this test may have failed to meet the
evidence bar set by Ofwat in previous assessments.
We have now provided full cost assurance for the shellfish waters programme. Additionally, we have
presented evidence that the key outliers in Ofwat’s cost comparison with the rest of the industry all have
differentiating factors which mean that the revised analysis we have presented shows our costs to be
much closer to rest of the industry47
In our representation we have undertaken an additional rigorous review of our costs. We have
strengthened our external assurance adding an additional level of scrutiny and comparison of our costs
against the rest of the industry which has concluded that we are 4% less efficient than an upper quartile
company. We have thus made a further 6% efficiency adjustment to our shellfish programme to bring us
to an upper quartile position for efficiency.
We consider that these changes, together with the additional evidence that we have provided, addresses
all of the concerns raised in the Draft Determination Deep Dive and should result in this test being
passed ahead of the Final Determination.
3.4
Whether consumers are protected
In the event of us failing to deliver, customers are protected in three ways:
1. The Environment Agency has powers to prosecute the company under EPR – for a company with
our turnover, the fine for each breach could be in excess of £3m48;
2. The totex menu mechanism would automatically pass c.50% of avoided costs back to customers;
and
3. Our ODI “contribution to bathing waters improved” would result in a total maximum penalty of
c.£3m per annum4950.
In addition to these, the company would suffer the reputational and financial impact of numerous court
cases, as well as the potential for wider regulatory sanctions available to the Environment Agency such
as enforcement notices and undertakings and Ofwat action under sections 18, 19 and 22A of Water
Industry Act 1991 as a result of failure to deliver statutory obligations. Under the Act we would be
enforced to comply, incurring considerable totex adjustments. In doing so, it would also be expected that
we would receive further financial penalty as a consequence of the failure.
We note that no specific feedback was provided for this test with relation to the Deep Dive, based on the
failure of the previous robustness of estimate test. As Ofwat has made no changes to the outcome
delivery incentive or performance commitment for this area we consider that there are no concerns
affecting the assessment.
We expect Ofwat to confirm that they consider consumers are protected by our plan.
47
See section 2
A permit breach is non-compliance with any condition within our permits such as final effluent standards,
descriptive clauses, management clauses or flow conditions. The Environment Agency response could range from
a warning to prosecution depending upon which legislation is protected by that condition and historical performance
will also be considered. New sentencing guidelines coming into place in July 2014 set a range of potential fines
depending upon our culpability and the level of harm. The maximum penalty would be imposed where we can be
proven to have deliberately breached our permit and major environmental harm has resulted.
49
See RD-005 Outcomes Delivery Incentives and Cost Benefit Approach (new guidance)
50
RD050 ODI Performance Commitment Proformas
48
35
any of the schemes within this cost exclusion; as such we consider that this test would be considered to
have passed the test.
36
4.
Chemical and Phosphorus Investigations Summary
The Draft Determination Deep Dive Assessment provided the following feedback on the £33.3m claim
we made for the NEP4 Chemical and Phosphorus Removal Investigations in the June submission;
£17.5m implicit allowance, Adjustment £0m, Remaining Gap £15.8m
The difference between the company's claim and the implicit allowance is not material.
Need
CBA
Costs
Customer
n/a
n/a
n/a
-
In response to Ofwat’s feedback we would first note that this is not a cost exclusion which reflects
company specific circumstances, it is a representation that Ofwat’s cost assessment for this programme
is incomplete, and hence prevents an appropriate assessment of the correct costs for meeting this
obligation.
In order to demonstrate our evidence for our proposed cost assessment method and assumptions, we
have:
undertaken additional cost assurance;
removed £3.4m cost following the completion of the assurance work and improved estimates for
the monitoring work;
applied an additional efficiency to the programme of 12.6% which results in an additional cost
reduction to our June plan of £3.7m; and
proposed that £8.7m is added to Ofwat’s current cost assessment.
4.1
Need
The water industry has delivered the first phase of Defra’s requirements for chemical investigations
(CIP1) during AMP5. This was part of a programme of work to assist with meeting the requirements of
the Water Framework Directive and the specific outputs for each company were set out in the FD09
NEP. Following completion of this work, water companies have been instructed in the PR14 NEP to
undertake a second phase of chemical investigations (CIP2) in AMP6.
The first phase of the national chemical investigations programme gathered generic data about:
the extent to which different substances are present in wastewater;
prioritising the risks posed by different substances;
the extent to which they are removed by current treatment processes; and
an initial evaluation of new treatment technologies to improve the effectiveness of removal
The second phase of the national chemical investigations programme in AMP6 seeks to gather more site
specific data about compliance at individual sites, to evaluate the contributions made by different
potential sources of contamination and to identify locations where remedial measures are most likely to
be required. The second phase of the programme has also incorporated investigations into achieving
very low phosphorus concentrations in wastewater discharges as integration of the two programmes
(chemical and phosphorus) will deliver efficiencies and other benefits.
Our requirements are set out in the NEP Phase 4. There are five needs for AMP6:
37
to carry out sampling for prescribed chemicals and emerging substances51 to very low
concentrations at specific treatment works and at sites upstream and downstream of the
discharge point to assess apportionment of chemical contribution from those works and assess
whether there is a justifiable case for further action;
to undertake a catchment study for the River Alt to investigate opportunities for better source
control within the catchment as an alternative to relying on end of pipe solutions;
to carry out a study on the fate of chemicals through the sludge treatment and disposal process;
to upscale new technologies tested in AMP5 to full-scale pilot plants as our contribution to the
national research into the feasibility and potential costs and implications of compliance with
prescribed chemical standards; and,
to further investigate existing phosphorus removal processes by up scaling new technologies to
full-scale pilot plants and to test new emerging technologies to advise future intervention
strategies.
This is a nationally coordinated programme and its success is critical to regulators, water companies and
customers. These investigations ensure that companies are only required to make justifiable
improvements in future AMPs52. Ofwat assessed industry costs from models generated by Atkins.
However those models were published in the summer of 2013. Defra has subsequently indicated that it
requires an increased level of ambition and activity from the industry in AMP6. Therefore the scope
required in the NEP for water companies increased significantly from what was originally envisaged. Our
cost for AMP6 reflects that increased Government ambition.
The need for inclusion of both the CIP2 and Low Phosphorus Programme in our Business Plan has not
been challenged. The requirement for additional sampling and analysis as a result of the Defra
intervention to “Raise Ambition” has been acknowledged and monitoring costs included.
We have reviewed the scope of the CIP2 and Low Phosphorus pilot plant trials and made minor changes
to reflect a change of trial site (Rossendale WwTW changed to Saddleworth WwTW), however the scope
of the trial remains the same. The scope for the monitoring remains consistent with the NEP Phase 4
There is a strong commitment from the Environment Agency and Defra to provide data on the presence
and impact of priority substances and emerging substances. It is therefore not anticipated that there will
be any change to the scope of the CIP2 programme either in terms of the sampling and analysis
schedule or the requirement to trial new technology.
51
Such as metals, pharmaceuticals, steroids and other priority substances as defined by the
Quality Standards Directive
52
Letter from Steve Moore (EA) dated 24th June 2014 in RD-J Appendix J
Environmental
38
4.2
The CIP2 national project will identify site specific impacts from chemical substances against
environmental quality standards providing a prioritised and targeted approach to future investment. The
project will also inform cost benefit assessments based on the most appropriate technology for a specific
or group of chemical substances.
The success of the national phosphorus trial is essential to ensure that the need and cost of future
interventions are well evidenced. Through our simulated catchment modelling (SIMCAT), we know that
we will be expected to achieve very low levels of phosphorus discharge by 2027 and therefore the
success of trials in new technologies to find more cost effective means of achieving environmental
objectives are vital to our future plans and to protect customers in AMPs 7 and 8.
These investigations also ensure that companies are only required to make justifiable improvements in
future AMPs.
In the draft determination Ofwat did not comment on cost benefits of this programme.
Not applicable.
We expect this programme to be included in full in the Final Determination, as the outcome of the
programme will assist in ensuring future Water Framework Directive programmes are robust, cost
effective and justifiable.
4.3
The Business Plan estimate for CIP2 and Low Phosphorus trials comprised of the following:
1. Estimated costs for sampling and analysis using budget costs provided by the UKWIR CIP2
project team (developed by Atkins) and included the additional scope identified by Defra
(increase in number of WwTW to be sampled from 20 to 69 and upstream and downstream river
sampling). The costs assumed a unit cost per sample of [redacted text, reason 2], see Figure 19.
2. Level 2 estimates for the provision of pilot scale trials at
a. Fazakerley – CIP2
b. Horwich - CIP2
c. Grasmere – Low P
d. Saddleworth – Low P
e. Hyde – Low P
f. Chorley – Low P
3. Catchment Study in the Alt catchment as defined by UKWIR CIP2 project team (developed by
Atkins)
4. Contributions to technical and innovation funding to carry out assessment of emerging
technologies and identify/resolve technical issues. As defined by the UKWIR CIP2 project team
(developed by Atkins).
39
Estimate (£k)
CIP2 Monitoring
CIP2 Pilots
CIP2 Catchment Study
CIP2 Technical
Low P Pilots
[redacted text,
reason 2]
Source
Atkins53 - Unit cost per sample assuming £1500/sample
Our level 2 estimate
Atkins3 – Budget Cost
Our level 2 estimate
Low P Innovation Fund
Fees/Project Mgt costs
Total
Figure 19 - Breakdown of our Business Plan CIP2 and Low Phosphorus estimate
The high unit cost for sampling and analysis [redacted text, reason 2], was originally justified on the
basis of:
Samples to be taken from a larger number of WwTW spread over a large geographical area ie
additional cost for travel access and collection
Additional more complex organic and pharmaceutical analysis than that carried out in CIP1
No analytical methods available for a number of chemical substances therefore additional cost of
method development.
Level 2 estimates for CIP2 and Low Phosphorus trials included site investigations which identified
significant constraints leading to additional costs.
Budget costs for ‘Technology’ (ie the pilot plant trials) were based on estimates for the procurement of
proprietary processes and did not include project management, process specific needs (such as liquid
oxygen storage regulations) and site security. Site specific construction issues were also not included ie
land purchase or additional power supplies.
In the draft determination Ofwat allowed a total of £17.5m for the CIP2 and Low Phosphorus
programmes. No specific company details were received as to how this figure was determined, however
an indication as to how the national CIP2 programme was estimated was stated by Ofwat54.
Ofwat states the allowance for the CIP2 programme has been adjusted to account for the Defra scope
change. “As a result of our analysis the total industry programme for CIP trials increased from £66.7m (at
the RBR) to £100.6m (at draft determinations)”. An adjustment to the sampling unit cost data was also
made based on the sampling and analysis outturn costs in CIP1 (lower unit rate per sample). It is
assumed that the budget costs for CIP2 and Low Phosphorus pilot trials were taken directly from the
cost development carried out for Atkins55.
Ofwat also took account of the increased scope driven by the request from Defra to extend the
monitoring programme56.
53,
Atkins in the presentation given on 9 May 2013 “Chemical Investigations Programme: Feasibility Studies,
Investigations and Budgets” (by Mike Gardener, Karyn Georges, Arthur Thornton).
54
Email to United Utilities (Laurie MacFarlane (Ofwat) to James Bullock (UUW)) on 5 Sept 14
55
Atkins in the presentation given on 9 May 2013 “Chemical Investigations Programme: Feasibility Studies,
Investigations and Budgets” (by Mike Gardener, Karyn Georges, Arthur Thornton). And “PR14Investigations and
trials to determine feasibility of treating phosphorus at sewage treatment works down to or approaching 0.1mg/l
within the UK” Atkins 24 June 2113
56
Letter from Defra to the EA on 21 July 2013 re “Raising our Ambition”
40
The £17.5m draft determination allowance therefore included an increase funding for the provision of
additional sampling and also a reduction in cost due to the use of significantly lower unit costs for
sampling and analysis (estimated to be less than [redacted text, reason 2], /sample). The net impact of
the adjustment and the likely exclusion of site specific costs for pilot plant trials resulted in a significantly
reduced total allowance, as shown in Figure 20 below.
Our Estimate
(£k)
CIP2 Monitoring
CIP2 Pilots
CIP2 Catchment Study
CIP2 Technical
Low P Pilots
[redacted text,
reason 2]
Draft
Determination
(£k)
[redacted text,
reason 2]
Low P Innovation Fund
Fees/Project Mgt costs
Total
Difference
(£k)
£5,290
£5,134
£0
£50
£4,659
£400
£300
£15,833
Figure 20 - Comparison of our Business Plan estimate and Draft determination allowance
CIP2 Monitoring Programme
A unit cost of [redacted text, reason 2] per sample was used in the Business Plan estimate. Following
further review of likely analytical costs by our Laboratory Services it is now recognised that this figure is
potentially higher than the likely outturn cost. However assessing the risks associated with method
development, new and complex analytical techniques and the difficulties associated with collecting large
numbers of samples over a wide geographical area the unit cost will be greater than the outturn average
cost in CIP1. We have re-assessed the unit cost at [redacted text, reason 2] per sample.
CIP2 and Low Phosphorus Pilot Trials
Following site investigations on the CIP2 and Low Phosphorus trial sites level 2 estimates were
completed. The investigations highlighted significant site restraints and additional measures associated
with the use of hazardous products used in the advanced oxidation processes (liquid oxygen storage
and ozone production). The additional items were not assessed and hence the costs not included in the
Atkins budget estimates produced in 2013. A summary of the pilot trail cost difference is shown in Figure
21. A detailed breakdown of additional scope items and costs for each trial site can be found in Appendix
A.
41
CIP2
Fazakerley
Horwich
Total
Low P
Grasmere
Hyde
Saddleworth
Chorley
Innovation Fund
Study Costs
Total
Grand Total
Atkins (£k)
United Utilities
(£k)
[redacted text,
reason 2]
£8,112
[redacted text,
reason 2]
£13,246
£778
£4,356
£5,134
[redacted text,
reason 2]
£2,794
£694
£924
£647
[redacted text,
reason 2]
Difference
£4,346
£9,405
£5,059
£12,458
£22,651
£10,193
Figure 21 - CIP2 and Low Phosphorus Pilot Trials Cost comparison (Atkins budget cost v our level 2
estimate)
The project at Grasmere WwTW was designated a P1b driver57 and classified as an optimisation study
and therefore has been allocated minimum funds based on Atkins method of estimating.
Under the P1b driver companies will assess process optimisation techniques to achieve a final effluent
concentration of 0.5mg/l total phosphorus (TP) or less. Atkins assumed these sites would already have
chemical dosing assets. Thus the scope associated would merely include the addition of a secondary
chemical dosing point and a total capex of £100k was assigned to such projects, with the remainder of
the budget accounting for 12 months operation.
The project at Grasmere is not optimisation, it is an investigation into the possible change of duty for a
particular technology. Water companies have installed continuously operating up flow sand filters
(COUFs) for tertiary solids removal at many sites. The COUF has similar characteristics to a BluePro, a
technology which we demonstrated could successfully remove >90% of applied TP load resulting in final
effluent concentrations of <0.1mg/l TP. Thus the conversion of a COUF to a ‘BluePro’ would negate the
need for an additional TP removal stage which would lead to substantial future environmental benefits.
The trial at Grasmere requires the conversion of the 3 No. COUFs in order to test this hypothesis. This
will involve modifications to the internal structure and media of the filters, adding an upfront ferric dosing
plant and installing all the associated controls required to change duty. In addition it is proposed to install
a new BluePro to provide a control to allow for comparison of performance with the converted units. The
capex is therefore higher than the £100k allocated and is not helped by the fact that we operate in a soft
water area and so need the installation of pH control at all ferric dosing sites. The opex is also higher
than estimated as the process will target a much tighter final effluent TP concentration that the
optimisation trials.
The optimisation trials at Hyde and Saddleworth also include multi-point chemical dosing and additional
chemical storage which was not included in the original Atkins estimate. Multipoint dosing will result in
the use of more chemicals (ferric) increasing the operational cost.
57
P1b is the requirement in NEP Phase 4 to “Assess process optimisation techniques to achieve low P effluent
concentrations”
42
The budget costs produced by Atkins did not include full project costs to fully account for project
management and reporting. Assumptions were also made regarding availability of land and its condition
ie greenfield sites and the availability of adequate power supplies.
We challenged the original costs provided by Atkins for the low phosphorus trials58, the response from
the UKWIR project lead Lucy Burton confirmed that Companies would need to develop their own site
specific costs“Costs were an indication and the assumption was that each water company would apply their own
judgement and knowledge to make them more site specific. The time available for the trial programme
determination would not have allowed for detailed site specific costs”
Not addressing pilot trial site and process specific issues will result in the failure to deliver the required
outputs or lead to potential unsafe practices. All additional scope is considered necessary to deliver the
full benefit of each test process. The success of the trials will also depend on the operation of the plant
over the test period, hence the use of suitable fully trained operators (in the use of oxidation processes)
has also resulted in additional costs.
Assurance
Halcrow Management Services (HMS) where instructed to complete a detailed audit of our Chemical and
Phosphorus Investigation programme. The audit process involved an evidence-based project team
interview (including Project Sponsors, Design Managers and others as required) and independent
documentation reviews.
This found;
Need
“Through involvement of the regional EA, the scope of work for UU has been clearly defined and
was demonstrated within supporting documentation. The Requirements of this national
programme clearly identify all the sites involved, the technology to be trialled, the sampling and
analysis required and the dates by which the results need to be returned.
“UU has also provided copious further material which demonstrates the development of these
programmes which will enable them to commence competitive procurement of services
(specialist laboratory analysis for example) as soon as practicable to meet the UKWIR national
programme dates.”
“Although there may be some amendments to specific site requirements, we consider that these
will be relatively modest with respect to the scale of the programme. Based on the evidence, we
consider that the requirements have been well defined and that to keep up the required pace for
compliance with the Water Framework Directive, they will need to be implemeted swiftly (which
is likely to reduce the level of scope change). Key stakeholders (in this case Defra, who are
driving this investigatory programme, and EA who are engaged at a local level to help identify
and agree the requirements at site level) are very much involved and appear to fully support the
Needs.”
Solution
“The technologies and solutions are part of a national-scale programme of investigations and
UU’s part in this has been defined/agreed down to the sites involved, the processes to be used
and the scale of the trials. We have noted that at most of the sites, there will need to be some
accommodation works which UU has included for. These also seem justified”
58
Email from Lucy Burton (Environment Agency and UKWIR Low Phosphorus project lead) to Luke Pearson(UUW)
on 30/7/13
43
Costs
“We consider that the solutions and sizings (which are the key drivers for estimating the costs)
are appropriate for the innovative nature and stage of development of these projects and that
UU’s approach to developing costs for the Business Plan are reasonable”.
“The costs in UU’s estimating system have been reviewed at high level by others and found to be
cost-efficient.”
Cost Efficiency
Given the unusual nature of this programme typical cost assurance is not possible. The costs have been
developed independently by Atkins on behalf of the industry.
The Wastewater Wholesale Business Plan submitted in December 2013 had had the costs
independently assured by Franklin and Andrews, we engaged them again ahead of our June 2014
submission to strengthen their assurance. There high level conclusion was our pre-efficiency Investment
Programme Estimating System (IPES) unit costs were, on average for water and wastewater combined,
up to 5% higher than the industry. With Wastewater infrastructure IPES costs 9% above industry
average and wastewater non-infrastructure IPES cost 8% above industry average. In response to this
feedback we applied a 10.5% efficiency to our plan, demonstrating that our plan was slightly below
industry average by c.£40m.
Taking this as our starting point to establish an upper quartile view of efficiency of this cost exclusion it is
reasonable to suggest that our original estimate represented average costs. We have acknowledged that
since establishing this view of costs, further information has been made available, This has enabled us
to reduce scope by £3.2m, assuming this to represent average cost for the scope to be delivered, we
have then applied an additional efficiency adjustment, for this cost exclusion that adjustment is 12.6%,
this is in excess of Ofwat typical assessment of upper quartile performance of 10.4%, demonstrating that
our costs can be considered to be better than upper quartile.
The unit costs for the monitoring programme are uncertain (due to the highly specialised analysis), but
we accept that the unit cost of [redacted text, reason 2] per sample used in the Business Plan estimate is
likely to be higher than reality. However given the risks described above, we believe the unit cost should
be set at [redacted text, reason 2] per sample, as set out in 4.3.2 above.
We would wish to see Ofwat reconsider the funding allowance for the CIP2 and Low Phosphorus trials
on the basis that the base costs produced by Atkins acting on behalf of the UKWIR project team did not
adequately represent the true site specific costs associated with each trail site. The funding allowance
for the pilot trials should be based on the site specific costs produced by our level 2 estimating process.
We would seek a revised total funding allowance for the CIP2 and Low Phosphorus programmes in the
final determination of £26.2m, or an adjustment to the cost threshold of £8.6m. Figure 22 details the
changes from Business Plan to Final Determination.
44
United Utilities
Business Plan
Estimate (£k)
Draft
Determination
(£k)
CIP2 Monitoring
£4,232
CIP2 Pilots
CIP2 Catchment
Study
CIP2 Technical
£8,112
Low P Pilots
Low P Innovation
Fund
Fees/Project Mgt
costs
Total
United Utilities
Revised Costs
for Final
Determination
(£k)
Post Efficiency
(£k)
[redacted text,
reason 2]
[redacted text,
reason 2]
£810
[redacted text,
reason 2]
£4,346
-
£33,333
£17,500
£29,903
£26,177
Figure 22 - Comparison of Business Plan, Draft Determination and Final Determination costs
In the event of us failing to deliver, customers are protected in two ways:
1. The totex menu mechanism would automatically pass c.50% of avoided costs back to customers;
2. Our ODI “contribution to rivers improved” would result in a total penalty of c.£3.2m in AMP6.
In addition to these, the company would suffer the reputational impact of failing to deliver to meet Defra
and Environment Agency expectations, as well as the potential for wider regulatory sanctions available
to Ofwat under section 18 of Water Industry Act 1991 from our failing to deliver statutory obligations.
In the draft determination Ofwat did not comment on whether customers were protected.
Not applicable
We expect Ofwat to accept our position that customers are adequately protected from non-delivery of
this programme of work.
45
5. Davyhulme Summary
exclusion we made for Davyhulme in our June submission;
An allowance adjustment of £39.27m was made with respect to the Quality overlap leaving a
remaining gap of £122.7m
We needed to provide more evidence as to why the capital maintenance costs should be in
addition to Ofwat’s modelled allowance
We also needed to provide more evidence as to why the supply demand costs should be in
addition to Ofwat’s modelled allowance
Ofwat had a concern regarding the significant delay against the regulatory date and the
challenging delivery schedule
We needed to do more to demonstrate that the cost of the project represents the efficient cost of
delivery
Ofwat questioned whether there is an opportunity to defer scope into AMP7 or whether delivery
of the Q solution in AMP5 would have resulted in lower overall costs based on tackling supply
demand only in AMP6
Ofwat had a concern over how customers would be protected in the event that the projected
trade load increases did not materialise
Need
CBA
Costs
Customer
Fail
Fail
Partial Pass
n/a
In this response to the Draft Determination feedback we;
Demonstrate that the proposed substantial intervention is a necessary consequence of the
quality and supply demand drivers at the site – and further provide evidence direct from the
traders regarding the expected growth in trade load.
Demonstrate that the integrated solution is a lower wholelife cost solution than delivering
standalone solutions, and in particular that delivering the proposed Q solution in AMP5 would not
have reduced the overall cost.
Assume a reduced cost for the Davyhulme exclusion (by c.£32m), by:
o using recently obtained tendered prices, received following the June Submission, which
imply a reduction to the gross cost [redacted text, reason 2]
o making reasonable provision for implicit allowances against the project of c.£55m
o applying an additional efficiency challenge to our entire wastewater programme of 8.7%
([redacted text, reason 2]), which results in our revised proposed cost reducing by
[redacted text, reason 2] and being demonstrably more efficient than Upper Quartile,
relative to Ofwat’s assessment of Upper Quartile efficiency
Demonstrate that there is little if any implicit allowance for trade growth in the sewage treatment
growth model and assess an implicit allowance for supply demand expenditure
Demonstrate that a large enhancement programme necessitates higher maintenance costs than
an average company and assess an implicit allowance for maintenance expenditure
Provide detail of the mitigating steps we are currently taking to achieve compliance with the
permit by the regulatory date
Our views as to the effect that the additional evidence, etc provided herein should have on the Final
Determination is set out under each individual sub-section in this document.
46
Significance of trade effluent at Davyhulme
The impact of trade effluent at Davyhulme Wastewater Treatment Works is significant. The Davyhulme
catchment alone serves greater trade volumes than the trade volumes of five of the water and sewerage
companies in total, see Figure 24. Changes in trade effluent flows are a bigger risk for us than for the
“average” water company, which is represented by Ofwat’s totex models.
Figure 24: Trade effluent volumes
Source: June Returns 2011
We provide evidence below to show that growth in trade effluent volumes experienced by companies are
not implicitly allowed for in Ofwat’s totex models – although the historic costs of providing for trade loads
are reflected in the models, it is not then allocated to companies on the basis of relative trade growth.
Further, due to the severe economic downturn that was occurring during the period that the unit costs
were derived, they will significantly under-represent the costs of meeting the needs of trade growth.
We provide evidence direct from the traders that the trade growth expected in the Davyhulme catchment
is going to occur and is significant. We recommend it is therefore appropriate to include an additional
allowance to the sewage treatment growth model.
Why we didn’t deliver the AMP5 Q solution
Due to the economic downturn there was uncertainty around the growth forecasts at the time of our
submission in 2009. As a result our plan only included a proposal for meeting the Q requirement at
Davyhulme. As we developed the project and it became clear that growth in the area served by this
works would be substantial, it became clear that the individual solution we put forward would not be
sufficient to meet both the growth and environmental requirements and would have necessitated further
substantial investment in AMP6 to meet supply demand needs and would have resulted in considerable
additional operating costs for the future. The additional operating costs largely result from additional
power requirements and given the volatility in power costs, this would have built in considerably more
future operating cost risk.
47
Figure 25: Profile of capital expenditure comparing the PR09 plan with the PR14 plan, with further PR14
efficiencies applied to the PR09 plan numbers to ensure comparability
AMP5 £m
AMP6 £m
AMP7 £m
AMP8 £m
AMP9 £m
25 year capital
cost £m
PR09 solution
45.9
80.1
12.0
20.5
7.4
166.0
PR14 solution
40.8
131.0
1.4
7.6
2.1
188.2
Figure 26: Profile of capital expenditure comparing the PR09 plan with the PR14 plan, with further PR14
efficiencies applied to the PR09 plan numbers to ensure comparability
Our PR14 plan does require more capital expenditure in AMP6 than our PR09 plan would have (see
Figure 25 and Figure 26) but it delivers a much lower operating cost in future (see Figure 27) which
leads to a lower wholelife cost (see Figure 28). If power costs increase at the rate of some of the higher
end forecasts the gap between the two plans in operating cost and wholelife cost would be even greater.
Figure 27: Change in annual operating costs from the PR9 and PR14 plans
48
Figure 28: Comparing the wholelife cost of the PR09 and PR14 plans
We are delivering the best totex solution to the challenges at Davyhulme. It is a more sustainable
solution, allowing the works to become at least energy neutral, protecting customers from future volatility
in energy prices at our biggest treatment works.
Delivering an efficient solution
The Davyhulme modernisation project issued an invitation to tender to the 3 pre-qualified joint ventures
in October 2013. The tender returns were received in March 2014. Best and Final Offers were received
back from the tenderers in June 2014 after our last submission to Ofwat. The project team has now
largely completed the tender assessment with a preferred bidder identified.
We propose to set the revised cost for this scheme at their market estimate. This represents a [redacted
text, reason 2] reduction in project costs from our June plan. We consider this goes a considerable way
to addressing Ofwat’s specific concern regarding the upper quartile efficiency of costs associated with
this scheme. We are also providing additional cost assurance from Aqua Consultants who have
independently costed the scope of the project and demonstrate our June estimate was in line with
efficient industry costs now outperformed by our market driven price.
The tenderers have been able to identify efficiency opportunities through the consideration and
application of the following innovations to the original design:
[redacted text, reason 2].59
59
49
These savings largely represent savings to the maintenance component which alters our proportional
allocation for AMP6 as shown below and described further in section 5.3.2. We will work with the
contractor to endeavour to deliver the project ahead of the forecast completion date of September 2017.
In line with our efficiency adjustment across the wider wastewater programme we have also applied a
further [redacted text, reason 2] cost efficiency to this project, see section 5.3.2.
Driver
AMP5 £m
AMP6 £m
Total £m
9.8
39.3
49.1
24%
12.9
51.7
64.6
32%
Maintenance
18.0
72.0
90.0
44%
Total
40.8
162.9
203.7
9.8
34.3
44.1
26%
12.9
49.1
62.0
36%
Maintenance
18.0
47.5
65.5
38%
Total
40.8
131.0
171.8
June
Quality
submission Supply Demand
October
Quality
submission Supply Demand
Figure 29: Changes in cost for Davyhulme project between June and October submissions (post efficiency)
5.1
Need
This project combines quality and supply demand requirements including:
Tightening of the ammonia (NH3) permit limit from 3 mg/l to 1 mg/l to comply with the
requirements of the Freshwater Fish Directive (AMP5 driver)
MCerts flow measurement for Flow to Full Treatment (AMP6 driver)
Addressing the impact of significant local population and trade growth to appropriately size the
Quality solution to an appropriate design horizon
Davyhulme Wastewater Treatment Works (WwTW) is our largest treatment works, and the fifth largest in
England and Wales. It currently faces two investment requirements that were not captured within Ofwat’s
totex models:
Delivery of an AMP5 Freshwater Fish Directive (FWF) output - for which £50m was
shortfalled from AMP5. Ofwat’s unit cost models only account for outputs from AMP6 NEPs, and
hence this statutory obligation (tightening the ammonia consent from 3mg/l to 1mg/l) was not
reflected in Ofwat’s initial cost threshold assessment for United Utilities. At the Draft
Determination Ofwat noted that “because this is an overlap scheme we are making an allowance
for the quality element, which United Utilities says in its document RD207 is £39.27m”.
A major supply demand constraint, not simply driven by population growth – the works is
already operating within very tight operational constraints, for example we have been having to
rely on our tertiary treatment process to remove biological load from an undersized secondary
process60. There is substantial growth in load entering the works, in part due to recent (and
projected) population growth in Manchester, but predominantly due to the significant expansion of
a major trader within the catchment of this works61. Ofwat’s “Sewage Treatment Growth” unit cost
model only considers domestic population growth in assessing additional costs requirements,
and hence, as we demonstrate below, does not reflect this growth in trade load.
60
United Utilities, Process Investigation Report – Concept stage Davyhulme WwTW 80026950 Version 1, August
2012
61
See Appendix D
50
Impact of trade growth in the Davyhulme catchment
Davyhulme WwTW has a significant trade load with some very large traders operating in the catchment.
The risk with industrial customers is that they can increase and decrease by significant amounts with
little warning. After many years of declining trade loads in the catchment, we now have information from
our existing customers of their intention to increase production in this locality62. [redacted text, reason
2]
[redacted text, reason 2] 63
64
We do not propose that there is sufficient certainty in these proposals to make any adjustments to our
AMP6 plan but they are indicative of the level of volatility there can be in managing significant trade load
within a catchment.
Confluence of factors driving supply demand allocation requirement
If there was no quality driver at Davyhulme, supply demand investment could potentially be delayed until
AMP7, see Figure 30. However the new ammonia limit substantially reduces the headroom at the
works. This coincides with upward demand pressures from rapidly growing domestic population
combined with the significant increases in trade load in the catchment. It is the confluence of factors at
Davyhulme as described in Figure 30 below that are driving the supply demand investment requirement.
62
See Appendix D
See Appendix B
64
63
51
Figure 30: Demand forecast and treatment capacity at Davyhulme WwTW
We absorbed a reduction in the ammonia limit from 5 mg/l to 3 mg/l in 2005/06 at no cost to customers
because declining trade load at that time offset the reduction in headroom driven by the Freshwater Fish
Directive driver. We have therefore been operating with little headroom at Davyhulme WwTW for a
number of years. The further reduction in the ammonia limit from 3 mg/l to 1 mg/l in 2016 combined with
the expected increase in trade load means that supply demand investment is now required and cannot
be postponed any longer.
In order to ensure we can meet the statutory obligations set out in the FD09 NEP for Freshwater Fish
Directive, we must improve the quality of the continuous discharges to the Manchester Ship Canal, from
our wastewater treatment works at Davyhulme. In order to ensure the environment is protected, we have
followed a robust process for identifying potential solutions to the issue. We have considered technical
feasibility; capital costs; wholelife costs; the impacts on customers and the environment. We have also
set out provisions to ensure that customers are protected against non-delivery.
All of this evidence together gives a clear indication that our proposals are the least cost practicable
option and represent the best solution for customers and wider stakeholders. The solution is also
supported by the Environment Agency. The cost exclusion is essential to ensure efficient costs, required
to meet our statutory obligations, are reflected in price limits.
The Draft Determination highlighted three main areas of concern:
There was insufficient explanation of how costs had been allocated between quality, supply
demand and capital maintenance.
The project is forecast to be completed after the reduced ammonia permit limit is in place.
There was insufficient evidence provided as to why the capital maintenance and supply demand
expenditure associated with this project necessitated an additional allowance being added to the
basic cost threshold.
52
The concern about allocation of costs and forecast completion date are addressed in our response to the
test “Whether most cost beneficial solution” in section 5.2.
Ofwat’s Sewage Treatment Growth unit cost model and its application to our AMP6 supply
demand programme
This section reviews Ofwat’s S10 sewage treatment growth unit cost model and its use in assessing our
proposed expenditure in AMP6, including the major project at Davyhulme. It shows that the model
makes no implicit allowance for increasing trade loads.
160
140
120
100
80
60
40
20
0
700
600
500
400
300
200
100
0
Growth Expenditure
Population growth (000's)
Expenditure (£m)
Ofwat’s Treatment Growth Model
Ofwat’s unit cost model S10 is based solely on company spending on treatment growth between 200812 and regional population growth over the same period. As Figure 31 below illustrates, the two data
series used by Ofwat track each other closely, with r=.89.65 This suggests that using population growth
as the “unit” in the cost model is likely to produce a reasonable approximation of the process governing
treatment growth spending over the period covered by the data series.66
Population Growth
Figure 31: Treatment growth expenditure and population growth from 2008-12 are highly correlated
Source: August Submissions
However, another notable trend during this period was a sharp decline in trade effluent loads, as Figure
32 below shows. Nine out of ten companies experienced falling loads, and the size of these falls was
uncorrelated with regional population growth, with r = 0.06.
65
66
The correlation coefficient, r, for two variables measures whether changes in one variable are linearly related to
changes in the other. Values between zero and one imply a positive correlation (increases in one variable are
associated with increases in another) with values closer to one suggesting that this connection is more closely
approximated by a positive linear relationship.
Nonetheless, the approximation is far from exact, as shown by the wide variation in the four models’ estimates
of our treatment growth allowance, which range from £38.7m to £50.1m. This reflects the models’ failure to
take account of other determinants of treatment growth spending that are unrelated or only weakly related to
population growth, such as the availability of excess treatment capacity, works-specific costs of upgrades (e.g.
due to land availability), or growth in trade loads received at certain works.
53
40%
20%
0%
ANH
WSH
NWL
SVT
SWT
SRN
TMS
UU
WSX
YKY
-20%
-40%
-60%
Figure 32: Percentage change in trade loads 2008-12 by company
Black dotted line denotes industry average change.
Source: June Returns (2009-2011) and August Submissions (2012). 2012 trade effluent loads estimated
using industry average change in domestic loads per additional person (2008-11) to estimate 2012 domestic
loads, then subtracting this from total loads reported in the August Submissions.
In this context, it is unsurprising that population growth and treatment growth spending are strongly
correlated, whereas little (if any) expenditure would have been required to accommodate increases in
trade growth - almost all additional capacity is likely to have been installed to receive increasing
domestic loads caused by population growth. Indeed, in our case, no growth investment in 2008-12 was
predicated on accommodating local increases in trade effluent.67 This, along with the low correlation
between trade growth and population growth, implies that the amount of totex driven by trade growth
“implicitly allowed”68 for in Ofwat’s estimated unit cost is, at most, minimal.
Moreover, declines in trade loads in 2008-12 were so sharp as to lead to overall falls in wastewater
treatment loads for most companies, leaving significant spare treatment capacity at certain works that
could accommodate population growth in the area they served. As a consequence, companies were
generally able to absorb growing populations with less spending on treatment growth than they would
have needed had trade loads fallen less precipitously. This suggests that the unit cost estimate from
S10 understates the future cost of treatment growth that would need to be associated with population
increases in periods when trade loads decline by less than they did in 2008-12.
We conclude that the amount of trade growth implicitly allowed for in Ofwat’s model is negligible and,
unless trade loads fall again by as much in AMP6 as they did in 2008-12, S10 will also significantly
underestimate the unit costs of accommodating only population growth over the period.
Three companies make up 72% of the expenditure for 2008-12 driving the unit cost in the sewage
treatment growth model:
Thames
United Utilities
Anglian
67
68
£142.123m
£62.375m
£45.128m
United Utilities, Chapter 4 Section 1 Wastewater Supply Demand Management Plan, 2009
In technical terms, spending for trade treatment growth could be implicitly allowed for in the cost model either:
(a) because trade growth is correlated with population growth, and thus the estimated coefficient on population
growth incorporates both effects; (b) because there is a fixed amount of it across the industry, and as a result it
is reflected in the intercepts of the linear or log-linear unit cost regression models; or (c) through a combination
of both effects where trade growth has both fixed and variable components. The weak correlation between
trade growth and population growth shows that (a) does not hold, while the overall declines in trade load
suggests that any fixed spending on trade growth as in (b) was insignificant.
54
If none of these three companies include expenditure associated with meeting significant increases in
trade effluent loads then it seems reasonable to suggest that costs associated with significant trade
effluent demand growth are not captured in the model.
We have limited information available on other companies expenditure and what drives such
expenditure.
The majority of the £62.4m expenditure for United Utilities is associated with the close out of our
AMP4 project at Fleetwood WwTW where the supply demand allocation was largely driven by
rising summer visitor numbers and increasing domestic development in the catchment.
We are aware that Thames has upgraded a number of their major works over the last 2 AMPs
but these have been largely associated with the need to tackle storm flows associated with the
Tideway project and increasing domestic population. From Thames publications we can see no
evidence that their supply demand expenditure incorporates any significant increase in trade
effluent loads.
Anglian is another area where there has been significant house building in the last ten years.
Again we can find no evidence that Anglian’s expenditure is driven by any significant increase in
trade effluent loads.
In addition to historic industry costs reflecting little for trade growth related supply demand investment,
Ofwat’s treatment growth model also allocates assumed totex to companies based on population growth.
This presents two significant issues in relation to required investment at Davyhulme:
The level of trade growth at Davyhulme is not represented in the population growth driver in
Ofwat’s model, and unless there is similar substantial trade growth for other companies,
population growth alone would represent a significant under-allocation of our treatment growth
costs
We are generally experiencing modest population decline in other areas of our region – this in of
itself does not (in the short or medium term) result in “negative investment” to net off against the
investment requirement for the substantial growth in both trade and population within the
Davyhulme catchment (this is expanded in the following section). As such, Ofwat’s model would
again tend to under-represent our growth related totex requirements.
Impact of areas of declining population on net regional population
The model uses the net regional population growth forecast for 2015-20 as the coefficient to derive
sewage treatment growth expenditure allocation. This understates the impact of population growth in
regions experiencing declines in population in some localised areas within their region. Treatment
capacity cannot be moved from areas of population decline to areas of population growth and therefore
this does not offer opportunities for efficiency. Reduced population in catchments does not deliver cost
savings as operational cost is not closely aligned with total load, in fact smaller populations can increase
operational costs as assets operate less efficiently under reduced loads. Population growth also does
not impact on investment needs symmetrically – falling population does not result in “negative
investment”, or even substantial avoided cost in the short to medium term.
As a region experiencing higher than average population declines overall, see Figure 33, we are
penalised by a model based on regional net population growth. Based on the 2011 census, we
experienced 7% more population decline than the average water company region, equivalent to an
additional population growth of 6,18969 in AMP6 which is not included in our current allocation.
69
Based on 3.5% of 176,847 population growth forecast by Jacobs
55
Figure 33: Total population reduction in areas of declining population between 2001 and 2011
Source: Office of National Statistics 2001 to 2011 census population data by Local Authority
Our AMP6 Supply Demand Programme
Figure 34 below summarises our planned spending on treatment growth in AMP6.
Works
Davyhulme
Our other works
Population growth
Trade effluent
growth
Expenditure (pre-eff)
(£m)
30,506
84,93570
54.6
146,341
-59,332*
48.5
71
Sub total
176,847
87,76672
Correction for lower
trade effluent decline in
AMP6
Total
176,847
172,701
103.2
Figure 34: Summary of our planned treatment growth expenditure in AMP6 in population equivalent
Sources:
Jacobs’ forecasts (total population growth);
our business plan forecasts (population growth at Davyhulme, trade effluent growth);
Experian forecasts (trade effluent growth at other works);
our regulatory reporting systems (population equivalent of trade effluent declines).
* This trade effluent decline is already reflected in unit costs and therefore excluded from totals
There are four main reasons to suppose that Ofwat’s S10 model is poorly suited to allowing for our
treatment growth needs.

Loads at Davyhulme, where the majority of the investment will take place, are growing during AMP6
mostly due to large increases in trade effluent to be [redacted text, reason 2]. As explained above,
S10 does not include any allowance for rising trade loads, let alone trade load growth as
concentrated as it is in this catchment, i.e. at Davyhulme.
70
See Appendix B
Jacobs forecasts for the sewage treatment growth model
72
See Appendix C
71
56

Although loads from trade are projected to fall by approximately 5% at other works,73 this is a
significantly lower rate of decline than the 15% seen across the industry in 2008-1274. As a
consequence, we will have less ability to accommodate population growth by utilising spare capacity
released by falling trade loads than is assumed in S10. This means efficient unit costs and total
growth costs will be expected to be higher than those in Ofwat’s model. As the company with the
highest trade effluent volumes, the absence of trade loads in the model will affect us more than other
companies.

Much of our growth programme, including the work at Davyhulme, is also associated with tightening
environmental consents. As we evidence in section 7, our environmental quality programme is
significantly larger than the historical industry average and – to the extent our new quality
programmes are also associated with larger treatment growth drivers – this would also be expected
to result in higher efficient unit costs than allowed for in S10.

The model uses net regional population growth forecast for 2015-20 as the coefficient to derive
sewage treatment growth expenditure allocation. This understates the impact of population growth in
regions with catchments experiencing higher than average declines in population in some areas
within their region.
Implicit Allowance for Supply Demand for the Davyhulme Project
To reflect a population increase of 176,847 (based on Jacob’s forecast), Ofwat’s unit cost models allow
£42.6m (pre-efficiency) for sewage treatment growth. Allocating this in proportion to the population
growth expected in Davyhulme’s catchment suggests an implicit allowance of £7.35m for treatment
growth specifically at this works.
However the various issues with Ofwat’s Sewage Treatment Growth model understate the growth impact
by:
Increase in trade effluent load in 2015-20 in the Davyhulme catchment = 84,935 p.e.
Correction for reduction in rate of trade effluent decline in AMP6 = 87,766 p.e.
A total of 172,701 population which based on Ofwat’s unit rate model would give an additional allowance
of approximately £41.1m for the Davyhulme catchment.
This would result in a total sewage treatment growth model allowance of £76.4m75 (pre-efficiency).
Capital maintenance
During AMP5 we have continued to use and develop our decision support tools, to ensure that we
optimise our understanding of risk and the interventions which we subsequently take in response to this
risk. We have always taken an industry leading role in modelling and forecasting our capital maintenance
needs and continue to invest in this capability. We have a comprehensive suite of tools fully embedded
into our business as usual processes, from our Integrated Asset Planning processes, to our strategic
forecasting tool PIONEER, and our investment prioritisation system OPTIMUS. These tools help us to
identify the most appropriate needs to be addressing and the most appropriate way of addressing them
to deliver an acceptable service at an appropriate level of risk.
Future investment requirements may be different from those in the past and PIONEER (Proactive
Investment Optimisation by the Evaluation of Expenditure and Risk) modelling is used to help identify
73
74
75
2013 forecasts by Experian, using an econometric model of the relationship between macroeconomic
variables, tariffs, and growth in loads by sector, suggest our overall trade loads will decline by 5.3% from 201520. The forecasts do not include load increases from [redacted text, reason 2] that will drive load growth at
Davyhulme – and are thus indicative of expected trends at our other works.
Trade effluent decline of 15% for us equates to a population equivalent decline of circa 200,000.
Based on £42.6m - £7.35m + £41.1m = £76.4m.
57
these future peaks and troughs. PIONEER modelling, is our approach for applying the Common
Framework for Capital Maintenance Planning and was jointly developed prior to PR09 between
ourselves and Tynemarch, one of the leading UK risk management consultants. PIONEER is a
modelling tool which uses asset data to predict the long term performance of company assets based
against expenditure and service risk targets over 25 years. The programme is used to model and predict
optimal refurbishment, replacement and other interventions for our assets.
Our current maintenance strategy, which has been in operation since 1999, is based on Reliability
Centred Maintenance (RCM) but has not been fully embedded. As a result we still have a significant
reactive element to our approach. We are moving to an intelligence-based approach which will shift the
focus from reactive to pro-active. Delivering our maintenance strategy includes the up-skilling of our
people and the improvement of our process, information and technology capability. In AMP5 we have
worked to optimise and embed our existing processes and define the future transformation approach,
including the replacement of our Master Asset Management System (MAMS). With respect to capital
maintenance expenditure during AMP5 we have focused on reducing the number of works that are at
risk of failure. This has been achieved using a combination of targeted asset specific interventions. All of
this is developed to ensure we do not simply replace assets at the end of their nominal asset life, but
intervene when the risk to service become intolerable in the most appropriate way.
We expect to continue to roll this out in AMP6, which together with increased instrumentation and
monitoring will allow us to manage risk and achieve our performance commitment in the most optimised
and efficient mix of capital and operational interventions.
Where feasible, we look to integrate maintenance investment with improvement schemes, such as our
proposals at Davyhulme to improve the efficiency of delivering our capital programmes. At Davyhulme
PIONEER forecasts that over the next 25 years we would need to spend £86m in order to manage risk
and maintain service. The integrated solution has £66m of maintenance associated with it. The
integrated strategy is forecast to incur £52m of these costs over the same time horizon following the
completion of this intervention.
Davyhulme
AMP6
AMP7
AMP8
AMP9
AMP10
Total
£000’s
£000’s
£000’s
£000’s
£000’s
£000’s
20
5
11
45
5
86
Figure 35: PIONEER forecast of maintenance expenditure requirements
Capital maintenance implicit allowance
In June we used Line 94 from the resubmitted Table S11 to calculate the average of the five year historic
maintenance incurred at Davyhulme in AMPs 3, 4 and 5 as £27.36m, which we had assumed as the
base totex implicit allowance for Davyhulme.
Typically the level of maintenance on enhancement for other companies is not readily available. In
reviewing other companies regulatory submissions and returns we could find no clear statements or
evidence, we did however find descriptions regarding movements in both directions, but again no
definitive numbers.
In lieu of definitive comparative industry evidence we engaged KPMG to assist in the development of an
alternative approach using the industry data that was available. KPMG established a correlation between
enhancement costs and maintenance using historical information to understand the relationship76. They
completed linear regression analysis using this historic data, identifying a strong positive relationship
between Maintenance Non-Infrastructure (MNI) expenditure and the previous year Enhancement NonInfrastructure (ENI) expenditure.
76
REP-E KPMG Implicit Allowance report
58
The results suggests that an additional £1 per property enhancement spend is associated with a £0.24 £0.81 per property increase maintenance spend in the subsequent year, with a best estimate of £0.57
from the regression. For Davyhulme, the enhancement spend suggests MNI spend will need to increase
in the subsequent year by £47.5m.
This a large project within our programme and precise estimation of the MNI spend resulting from
enhancement is likely to depend upon the technology used and the maintenance strategy. As a result we
consider that this estimate can be considered to be towards the upper end of the range.
We expect an additional allowance to be made to the Sewage Treatment Growth model as:
Trade effluent growth is not being reflected appropriately in the sewage treatment growth model;
Unit costs are underestimated as they are based on a period of unprecedented trade effluent
decline that is not expected to continue in AMP6; and
Using net population unfairly penalises regions where there are catchments with population
decline.
We do not expect an additional allowance to be made to the Base Total Expenditure (Treatment) model
as the implicit allowance described in section 5.1.2 is equivalent to the AMP6 expenditure suggesting the
maintenance requirement at Davyhulme is included in the Basic Cost Threshold.
June plan
£m
Quality
Supply Demand
Maintenance
Total
39.3
51.7
72.0
162.9
October
plan
£m
34.3
49.1
47.5
131.0
Ofwat Draft Remaining
Determinat gap
ion
£m
£m
39.3
-5.0
0.0
49.1
0.0
47.5
39.3
96.6
Implicit
Allowance
£m
7.4
47.5
54.9
Net
Exclusion
claim £m
-5.0
41.7
0.0
36.7
Figure 36: Davyhulme net exclusion claim
The net exclusion claim is therefore £36.7m as shown in Figure 36, we therefore expect this adjustment
to be made to our allowance at Final Determination.
5.2
We considered a range of interventions to address the needs identified at Davyhulme through our
integrated asset planning process and our preferred option has the lowest wholelife cost.
We have modelled costs for the options for meeting these individual drivers, and have concluded that the
most effective solution is to integrate these requirements into a single scheme, to rebuild the secondary
process and the inlet. Whilst this results in a higher level of totex in AMP6, this solution confers multiple
long term benefits to customers;
a) it represents the lowest wholelife cost solution, compared with alternatives, even more so if
energy prices rise beyond modelled forecasts;
59
b) it restores an acceptable level of headroom at the treatment works, reducing the need for further
future investment to maintain service levels; and,
c) it reduces the potential (substantial) risk of disruption to the local community, and to the
continuing effective operation of the works, over a number of years.
The lowest wholelife cost solution to achieve the lower ammonia standard necessitates the replacement
of some existing treatment processes with more effective assets. As a consequence there is a large
capital maintenance allocation associated with this solution.
We have considered three options to address this need:
1. Expansion of the existing secondary treatment process, which would also require an increase in
the capacity of the tertiary treatment process; this is effectively the piecemeal solution, equivalent
to having delivered a standalone Quality solution in AMP5 and a separate Supply Demand
solution in AMP6;
2. Replacement of half of the existing secondary treatment process with a more effective and larger
secondary treatment process and retaining the existing tertiary treatment process; and,
3. Replacement of both secondary treatment plants with a more effective and larger secondary
treatment process and abandonment of the tertiary treatment process.
It is not feasible to transfer enough of the load to alternative sites to negate the need for investment at
Davyhulme. This is our largest treatment works, treating load equivalent to a population of over one
million from a catchment area in excess of 180km2. None of the treatment works in the vicinity of the
Davyhulme catchment have sufficient capacity to take enough load to make a difference to the
requirements at Davyhulme without significant investment and high on-going operating costs to pump
flows to another catchment.
Option 3 was ruled out on the grounds that (a) replacement of both secondary treatment plants would be
prohibitively expensive, and (b) it would result in the unnecessary abandonment of the (c.£45m GMEAV)
tertiary process which is operating effectively.
We have selected option 2 as the preferred option as it has the lowest wholelife cost. Option 2 has a
higher capex requirement in AMP6 than option 1 but option 2 offers a lower wholelife cost because:
it has a lower on-going power requirement and enables us to extract more energy from the
wastewater enabling Davyhulme to become at least energy self-sufficient therefore delivering a
lower opex requirement; and
it also therefore has the benefit of protecting customers from volatile energy prices increasing
above RPI.
Capex cost (total)
Opex cost (per
annum)
Wholelife cost
Option 1: Disaggregated solution
- rejected
£244.7m
£1.8m
-£215.7m
Option 2: Integrated solution preferred
£267.3m
-£0.4m
-£188.2m
Figure 37: Wholelife cost comparison for options
60
The Draft Determination highlighted three main areas of concern:
The project is forecast to be completed after the reduced ammonia permit limit is in place
A question was raised by Halcrow as to whether the entire capital maintenance is required in
AMP6 which was not adequately addressed in our response
The majority of the project cost has been allocated to capital maintenance and this accounts for
almost all of the forecast capital maintenance for the next 25 years
In this section we address the concerns about:
Project completion date being after the permit date;
Potential for phasing of expenditure into AMP7; and
Forecast future capital maintenance requirements
Project completion date
We acknowledge that there is concern about the forecast delivery date occurring after the reduced
permit limit is in place. The delay to delivery of this project is unfortunate but has been driven by a need
to ensure that we have a high level of confidence about the solution. This is a unique situation and a
unique opportunity to ensure that our largest treatment works is effective and sustainable in the long
term. We have considered all the implications for other drivers and future energy costs to come up with
a lower wholelife cost solution that is better for the environment and for customers.
We will work with our project delivery partners to complete this project ahead of the current forecast date
of September 2017. There are risks with a project of this scale but there are also opportunities and we
will be putting every effort into managing the risks and realising the opportunities. We have continued to
keep the Environment Agency (EA) up to date with developments in the scheme at all levels within the
organisation. We will continue to work with the Environment Agency during the implementation of the
project to look for opportunities to safely accelerate the delivery date and identify actions to mitigate the
environmental impact.
We are actively investigating measures to enable Davyhulme WwTW to meet the new regulatory
discharge commitment of 1 mg/l ammonia from the 28th February 2016. A combination of temporary
options to reduce biological load into Davyhulme and operational measures to improve treatment are
being assessed for both effectiveness and ease of implementation. We are optimistic that these actions
will meet the new permit requirements albeit at our high risk and at additional operational cost for the
duration of the delay.
The high risk for compliance and high cost of maintaining these activities makes this approach
unsustainable for any length of time. It is at our risk that we will fail to comply with the new permit until
the project is complete. Customers are protected through our “Treatment works maintenance”
performance commitment and through other regulatory instruments.
Phasing of expenditure
Ofwat’s comment that “A question was raised by Halcrow as to whether the entire capital maintenance is
required in AMP6 which was not adequately addressed in our response” refers to section 5.5 of
Halcrow’s report. However the question about the phasing of expenditure was addressed further on in
their report. In section 5.11, in answer to the question “Is there good justification for all the components
included in the solution?” Halcrow stated: “Yes. Upon questioning the project team on whether the
population growth and screening improvements needed to be addressed in this regulatory period, they
61
were able to provide evidence that the phasing of the work had been considered and the potential 10%
of capital cost savings this approach generated were not sufficiently significant to consider delaying”.
We presented evidence to Halcrow on the limited options for phasing investment into AMP7 but
demonstrated that any capital cost saving in AMP6 always results in a higher wholelife cost due to higher
costs being incurred in AMP6 operational costs and/or higher capital costs in AMP7 due to inefficiencies
in splitting the scope into two phases77. The most efficient solution is to complete the work once and
Halcrow has provided assurance to this effect.
Allocation of costs
The FD09 Quality solution for Davyhulme was based upon a standalone add-on solution to meet the
reduced ammonia standard. The proposed solution was a Liquor Treatment Plant (LTP) and Tertiary
ammonia Removal Plant (TARP) that was costed in advance of our 2009 Final Business Plan at £53m.
As the solution was developed further in AMP5 it became clear that with rapidly increasing population in
Manchester and the imminent increases in trade load [redacted text, reason 2] that the original Quality
solution would not be sized sufficiently to meet the new ammonia standard in the short term. We
therefore developed the base solution of an extension to the existing Activated Sludge Plant (ASP) in
addition to the standalone LTP and TARP. This was costed at an additional £62m, allocated to supply
demand. The inlet works would also need to be replaced to screen out more of the organic load ahead
of the primary and secondary treatment stages. The replacement inlet works was costed at £53m which
was allocated £8m to supply demand and £45m to maintenance on the basis that current population
represents 83% of the future design population, so 83% allocated to maintenance.
This solution would however have built in significant operational cost growth so we looked at alternative
options to identify a lower wholelife cost solution. The preferred option includes replacing one of the two
existing Activated Sludge Plants (ASPs) with a nitrifying Fine Bubble Diffuse Aerator (FBDA) at a cost of
£167m. The inlet works solution and cost allocation remains the same as previous.
FBDA
Inlet works
Total
Allocation
Quality
£53m
£0m
£53m
24%
Supply demand
£62m
£8m
£70m
32%
Capital maintenance
£52m
£45m
£97m
44%
Total
£167m
£53m
£220m
Figure 38: Basis for proportional allocations between drivers at Davyhulme WwTW based on June
submission pre efficiency
Further scope and cost efficiencies have been applied to the solution since this initial proportional
allocation was derived to deliver a lower cost than the £220m shown in Figure 38. These percentage
allocations were retained for AMP5 spend as they were still appropriate at that time.
Since the June submission we have received a tender price back and applied that to our AMP6 cost
projection. The saving from the tender price has been applied to the capital maintenance allocation as
[redacted text, reason 2].
We have also then applied further programme efficiencies across the project which also has the effect of
slightly altering the allocation percentages as different efficiencies are assigned to different programmes,
see Figure 39.
77
United Utilities, Davyhulme modernisation project – CEO update, 150814
62
Quality
Supply demand
Capital maintenance
Total
AMP5
9.8
12.9
18.0
40.8
AMP6
34.3
49.1
47.5
131.0
Total
44.1
62.0
65.5
171.8
Allocation
26%
36%
38%
Figure 39: Proportional allocations between drivers at Davyhulme WwTW in October submission
Future forecast of capital maintenance requirements
One reason Ofwat gave for failing this test at the Draft Determination was “because 44% of the claim is
for capital maintenance which accounts for almost all of the forecast capital maintenance for the next 25
years.”
The capital maintenance expenditure required at Davyhulme is unusual not only in being a large, lumpy
programme, but also in being a case of maintenance spending driven by spending on quality
enhancement. The quality programme at Davyhulme involves supplanting various existing assets at the
works, the spending on which we count as maintenance, so in the absence of the quality driver,
maintenance expenditure at the works in AMP6 would be significantly reduced. The maintenance work
at Davyhulme does not, therefore, reflect the periodic need to refurbish large works, but is rather a
necessary component of a substantial quality improvement scheme, which is additional to our
refurbishment programme.
It is necessary therefore to consider the cost benefit of the project as a whole rather than in component
parts. The wholelife cost modelling described in Section 5.2 and in our June Submission78 clearly shows
we have selected the most cost effective solution to the overall requirements at Davyhulme. In section
5.1.2 we describe our assessment of the implicit allowance for maintenance at Davyhulme which means
we are no longer seeking an additional allowance for maintenance on this project above the Basic Cost
Threshold.
We believe that the detailed optioneering that has been undertaken to ensure we are delivering the best
solution for customers combined with further efficiency savings being presented in our October plan
should lead to this exclusion now achieving at least a “partial pass” in this test. We have explained our
intention to use operational interventions to achieve the new permit standard ahead of project completion
and explained that this is at our risk, we will be penalised should we fail to achieve this and customers
are thus protected.
5.3
At the time of the June submission this estimate was at an advanced stage of maturity given the
imminent receipt of tendered costs. We now have tendered costs from the external market and have
adjusted our estimate in response.
The report provided by Franklin and Andrews has been considered to demonstrate that our Investment
Programme Estimating System (IPES) pre-efficiency costs are, on average for water and wastewater
combined, up to 5% higher than the industry. With wastewater infrastructure IPES costs 9% above
industry average and wastewater non-infra IPES costs 8% above industry average. It appears that the
efficiency challenge that we have applied is acknowledged, but the Ofwat analysis of comparative cost
has taken precedence and Ofwat retain concerns that we have not fully demonstrated efficient costs.
78
RD206 Wastewater wholesale cost exclusions
63
Since the June submission tender prices have been received back and we have selected a preferred
bidder and therefore propose to set the revised cost for this scheme at their market estimate, this
represents a [redacted text, reason 2] reduction project costs from our June plan. We consider this goes
a considerable way to addressing the specific concern regarding the upper quartile efficiency of costs
associated with this scheme.
We have also applied a further efficiency [redacted text, reason 2] in line with our efficiency adjustment
to the wider wastewater programme.
Procurement of the Most Efficient Solution
All water and wastewater companies are bound by EU Utility Procurement Directives (the Directives)
when purchasing goods, works or services above certain financial thresholds. So as to ensure our
compliance with these Directives we align our processes and procedures to the legislative requirements
and undertake regular audits to drive further efficiency, compliance and innovation.
Davyhulme forms part of our investment programme and given its value must be procured in accordance
with the Directives. All projects of this nature involve an individual procurement strategy that explores all
available options and recommendations so as to deliver the most effective and efficient solution with the
lowest sustainable whole life cost to meet the specific project requirements and business outcomes.
In addition projects of this nature are subject to our “time, cost and quality” assessment criteria which
feeds into our company wide scorecard.
For Davyhulme we adopted a design and build approach so as to encourage earlier contractor
involvement in the project and we have chosen the Institute of Chemical Engineers (IChemE) Red Book
form of contract to instruct the works. We have chosen this form as this is regarded (by ourselves and
the wider market) as the most suitable for a large scale, complex engineering project such as this and
we have significant experience of procuring and using this form in other large scale projects with great
success in the past. In addition, use of such a readily recognisable and appropriate form of contract also
encourages and supports cost savings from the tender process and in delivery of contract.
In adopting a design and build approach and utilising the IChemE Red Book for Davyhulme we have
also allowed for an equitable allocation of risk between ourselves and the Contractor so as to balance
the requirements of efficiency, value and cost with adequate contractual protections to protect our
investment. Specifically, key areas of risk include;
-
[reacted text, reason 2]
As with all our public procurement processes the process for Davyhulme has ensured an open,
transparent and competitive environment within which to procure a solution. The process began with a
call for competition, issued in November 2012 in the Official Journal of the European Union (OJEU) (ref
2012/OJS219/361220-en).
64
A Pre-Qualification Questionnaire (PQQ) was issued to all organisations that expressed an interest in
bidding. The PQQ responses were assessed against published criteria including Health and Safety,
Quality, Environmental, Sustainability, Customer, Capability and Financial Stability. Assessments of
responses were undertaken by our relevant subject matter experts which resulted in 4 bidders being
successful in being invited to tender for the project. This invitation is undertaken via the issuing of an
Invitation to Tender (ITT) document which is issued to all bidders requesting them to submit an offer to
undertake the works required.
The ITT actively sought innovative solutions from bidders including through their approach to the
technical, schedule (programme) and whole life cost elements of the project (see Figure 40 below giving
the current position). In March 2014, 3 bids were submitted (1 bidder declined to submit). Demonstrating
the success of our drive for innovation we have received 3 very different technical solutions from our
bidders each confident that their submitted technical solution will achieve the required outcome.
These submitted bids are now subject to technical and pricing evaluation in accordance with the
published criteria so as to ensure the most economically advantageous tender is successful. To date our
best indications have been submitted to Ofwat together with third party cost verification alongside our
own internal estimates. For Davyhulme we utilised Aqua Consultants to undertake this verification of
costs and a 1% efficiency differential was identified through this process against our estimate.
We are confident that the procurement process adopted and the contract which will result will
demonstrate significant benefits both in terms of the use of innovative technical solutions and
competitively benchmarked sustainable whole life costs.
Project Opportunity and Innovations Register
The following table details those opportunities for innovation currently offered by the bidders. These are
still to be validated and finalised prior to the award of the contract but do demonstrate further tangible
opportunities for innovation and the associated benefits this can deliver. It is only through our supply
chain process, which has delivered revelation of these cost and risk avoiding innovative interventions,
that we are now able to propose a substantially reduced cost estimate, which we believe represents the
best efficient cost of delivery.
1
2
3
Source
Tenderer C
Description
Impact
Tenderer C
Tenderer C
65
4
5
6
7
8
9
10
11
12
Tenderer C
Tenderer C
Tenderer C
Tenderer C
Tenderer C
Tenderer C
Tenderer C
Tenderer C
Tenderer C
Figure 40 - Project opportunity and innovations register for Davyhulme
Cost Assurance
In support of our June plan we commissioned Franklin & Andrews to complete a programme level review
of cost efficiency. This report concluded that our pre-efficiency IPES unit costs were, on average for
water and wastewater combined, up to 5% higher than the industry. With wastewater infrastructure
IPES costs 9% above industry average and wastewater non-infrastructure IPES cost 8% above industry
average. In response to this a 10% efficiency was applied to the programme, moving us overall to a
position marginally better than the industry average.
66
Since the completion of the Franklin and Andrews report, two further pieces of evidence are provided to
support this cost exclusion:
We have provided a view of the Latest Best Estimate for the project based on the preferred bidder
tender price of £188.2m. Due to commercial sensitivity restrictions we are not providing any greater
level of detail at this stage with regard to the returned tenders. However by providing a view of the
tender costs, sourced from a competitive process, we have clearly provided an additional level of
detail with respect to cost assurance.
Aqua Consultants79 has assured the cost of the scope of the project as it was included in our June
plan. In order to carry out the estimating Aqua utilised three in-house systems supplemented by
other cost information as required. All of these systems utilise a bottom up approach and enable for
a detailed breakdown of how the costs are built up.
Total80
United Utilities (£m)
June pre-efficiency
Aqua (£m)
Variance
220.1
217.2
1%
Figure 41: Comparison with Aqua Consultants assessment of upper quartile costs
This review identified that there was a 1% variance in our estimate to costs which would be considered
upper quartile. As we have now received tender costs which [redacted text, reason 2] lower than an
independent view of upper quartile and included these in our plan, we are clearly demonstrating that this
cost exclusion can be considered to represent significantly better than upper quartile costs. In line with
our efficiency adjustment across the wider wastewater programme we have also applied a further
[redacted text, reason 2] cost efficiency to this project.
Based on the upper quartile efficiency adjustment applied to our “partial pass” Draft Determination deep
dive assessment and the additional evidence provided by Franklin and Andrews we consider this further
demonstrates upper quartile efficient costs for this exclusion.
Conclusion
Since June we have been presented with new data regarding our planned investment at Davyhulme,
which has enabled us to challenge our original assumptions in response to the feedback received in the
Draft Determination.
The Draft Determination made specific comments about cost assurance and cost efficiency. The
waterfall graph below clearly demonstrates how we have responded to each of those areas:
demonstrating cost assurance through the use of independent evidence from Aqua Consultants,
providing us with a third party view of upper quartile costs;
improving cost maturity through the use of a competitively tendered cost, which puts our costs
significantly better than upper quartile;
applying an additional efficiency across our programme and to this project specifically.
79
80
REP-H Aqua Consultant’s Report on WFD, Davyhulme and Oldham/Royton cost assurance
REP-H Aqua Consultant’s Report on WFD, Davyhulme and Oldham/Royton cost assurance
67
Figure 42: Summary of Davyhulme project adjustments from June to October
This project has moved on considerably since the Draft Determination, with new information coming to
light through the planned project life cycle, we have sought to be transparent with this information, in the
best interests of customers. We have also sought to use the additional time afforded to us by early sight
of outcome of the Deep Dive to complete additional assurance work to better understand and evidence
our position, relative to other companies.
5.4Whether consumers are protected
We were concerned that the penalty associated with the supply demand expenditure, based on our ODI
“protecting rivers from deterioration due to population growth”, did not offer sufficient protection to
customers for this project specifically should the forecast growth not occur and compared to the level of
associated expenditure. We have therefore adjusted our target for this project to better reflect the scale
of this project compared to the rest of the Supply Demand programme. We have increased the
associated river length fivefold81 from 25.1km to 125.5km in year 3 (2017/18). If we fail to deliver the
Davyhulme project we would now incur a penalty of £7.3m per annum, this compares to £1.3m per
annum in our June submission. This also has the effect of increasing the maximum penalty for the
supply demand programme to £49.4m which is more than 50% of the total programme expenditure (post
efficiency).82
We have also adjusted our penalty mechanism for our ODI “maintaining our WwTWs” to give a greater
weighting to our larger works, including Davyhulme. The penalty we would incur should Davyhulme
become a failing works has now increased from c.£14m per annum in our June plan to c.£24m per
annum. This is better for customers as the apportionment of penalty more closely reflects the number of
customers served by each works than the previous method.83
81
82
83
This is an adjustment for Davyhulme only to drive a larger penalty for this significant project to ensure
customers are protected, it does not represent the length of river impacted by the works
68
The expenditure allocation to a quality driver in AMP6 is proportionate to the level of shortfall associated
with the Davyhulme quality project. The output driven by the quality investment at Davyhulme will deliver
the Freshwater Fish Directive output which was originally included in AMP5 and subsequently
shortfalled. The cost allocation associated with this has been reviewed to ensure that no additional
quality investment is being requested in AMP6 over and above the amount which has been shortfalled to
address the original quality requirement.
In the event of failing to deliver this project, customers are protected in six ways:
The Environment Agency has powers to prosecute the company under EPR – for a company the
size of ours the fine for each breach could be in excess of £3m
The totex menu mechanism would automatically pass c.50% of avoided costs back to customers
Our ODI “contribution to rivers improved” would result in a maximum annual penalty of c.£300k
for this project
Our ODI “maintaining our WwTWs” would result in a penalty of c.£24m per annum if this works
were to become a “failing treatment works” as a result of failing to comply with the new
environmental permit conditions
Our ODI “protecting rivers from deterioration due to population growth” would result in a
maximum annual penalty of c.£7.3m for this project
Once the contract is awarded, we will be in a contractual position of incurring penalties with the
successful tenderer if we change the terms of the contract award
In addition to these, the company would suffer the reputational and financial impact of a court case, as
well as the potential for wider regulatory sanctions available to the Environment Agency such as
enforcement notices and undertakings and Ofwat under sections 18, 19 and 22A of Water Industry Act
1991 from our failing to deliver statutory obligations. Under the Act we would be enforced to comply,
incurring considerable totex84 in doing so, in addition it would be expected that we would receive further
financial penalty85 as a consequence of the failure.
failure of the previous tests.
outcome.
84
85
PN 07/14: Thames Water pledges customer package worth £86 million
Thames Water 5th June
69
The Environment Agency may also take a range of enforcement action ranging from providing advice
delivered at WwTW to achieve tightening quality standards, the Environment Agency would classify any
such works as a “failing works” and as such significant penalties may now be imposed. Recent changes
to the sentencing guidelines are likely to result in significantly higher financial penalties for us, due to the
level of our turnover, for instance where deliberate harm is proven the fine could be in excess of £3m per
failure.
any of the schemes within this cost exclusion.
70
6. Oldham and Royton Summary
exclusion we made for the Oldham and Royton in the June submission;
£0m implicit allowance; Adjustment £0m; Remaining Gap £104.6m
Explain why the capital maintenance costs should be in addition to Ofwat’s modelled allowance
Concern regarding the significant delay against the regulatory date and challenging delivery
schedule
Demonstrate that the cost of the project represents the efficient cost of delivery
Concern regarding the maturity of costs, given the phase of project development
Need
CBA
Costs
Customer
Fail
Partial Pass
Fail
n/a
In response to the draft determination, we are;
Demonstrating that there is a clear need for this substantial investment, due to the statutory
obligation to delivery AMP5 quality requirements and the delivery of associated capital
maintenance above the level reflected in Ofwat’s base cost econometric models
Demonstrating that that the driver for this scheme is the combination of three AMP5 quality
drivers, for which an investigation only was reflected for two of these at PR09. The proposed
scheme is the result of that investigation, and will deliver against that AMP5 driver, which is not
reflected in any of Ofwat’s totex models.
Proposing to reduce the value of this exclusion claim to £84m, from £104m in our June plan, by:
o Proposing to reduce the gross cost of the scheme [redacted text, reason 2], by using
tendered prices, received following the June Submission, to address concerns regarding
cost assurance and maturity
o Applying an additional efficiency challenge to our entire wastewater programme [redacted
text, reason 2], which results in our revised proposed cost being demonstrably more
efficient that Upper Quartile, relative to Ofwat’s assessment of Upper Quartile efficiency
Reducing the net value of the claim by £22m to £62m, from that submitted in June
o making reasonable provision for implicit allowances against the project of c.£22m
Providing a greater level of detail regarding the context of planned capital maintenance at
Oldham and how it fits in to our overall planned base totex
Confirming that our proposed delivery date remains ambitious, yet achievable, based on
information from the tender information
Providing detail of the mitigating steps we are currently taking to achieve compliance with the
permit
6.1 Need
There are three needs for the cost:
the tightening of organic load and ammonia standards at Oldham WwTW to meet Freshwater
Fish Directive requirements from the AMP5 NEP
a requirement to tackle the unsatisfactory intermittent discharge (UID) from Oldham WwTW
storm tanks set out in the AMP5 NEP
a requirement to tackle the unsatisfactory intermittent discharge (UID) from Royton WwTW storm
tanks set out in the AMP5 NEP
71
Oldham wastewater treatment works was included in the NEP for AMP5 with a requirement under the
Freshwater Fish Directive to tighten both the ammonia limit (from 2 mg/l to 1 mg/l) and the Biological
Oxygen Demand (BOD) limit (from 10mg/l to 6 mg/l) by 31st March 2014. This is to contribute towards
meeting the Freshwater Fish Directive requirements in the River Irk, a tributary of the River Irwell in
Manchester. This would be imposed upon us through an environmental permit (formerly discharge
“consent”), under the Environmental Permitting Regulations (EPR). At PR09, £18.1m (2012/13 prices)
was assumed in price limits to deliver this output. During AMP5 we have incurred £3.2m, and shortfalled
the remaining £14.9m in Table S13. Following this shortfall, and given that we are not seeking any more
than the remaining £14.9m to deliver the remainder of this output, we do not consider that there will be
any duplication of costs being recovered from customers in relation to the delivery of this output.
The discharges from the storm tanks at both Oldham and Royton wastewater treatment works were also
included in the National Environment Programme (NEP) for AMP5 to meet environmental standards as
defined by the Urban Pollution Management (UPM) manual. This followed AMP4 catchment modelling
and the outcome of a series of appeals to the Planning Inspectorate that we undertook in order to
challenge the scope of the AMP3 and 4 UID programmes86.
At PR09, the Environment Agency sought to include full output requirements for Oldham and Royton
storm tanks with a delivery date of 31st March 2015. We rejected this approach in our “Change Protocol
C” submission and in our PR09 business plans, as the scope was not sufficiently defined at that stage to
provide a robust cost for inclusion in our AMP5 programme. Instead, we included the requirement to
carry out optioneering only for these two sites with the expectation that we would follow this up with a
change protocol during AMP5 prior to delivery of the full and final solution. It was this investigation work
alone that was allowed for these two outputs as part of our PR09 determination87.
Through Integrated Catchment Modelling (ICM) as part of the optioneering process, we initially identified
the need for significant storage volumes (around 75,000m88 split across both works) to meet the
requirements to tackle the UID’s at Oldham and Royton storm tanks. Providing these storage volumes
would be infeasible as:
there is limited construction space at both works
both works have limited spare capacity to treat the large stored volumes required
the storage solution would consume all available space in the immediate vicinity, which may
result in stranded assets in the future
Therefore we decided to review whether there was a more viable and cost beneficial solution by
developing an integrated approach to the treatment works and storm tank requirements at both sites, in
conjunction with delivery of the Freshwater Fish Directive output at Oldham. This has delayed the
development of a detailed scope and solution (and hence also delayed delivery of the Oldham
Freshwater Fish Directive output, albeit to the benefit of customers given the lower cost of the integrated
solution) and we therefore did not submit an additional Change Protocol during AMP5, but have included
the more cost beneficial integrated scheme in our AMP6 business plan. Such an approach is clearly
consistent with our duty under section 37 of the Water Industry Act “to develop and maintain an efficient
and economical system of water supply within its area”.
We interpret that the reason for the failure of this test can be summarised as follows;
Lack of evidence explaining how the capital maintenance element of this scheme fits into the
wider capital maintenance programme
Failure to evidence how we have managed capital maintenance investment and risk across the
programme
86
Changes to Unsatisfactory Intermittent Discharge and other associated schemes under the Quality Change Protocol
UUW/SS/UID-C
87
Ofwat, NWT Annex 4 Q Sewerage – Intermittents spreadsheet from FD09
88
model databases “IrkUIDCPC_Oldham.iwm” and “IrkUIDCPC_Royton.iwmb
72
Insufficient explanation and evidence regarding the allocation and why the capital maintenance
proposed is above and beyond that forecast by the Basic Cost Threshold (BCT) models
Conversely we note that the need for the quality expenditure was clearly explained.
Capital Maintenance
During AMP5 we have continued to use and develop our decision support tools, to ensure that we
optimise our understanding of risk and the interventions which we subsequently take in response to this
risk. We have always taken an industry leading role in modelling and forecasting our capital maintenance
needs and continue to invest in this capability. We have a comprehensive suite of tools fully embedded
into our business as usual processes, from our Integrated Asset Planning processes, to our strategic
forecasting tool PIONEER, and our investment prioritisation system OPTIMUS. These tools help us to
identify the most appropriate needs to be addressing and the most appropriate way of addressing them
to deliver an acceptable service at an appropriate level of risk.
Future investment requirements may be different from those in the past and PIONEER (Proactive
Investment Optimisation by the Evaluation of Expenditure and Risk) modelling is used to help identify
these future peaks and troughs. PIONEER modelling, is our approach for applying the Common
Framework for Capital Maintenance Planning and was jointly developed prior to PR09 between
ourselves and Tynemarch, one of the leading UK risk management consultants. PIONEER is a
modelling tool which uses asset data to predict the long term performance of company assets based
against expenditure and service risk targets over 25 years. The programme is used to model and predict
optimal refurbishment, replacement and other interventions for our assets.
Our current maintenance strategy, which has been in operation since 1999, is based on Reliability
Centred Maintenance (RCM) but has not been fully embedded. As a result we still have a significant
reactive element to our approach. We are moving to an intelligence-based approach which will shift the
focus from reactive to pro-active. Delivering our maintenance strategy includes the up-skilling of our
people and the improvement of our process, information and technology capability. In AMP5 we have
worked to optimise and embed our existing processes and define the future transformation approach,
including the replacement of our Master Asset Management System (MAMS). With respect to capital
maintenance expenditure during AMP5 we have focused on reducing the number of works that are at
risk of failure. This has been achieved using a combination of targeted asset specific interventions. All of
this is developed to ensure we do not simply replace assets at the end of their nominal asset life, but
intervene when the risk to service become intolerable in the most appropriate way.
We expect to continue to roll this out in AMP6, which together with increased instrumentation and
monitoring will allow us to manage risk and achieve our performance commitment in the most optimised
and efficient mix of capital and operational interventions.
Where feasible, we look to integrate maintenance investment with improvement schemes, such as our
proposals at Oldham to improve the efficiency of delivering our capital programmes. At Oldham and
Royton PIONEER forecast that over the next 25 years we would need to spend £50m in order to
manage risk and maintain service. The integrated solution has £44m of maintenance associated with it.
The integrated strategy is forecast to incur £8m of these costs over the same time horizon, maintaining
the inlet works and storm tanks at Oldham following the completion of this intervention.
73
AMP6
AMP7
AMP8
AMP9
AMP10
Total
£000’s
£000’s
£000’s
£000’s
£000’s
£000’s
Oldham
4,697
14,033
6,209
8,629
727
34,295
Royton
3,182
476
1,720
9,577
936
15,891
1,663
50,186
TOTAL
7,879
14,509
7,929
18,206
Figure 44: PIONEER forecast of maintenance expenditure requirements
Approximately £33m of the forecast maintenance is forecast to be required to maintain the inlet works,
primary and secondary treatment. £32m of this investment is forecast to be included within our
integrated solution, through the replacement and enhancement of these process units at Oldham
WwTW. Overall this shows that whilst the interventions are unlikely to be the same between the
integrated and disaggregated approaches, the level of capital maintenance expenditure are not
significantly different and are broadly aligned to the same process units, albeit advanced in the
integrated strategy.
Implicit Allowance
In June we used Line 110 from the resubmitted Table S11 to calculate the average of the five year
historic maintenance incurred at Oldham and Royton in AMPs 3, 4 and 5 as £5.510m, which we had
assumed as the base totex implicit allowance for Oldham and Royton.
Typically the level of maintenance on enhancement for other companies is not readily available. In
reviewing other companies regulatory submissions and returns we could find no clear statements or
evidence, we did however find descriptions regarding movements in both directions, but again no
definitive numbers.
In lieu of definitive comparative industry evidence we engaged KPMG to assist in the development of an
alternative approach using the industry data that was available. KPMG established a correlation between
enhancement costs and maintenance using historical information to understand the relationship89. They
completed linear regression analysis using this historic data, identifying a strong positive relationship
between Maintenance Non-Infrastructure (MNI) expenditure and the previous year Enhancement NonInfrastructure (ENI) expenditure.
The results suggests that an additional £1 per property enhancement spend is associated with a £0.24 £0.81 per property increase maintenance spend in the subsequent year, with a best estimate of £0.57
from the regression. For Oldham/Royton, the enhancement spend suggests MNI spend will need to
increase in the subsequent year by £22m, given the integrated nature of the solution at Oldham, we
assume this to be the implicit allowance reflected in the historic data, with any additional maintenance
being considered unique and not covered by the model.
This a large project within our programme and precise estimation of the MNI spend resulting from
enhancement is likely to depend upon the technology used and the maintenance strategy. As a result we
consider that this estimate can be considered to be towards the upper end of the range.
89
REP-E KPMG Implicit Allowance report
74
From our dialogue and feedback from Ofwat it is clear that the requirement for the Quality expenditure is
well understood and noted that it is, for the most part, driven by legal requirements. We would, therefore,
expect that the need be considered a ‘pass’.
We consider we have identified a more prudent value for the implicit allowance for the capital
maintenance element of the planned expenditure, using the Ordinary Least Squares regression analysis.
We have been able to better understand and demonstrate how and why there is a need for an element
of the capital maintenance forecast at Oldham to be added to the Cost Threshold, clearly addressing the
feedback from the Draft Determination.
Name of Exclusion
Gross Value
(June)
Reduced
Scope
Additional
Efficiency
Implicit
Allowance
Other UU
Adjustment
Accepted by
Ofwat
Adjustment
to Cost
Threshold
October
Exclusion
Whilst the need for the cost exclusion has remained the same, we have been able to significantly adjust
the value through the receipt of tender prices received after June and the establishment of a prudent
implicit allowance for the scheme. The table below identifies where these adjustments have been made
since June and the expected adjustment to the Cost Threshold.
Oldham & Royton
105
0
21
22
0
0
61
83
Figure 45 - Summary of cost exclusion for Oldham and Royton
During 2012, consistent with our obligation in FD09, we completed solution design and estimating
activities on the achievement of the three individual quality outputs. As the model indicated significant
storage volumes we also reviewed four alternative integrated solution options, namely:
1. Transfer of Royton WwTW flows to Oldham WwTW and provision of significant additional
treatment capacity at Oldham WwTW. (Provision of smaller additional storm storage would still
be required at both sites.)
2. Provision of additional treatment capacity at both Oldham and Royton WwTWs. (Provision of
smaller additional storm storage would still be required at both sites.)
3. Transfer of both Oldham and Royton WwTWs flows to a new site and provision of a new
treatment works
4. Programme of surface water separation in both catchments to reduce storm flows
Options 3 and 4 were rejected early in the optioneering process, due to concerns about the
constructability, cost, timescales to deliver and lack of certainty that the required environmental
standards could be delivered90. Options 1 and 2 were taken forward for detailed design and costing and
Option 1 was preferred as being the lowest wholelife cost.
90
Oldham & Royton WwTW Integrated Strategy (ORIS) Network & River Modelling Concept Phase Report
75
Integrated Solution (Option 1)– June
91
Integrated Solution (Option 1) - October
92
Capex (£m)
Opex (£m)
£114
£0.086
Whole Life Cost
(+ve)
-£172.6
£93.7
-£0.053
-£94.7
Provision of additional treatment capacity at
both sites
£134
£0.164
93
(Option 2)
Figure 46 - Wholelife cost assessment for Oldham and Royton integrated solution
-£208.1
Figure 46 includes the highest capex, lowest opex tender price received for Option 1, identifying a
[redacted text, reason 2] reduction in capital cost from our best estimate in June. The updated Option 1
also identifies a significant saving in operating costs. This change has been realised through the
elimination of an interstage pumping station and the refinement of the design to a gravity only solution,
resulting in a considerable reduction in power requirements. As Option 2, which included for the
provision of additional treatment capacity at both Oldham and Royton WwTWs and additional storm
storage at both sites, was discounted based on the initial NPV analysis, this solution or forecast cost has
not been developed further.
In reviewing the feedback from the Draft Determination, Deep Dive 11, we understand that the main
concern with regard to the cost benefit of the scheme appears to centre on the delivery date and
achievement of the new consent conditions in line with the Environment Agency expectations.
On the 31st March 2014 the Freshwater Fish Directive requirement to achieve 1mg/l ammonia and 6 mg/l
Biological Oxygen Demand (BOD) in the continuous discharge from Oldham WwTW came into effect.
Since this date the site has been operating against this new requirement. During this period we have
accepted the increased risk of operating against the permit condition without proportionate capital
investment, taking a series of steps including:
Intensified routine daily process monitoring and sampling: Proactive internal monitoring and
sample analysis allows forecasting of optimum conditions for seasonal trends and monitoring of
current conditions to identify any intermittent performance issues. Internal sample failures and
performance issues are escalated through informal weekly intensive care meetings and monthly
performance review meetings to ensure any additional controls or maintenance are put in place
to minimise the risk of non-compliance.
Tightened process operating parameters: The tightened continuous discharge standards require
operating biological processes well beyond assets’ original design capabilities. Whilst to date
compliance has been achieved, it is proving difficult to ensure consistency in compliance due to
constant unpredictable fluctuations in weather and sewage strength/consistency. Furthermore,
previous redundancy within processes is no longer available leaving compliance more vulnerable
to sudden fluctuations in effluent quality. As such it is unlikely that long-term compliance can be
achieved.
91
80030122 - Oldham Integrated Strategy - Solution 1 - PRG1 UUW_Investment_Appraisal_Model Rev 1.2.xlsm
Email from G Ramond – Updated NPV for Solution 1
93
80030122 - Oldham Integrated Strategy - Solution 2 - PRG1 UUW_Investment_Appraisal_Model Rev 1.2.xlsm
92
76
Enhanced maintenance activities: Assets are being maintained in constant optimal condition to
maximise process performance and to address previously tolerable performance issues. For
instance, entire sets of nozzles on cells within each Biological Aerated Floating Filter (BAFF) are
being replaced at a cost of approximately £12.5k/cell (there are 8 cells onsite). In addition to
capital maintenance costs, the manual interventions to keep cells as clean as possible and more
out of hours response to alarms are increasing site operating costs. The additional manpower to
maintain the BAFF is time-consuming at the detriment of maintaining other processes on-site and
is therefore not a sustainable long-term option.
Chemical dosing: Additional emergency chemical dosing into settlement processes
(PolyDADMac) assists in retaining solids through chemical precipitation, this costs £1000/d when
in use. The binding of solids limits potential BOD failures; however, this is not is not a viable longterm solution due to the operational cost. As assets on-site are beyond their asset life,
performance may deteriorate resulting in dosing within the settlement processes becoming a
permanent requirement.
Primary settlement tanks are being operated at lower sludge blanket levels, reducing
consolidation effects with potential to affect sludge plant overall efficiency.
Increased washing frequency of tertiary process plant above manufacturer design specification to
remove any entrained solids from media and limit potential effluent failures. The effects of which
are unknown and this may compromise ammonia compliance in the long-term.
These measures, together with a range of further actions have enabled the site to largely remain
compliant with the consent conditions, with two prospective sample failures, one an ‘Operator Self
Monitoring’ sample and a further UWWTD sample (which passed the UWWTD permit requirements but
failed the requirements driven by the Freshwater Fish Directive). These actions and the increased
underlying risk are unsustainable in the long term and do not enable us to achieve compliance with the
UID Change Protocol C (CP-C) requirements. We intend to continue to undertake these measures at our
cost and risk until the project has been completed.
Since our June submission we have received tenders back from three bidders for the work at Oldham,
which are now in the final stages of review. All tenders indicate that the delivery date that we proposed in
our June submission is achievable, based on a contract award of 15th November 2014. With the
independent views of three suppliers, we are now excepting to realise a delivery date of 31st March
2017. We recognise that this is after the Environment Agency regulatory date however we have
continued to keep the Environment Agency up to date with developments in the scheme at all levels of
the organisation. Halcrow Management Services (HMS) has also acknowledged a high degree of
engagement and level of understanding between us and the Environment Agency, despite the
misalignment of dates in their audit of the project94.
We will continue to work with our preferred bidder, once selected, and the Environment Agency during
the implementation of the project to look for opportunities to safely accelerate the delivery date and
identify actions to mitigate the impact that any spills may have on the receiving water course in the
meantime.
Whilst we acknowledge that at this stage we are unable to achieve full compliance against all permit
conditions by 31st March 2015, we remain focused on minimising the environmental impact through a
range of capital and operational mitigating measures described above. We have demonstrated our
commitment to working with the Environment Agency and will continue to do so through this period to
protect customers and the environment. In order to ensure we can meet the statutory obligations set out
94
3.1 - Halcrow Management Services – Oldham Project Audit May 2014
77
in the FD09 NEP for Freshwater Fish Directive and UID CP-C, we must reduce the impact of spills and
improve the quality of the continuous discharges to the River Irk, from our wastewater treatment works at
Oldham and Royton. In order to ensure the environment is protected, we have followed a robust process
for identifying potential solutions to the issue. We have considered technical feasibility; capital costs;
wholelife costs; the impacts on customers and the environment.
All of this evidence together gives a clear indication that our proposals are the least cost practicable
option and represent the best solution for customers and wider stakeholders. The solution is also
supported by the Environment Agency. The cost exclusion is essential to ensure efficient costs, required
to meet our statutory obligations, are reflected in price limits.
Based on this information we have clearly demonstrated that the cost beneficial test can be considered a
‘pass’.
During AMP5 we have undertaken substantial investigation to identify the best long term solution and
understand the costs associated with the scheme. The scheme has progressed through a series of
internal governance gateways, being challenged at each one. We have already undertaken significant
detailed optioneering as implementation will commence in the last year of AMP5.
In addition we sought independent assurance of the scheme from HMS. They completed a project
specific review of solution selection for this project and this evidence stated that our estimates are robust
and that the most cost beneficial scheme has been selected95.
In line with the methodology set out in “PL14WS003 – Appendix D - PR14 Forecast of Exogenous
Variables” and the data contained within “PL14S003 - Calculating wastewater basic cost thresholds” we
have reviewed unit cost model “S4024 Current population equivalent served by STWs with tightened/
new sanitary parameter consents (000)” to understand what the model output would be in the basic cost
threshold, if the Freshwater Fish Directive driver at Oldham had been incorporated into Ofwat’s unit cost
model. It would have attracted modelled assumed costs of £51.2m for the sanitary determinands
element alone (based on a population equivalent of 153,824). This value compares favourably against
our revised estimate and cost allocation to enhancement expenditure of £39.2m, whilst this is not prima
facie evidence of efficiency, our other market data and assurance does clearly demonstrate upper
quartile efficiency.
We understand that the Ofwat concerns which resulted in the fail of this test centre on the comments
arising from the Halcrow report completed as part of our plan assurance. The feedback indicated that
they felt given the project was nearing implementation the maturity of the costs could have been better.
In addition to these concerns the assurance report provided by Franklin and Andrews on the overall
programme efficiency failed to demonstrate that the costs for this scheme could be considered to be
Upper Quartile.
Procurement of the Most Efficient Solution
All water and wastewater companies are bound by EU Utility Procurement Directives (the Directives)
when purchasing goods, works or services above certain financial thresholds. So as to ensure our
compliance with these Directives we align our processes and procedures to the legislative requirements
and undertake regular audits to drive further efficiency, compliance and innovation.
95
5.11 - Halcrow Management Services – Oldham Project Audit May 2014
78
Oldham & Royton forms part of our investment programme and given its value must be procured in
accordance with the Directives. All projects of this nature involve an individual procurement strategy that
explores all available options and recommendations so as to deliver the most effective and efficient
solution with the lowest sustainable whole life cost to meet the specific project requirements and
business outcomes.
In addition projects of this nature are subject to our “time, cost and quality” assessment criteria which
feeds into our company wide scorecard.
For Oldham & Royton we adopted a design and build approach so as to encourage earlier contractor
involvement in the project and we have chosen the Institute of Chemical Engineers (IChemE) Red Book
form of contract to instruct the works. We have chosen this form as this is regarded (by ourselves and
the wider market) as the most suitable for a large scale, complex engineering project such as this and
we have significant experience of procuring and using this form in other large scale projects with great
success in the past. In addition, use of such a readily recognisable and appropriate form of contract also
encourages and supports cost savings from the tender process and in delivery of contract.
In adopting a design and build approach and utilising the IChemE Red Book for Oldham & Royton we
have also allowed for an equitable allocation of risk between ourselves and the Contractor so as to
balance the requirements of efficiency, value and cost with adequate contractual protections to protect
our investment. Specifically, key areas of risk include:
-
As with all our public procurement processes the process for Oldham & Royton is ensuring an open,
transparent and competitive environment within which to procure a solution. The process began with a
call for competition, issued in September 2013 in the Official Journal of the European Union (OJEU)
(OJEU ref 2013/321623).
A Pre-Qualification Questionnaire (PQQ) was issued to all organisations that expressed an interest in
bidding. The PQQ responses were assessed against published criteria including Health and Safety,
Quality, Environmental, Sustainability, Customer, Capability and Financial Stability. Assessments of
responses were undertaken by our relevant subject matter experts which resulted in 5 bidders being
successful in being invited to tender for the project. This invitation is undertaken via the issuing of an
Invitation to Tender (ITT) document which is issued to all bidders requesting them to submit an offer to
undertake the works required.
The ITT actively sought innovative solutions from bidders including through their approach to the
technical, schedule (programme) and whole life cost elements of the project (see 46 below giving the
current position). In July 2014, 3 bids were submitted (2 bidders declined to submit). Demonstrating the
success of our drive for innovation we have received 3 very different technical solutions from our bidders
each confident that their submitted technical solution will achieve the required outcome.
These submitted bids are now subject to technical and pricing evaluation in accordance with the
published criteria so as to ensure the most economically advantageous tender is successful. To date our
best indications have been submitted to Ofwat together with third party cost verification alongside our
79
own internal estimates. For Oldham & Royton we utilised Aqua Consultants to undertake this verification
of costs and a 13% efficiency differential was identified through this process against our estimate.
We are confident that the procurement process adopted and the contract which will result will
demonstrate significant benefits both in terms of the use of innovative technical solutions and
competitively benchmarked sustainable whole life costs.
Project Opportunity and Innovations Register
The following table details those opportunities for innovation currently offered by the bidders. These are
still to be validated and finalised prior to the award of the contract but do demonstrate further tangible
opportunities for innovation and the associated benefits this can deliver. It is only through our supply
chain process, which has delivered revelation of these cost and risk avoiding innovative interventions,
that we are now able to propose a substantially reduced cost estimate, which we believe represents the
best efficient cost of delivery.
80
Source
Royton WwTW
1
[redacted text,
Description
Impact
2
[redacted text, [redacted text, reason 2]
reason 2]
3
reason 2]
reason 2]
Pipeline
4
[redacted text,
6
reason 2]
7
reason 2]
8
reason 2]
9
reason 2]
10
reason 2]
11
reason 2]
12
reason 2]
13
reason 2]
14
reason 2]
15
reason 2]
reason 2]
Oldham WwTW
5
[redacted text,
reason 2]
Figure 47 - Project opportunity and innovations register for Oldham and Royton
81
Cost Maturity
Since the June submission tender prices have been received back from three bidders. The tenders are
currently in the final stages of review. The tender prices [redacted text, reason 2], although they cannot
be released due to commercial sensitivity restrictions, the project cost (LBE) based on the highest tender
price returned is [redacted text, reason 2], of which [redacted text, reason 2] would be spent in AMP6.
Whilst we are yet to award the contract, we have established our revised cost for this scheme at the
highest price returned from the market, which represents a [redacted text, reason 2] or reduction in
project costs from our June plan. We have then applied a further efficiency of [redacted text, reason 2] to
move these costs significantly beyond upper quartile.
The tender process has also necessitated a review of the proportional allocation of project costs. In
reviewing the two most compliant tenders we note the following high level changes to the design which
impact on cost allocation:
In our June submission we allocated replacement costs of the existing shallow Final Settlement
Tanks (FST) at Oldham WwTW to maintenance because this was considered a direct
replacement of the asset. [redacted text, reason 2]. Having updated the estimate we have
allocated 39% of the cost to maintenance and 61% to Q.
Conversely, in our June submission we allocated costs of new storm tanks at Royton WwTW to
Q, and intended to maintain existing 2000m3 capacity storm tanks. [redacted text, reason 2]. This
has led to a larger maintenance allocation for this cost item of 26.6% maintenance and 73.3% Q.
These changes have resulted in the following adjustments being made to the overall cost and
proportional allocation. The changes are reflected in S3 & S11 which we have resubmitted as part of our
representation.
82
Programme
FY16
FY17
FY18
FY19
FY20
AMP6
Area
Continuous
Discharges –
Water
13.67
9.81
3.90
1.30
28.68
Framework
Post
Efficiency Directive
UIDs - Inland
7.16
5.14
2.04
0.71
15.05
June
WwTWs
28.87
20.72
8.24
2.75
60.57
Maintenance
Total
49.70
35.67
14.18
4.75
104.30
Continuous
Discharges –
Water
11.94
8.57
3.41
1.14
25.06
Framework
Post
Efficiency Directive
UIDs - Inland
6.74
4.84
1.92
0.67
14.17
October
WwTWs
20.96
15.05
5.98
1.99
43.98
Maintenance
Total
39.65
28.46
11.31
3.80
83.21
96
Figure 48 – Project expenditure by sub-programme area, post efficiency adjustments
%
27.5
14.4
58.1
30.1
17.0
52.9
Cost Assurance
In support of our June plan we commissioned Franklin & Andrews to complete a programme level review
of cost efficiency. This report concluded that our pre-efficiency Investment Programme Estimating
System (IPES)97 unit costs were, on average for water and wastewater combined, up to 5% higher than
the industry98, with Wastewater infrastructure IPES costs 9% above industry average and wastewater
non-infrastructure IPES cost 8% above industry average. In response to this a 10% efficiency was
applied to the programme, moving us overall to a position marginally better than the industry average.
Since the completion of this report, we have considered and incorporated two further pieces of evidence
into this cost exclusion 1. We have provided a view of LBE for the project based on the highest capital tender price
returned is [redacted text, reason 2]. Due to commercial sensitivity restrictions we are not
providing any greater level of detail at this stage with regard to the returned tenders. However by
providing a view of the tender costs, sourced from a competitive process, we have clearly
provided an additional level of detail with respect to cost assurance.
2. Aqua Consultants has assured the cost of the scope of the project as it was included in our June
plan. In order to carry out the estimating Aqua utilised three in house systems supplemented by
other cost information as required. All of these systems utilise a bottom up approach and provide
a detailed breakdown of how the costs are built up.
99
Total
United Utilities (£m)
Aqua
(£m)
Variance
114.000
99.031
13%
Figure 49 - Comparison with Aqua Consultants assessment of upper quartile costs
96
Cost Capture - Pre and Post Efficiency.xlsx
Investment Programme Estimating System, which our Parametric estimating system
98
RD-B Appendix B - Franklin & Andrews - Commercial Assurance PR14 Capex Cost Justification, June 2014
99
REP-H Aqua Consultant’s report on WFD, Davyhulme and Oldham/Royton cost assurance
97
83
This review identified that there was a 13% variance in our estimate to costs which would be considered
upper quartile. As we have now received tender costs which are lower than an independent view of
upper quartile and included these in our plan, we are clearly demonstrating that this cost exclusion can
be consider to represent significantly better than upper quartile costs.
Conclusion
Since June we have been presented with new data regarding our planned investment at Oldham and
Royton, which has enabled us to challenge our original assumptions in response to the feedback
received in the Draft Determination.
The Draft Determination made specific comments about; cost maturity, cost assurance and cost
efficiency. The waterfall graph below clearly demonstrates how we have responded to each of those
areas:
demonstrating cost assurance through the use of independent evidence from Aqua Consultants,
providing us with a third party view of upper quartile costs
improving cost maturity through the use of a competitively tendered cost, which puts our costs
significantly better than upper quartile
applying an additional efficiency across our programme and this project specifically
Figure 50 - Summary of Oldham and Royton project adjustments from June to October
This project has moved on considerably since the Draft Determination, with new information becoming
available through our normal planned project life cycle. We have also benefitted from the additional time
afforded to us by the early provision by Ofwat of the outcome from the Deep Dive Assessment, which
has enabled us to complete additional assurance work to better understand and evidence our position,
relative to other companies.
We have clearly demonstrated that the changes we have made, along with the additional evidence now
available, has addressed the concerns raised in the Deep Dive feedback and should result in this test
being considered a ‘pass’ at the Final Determination.
84
The expenditure allocation to a quality driver in AMP6 is proportionate to the level of shortfall associated
with the Oldham wastewater treatment works quality project. The output driven by the quality investment
at Oldham will deliver the Freshwater Fish Directive output which was originally included in AMP5 and
which we have subsequently shortfalled to align with our latest view of the delivery date. The cost
allocation associated with this has been reviewed to ensure that no additional quality investment is being
requested in AMP6 over and above the amount which has been shortfalled to address the original quality
requirement.
In the event of the company failing to deliver this project, customers are protected in four ways:
1. The Environment Agency has powers to prosecute the company under Environmental Permitting
Regulations (EPR) for each of the three outputs – for a company with our turnover, the fine for a
breach could be in excess of £3m
2. The totex menu mechanism would automatically pass c.50% of avoided costs back to customers
3. Our ODI “contribution to rivers improved” would result in a maximum annual penalty of c.£300k
for this project
4. Our ODI “maintaining our WwTWs” would result in a penalty of £9.5m100 per annum if either of
these works were to become a “failing treatment works” as a result of failing to comply with the
new environmental permit conditions.
In addition to these safeguards, the company would suffer the reputational and financial impact of a court
case, as well as the potential for wider regulatory sanctions available to the Environment Agency such as
enforcement notices and undertakings and Ofwat action under sections 18, 19 and 22A of Water
Industry Act 1991 as a result of failure to deliver statutory obligations.
failure of the previous robustness of estimate test.
outcome.
delivered at Wastewater Treatment Works to achieve tightening quality standards, the Environment
Agency would classify any such works as a “failing works” and as such significant penalties may now be
imposed. Recent changes to the sentencing guidelines are likely to result in significantly higher financial
100
85
penalties for us, due to the level of our turnover, for instance where deliberate harm is proven the fine
could be in excess of £3m per failure.
We have clearly demonstrated that we have provided an ODI mechanism which, in addition to the other
financial and regulatory measures available, ensures that customers are protected in the event that we
do not deliver any of the schemes within this cost exclusion; as such we consider that this test would be
considered to have been passed.
86
7
Base totex Summary
In our June Business Plan, we made a claim for a cost exclusion founded on the exceptional
environmental challenge we face in delivering sewerage services to customers, and the impact this has
on our base wastewater wholesale costs. 101 Ofwat contested this in its draft determination, both on the
question of the need for extra costs and the robustness of our cost estimates, so in this submission we
provide more evidence on both of these points. We conclude that an exclusion worth at least £188.0m
over AMP6 is justified.
On the issue of need, Ofwat considered three particular impacts of the wider challenge we face,
concluding that we are not sufficiently unusual in all of these respects to warrant additions to our cost
threshold. But Ofwat’s analysis fails to recognise the general and multifaceted nature of our
environmental challenge, which encompasses:
The physical geography of our region, which creates high levels of surface water run-off and
therefore high flows in our sewerage system, impacting on our network and treatment assets;
The human geography of our region, most notably its urbanisation, which has a compounding
effect;
An extensive combined network that further exacerbates the impact of high surface water run-off;
Volatile and challenging loads from trade customers that affect our treatment assets;
Highly sensitive receiving waters and landbank constraints that intensify this challenge.
In respect of this composite challenge, the North West evidently is exceptional, as Figure 51 below
illustrates.
Figure 51 - A confluence of factors that comprise a unique challenge for United Utilities
The effect of this general environmental challenge is that we need more assets across the entirety of the
wastewater value chain, and these assets need to employ more advanced treatment and disposal
technologies, which have shorter asset lives. This raises our efficient base expenditure in a wide variety
of ways.
In estimating how large this effect was, our earlier submission put a high weight on GMEAV-based
indicators, as we reasoned that these reflected the overarching nature of the challenge we faced. Ofwat,
however, rejected the extensive use of GMEAVs figures, so we have moved to using a larger number of
narrower indicators in this submission. Nonetheless, our general method for valuing cost effects remains
the same, with the cost impact of a divergence between ourselves and the industry average derived
using industry-wide cost data where possible. This is consistent with Ofwat’s approach to base totex
modelling.
101
RD206 Wastewater Wholesale cost exclusions (Test 4.1), part I.
87
Impact
Value
(2012-13
£m)
6.0
7.0
102.6
36.6
IED permits (opex)
7.4
7.3
7.3
47.0
7.6
6.2
Raw total
256.5
Network
Sewage
Treatment
Sludge
Treatment /
Disposal
Opex
CM
Opex
CM
Opex
CM
13.6
36.0
36.6
125.4
14.7
30.1
CM
(22.8)
(22.8)
(22.8)
Minimum total
188.0
13.6
13.2
36.6
102.6
14.7
7.3
Figure 52 - Costs impact estimates suggest an exclusion of £188.0m is very conservative
Notes: Combined network opex calculated as additional costs related to blockages and floods; combined network
capital maintenance calculated as additional costs related to collapses. In raw total, effects of short asset lives
distributed evenly across network, sewage treatment, and sludge treatment / disposal capital maintenance (this has
no impact on minimum totals).
Figure 52 lists the components that make up the total value of this exclusion of £188.0m. Despite the
fact that the list of impacts we evaluate is far from exhaustive, we have calculated the exclusion very
conservatively by assuming the cost effects of the various impacts overlap to a maximum possible
degree. Though the size of this exclusion is somewhat larger than the £145m requested in our last
submission, we are no longer proposing that Ofwat moderates the Upper Quartile adjustment applied in
our Basic Cost Threshold, which was previously worth an additional £200m. In part this because we
have been able to explain robustly more of the difference between the Basic Cost Threshold and our
costs using our revised cost estimation approach.102
The Draft Determination Deep Dive Assessment provided the following feedback on our cost exclusion
we made for the base total expenditure in the June submission;
£0m implicit allowance; Adjustment £0m; Remaining Gap £145.4m
Expressed concern regarding the generic nature of the claim and therefore the implications for
other companies
The distance between ourselves and the other companies did not warrant our claim to be an
outlier
Expressed concerns regarding the use of gross modern equivalent asset value (GMEAV) as a
prime cost driver because of circularity
Failed to demonstrate that the opex cost of tertiary treatment are higher than secondary
treatment
A summary of the feedback is given in Figure 53 below.
102
We maintain that, given the weak predictive power of its wastewater botex models, the UQ adjustment applied
by Ofwat is unsuitable.
88
Need
CBA
Costs
Customer
Partial Pass
n/a
Fail
n/a
We remain confident that the propositions presented in our June Business Plan were robust, wellevidenced and consistent with the governing duties in the Water Industry Act. They were also fully
assessed and approved by the Customer Challenge Group. We recognise, however, that the
background to the issues dealt with in this exclusion document is changing materially and regularly. With
these changes in circumstance in mind and also with a view to achieving an appropriate regulatory
solution that is in the interests of customers, we have taken a careful look at the relevant parts of our
June Business Plan and given the Ofwat feedback in the Draft Determination proper consideration.
7.1 Need
This section demonstrates that we face an exceptional environmental challenge arising from a range of
factors; that this challenge has implications for efficiently incurred base costs across the whole of our
value chain; and that these implications are not accounted for in the Ofwat/CEPA botex models.
This section begins by explaining how we have addressed the Ofwat Draft Determination feedback. It
then goes on to outline the multiplicity of factors that constitute a unique environmental challenge to the
North West, before highlighting various ways in which this impacts upon our efficient base costs. Finally
we confirm that these factors are not adequately accounted for in the Ofwat/CEPA models.
We interpret that the reason for the partial pass achieved for this test can be summarised as follows;
Provision of insufficient evidence demonstrating that we are an outlier when compared to the majority
of companies
The disproportionate use of GMEAV as a primary basis for the exclusion
The Draft Determination feedback covers a number of areas of the claim, to which we respond below.
The “generic” nature of the claim
The feedback states that “given the generic nature of the factors that United Utilities cites, this claim
potentially has implications for companies other than United Utilities”.
Response: We accept that, as with most cost exclusions, the factors cited in the claim could potentially
affect other companies. However, as we demonstrate in below (in section headed “Why we are
different”), no company faces the same combination of environmental challenges as ourselves. This
means that the corresponding impact on the efficient costs of our base operations and capital
maintenance is unique. Therefore a cost exclusion can be granted without introducing a need to make a
parallel adjustment to any other company’s allowed costs.
The “three elements” of the claim
The Draft Determination feedback identified three elements of the claim: combined sewers, tertiary
treatment, and comparative GMEAVs.
Response: Though these were the three variables used directly in the calculation of the exclusion, we
emphasise that we expressly did not limit the exclusion to these factors. The original exclusion
highlighted a general environmental challenge that we face that had ramifications for our base costs
across the whole wastewater value chain. In order to quantify this effect conservatively – an approach
89
supported by Halcrow’s assessment of the exclusion103 – we restricted our analysis to the three
indicators Ofwat then examined in the deep dive.
In this revised case, we provide further evidence that our claim was modestly valued by considering a
wider range of variables that are driven by the same challenge and quantifying their impact on efficient
costs (see sections below headed “Why we are different” and “Impact on our efficient costs”).
Combined sewers
The Draft Determination feedback states that the source of our data on combined sewers is unclear and
shows that, using age as a proxy for combined networks, we would not appear to be unusual in this
respect.
Response: We recognise the difficulty with the incomplete data on combined sewers used for the last
version of this claim, and have replaced this with the most recent industry-wide information available on
combined sewers from the 2005 June Returns. These provide a reasonably accurate indication of
current network compositions, and show that the proportion of our network comprising combined sewers
is significantly greater than the industry average.
Tertiary treatment
The Draft Determination feedback does not regard us to be an “outlier” in terms of tertiary treatment,
noting that the proportion of our load receiving tertiary treatment is third in the most recent available
industry-wide data.
Response: We accept the feedback, and indeed have never argued otherwise. However, we reiterate
that the substance of this exclusion is that, due to a range of factors, we face an exceptional
environmental challenge that has a bearing on all our activities, one effect of which is that the amount of
tertiary treatment we undertake is significantly greater than average. It is in respect of this general
challenge rather than tertiary treatment that we are an outlier.
The use of GMEAVs
The Draft Determination feedback expresses two reservations over the use of GMEAVs in assessing
cost exclusions: their subjectivity and the potential for introducing “circularity”, whereby high past costs
reflected in high current GMEAVs could be used to justify high future costs.
Response: We consider GMEAV to be a useful indicator of the effect of an overarching challenge such
as that we are facing on our asset base, and observe that any problem of circularity can be mitigated by
the Ofwat regulatory oversight of enhancement spending. Nonetheless, in response to the feedback, we
have significantly reduced our reliance on GMEAVs in estimating costs – and now use it as a basis only
for the effect of the environmental challenge on network storage costs (an area where Ofwat accepts we
have “a far higher GMEAV and many more assets than other companies”). For other areas we use a
larger number of narrower indicators, which collectively justify our initial valuation of the exclusion.
Why we are different
A unique combination of factors that are both beyond our control and not fully accounted for in the Ofwat
/ CEPA botex models make wastewater service provision in the North West uniquely challenging. A
summary of these factors is given in the section immediately below with further details on each factor
provided in later sections.
We face a combination of unusual environmental challenges in delivering our wastewater service,
including:
103
RD-K Appendix K Halcrow assurance report.
90
Physical Geography - High and variable flows stemming from the physical geography of the
North West– heavy rainfall, steep gradients, and impermeable soil types – lead to high levels of
surface water run-off making our sewerage network more liable to surcharge resulting in sewer
flooding and pollution from combined sewer overflows;
Urbanisation - High and variable surface water flows resulting from the human geography of the
North West – most notably its urbanisation, and the bulk transfer of water from the Lake District
and Wales to the urban conurbations – have a compounding effect;
Combined Network - An extensive combined network further exacerbates the impact of flows
originating from these run-offs, and also poses its own operating difficulties, particularly with
respect to sewer flooding and pollution from overflows;
Trade Effluent - Volatile and challenging loads from trade customers affect our need for
treatment capacity and technologies in order to meet stringent environmental standards;
Environmental Constraints - Challenging environmental and landbank constraints, particularly
tight permit requirements at wastewater treatment works and lack of arable land, affect our need
for capacity in storage, sewage treatment, sludge treatment, and sludge disposal.
As Figure 54 below illustrates, whilst many companies face individual challenges, we are the only
company affected by all of these factors, resulting in the North West facing a unique set of
environmental, geographic and asset related challenges.
Furthermore, as we explain in below (in section headed “Impact on our efficient costs”), these factors
collectively affect our operation in all segments of its wastewater value chain. They can therefore be
treated as a single composite environmental challenge that raises our efficient base costs in an
exceptional manner, and thereby form the basis of a legitimate cost exclusion.
Environmental
Constraints
UU, SRN, SWT, TMS
Physical geography
UU, SWT, WSH
Urbanisation
TMS, SRN, UU, SVT
Combined network
UU
SWT, YKY, NWL, UU,
WSH, WSX
Trade Volumes
UU, YKY, NWL, AWS,
SVT, WSH
Figure 54 - A confluence of factors that comprise a unique challenge for us
Physical geography
Features of the North West’s physical geography, including high rainfall, steep gradients, and
impermeable soils, increase surface water run-off into drainage systems. These factors result in our
sewerage network experiencing increased surcharge resulting in increased sewer flooding (see
document REP06), discharge from combined sewer overflows and the requirement for increased
pumping.
There is a clear divide between the north-west and south-east of the UK. The prevailing warm moist
westerly winds mean that the west of the UK is more likely to receive rainfall from Atlantic weather
systems - in the form of frontal rainfall. These weather systems usually move from west to east across
91
the UK and as they do so the amount of rainfall they deposit reduces. This is because of the orographic
effects of the mountains in the north and west of the UK which causes increased rainfall in these areas.
This is clearly demonstrated by Figure 55 which shows that average annual rainfall in our region is 30%
higher than the company-level average, while Met Office data shows that the North West region has the
second-highest level of peak intensity rainfall, 19% more than the England & Wales average.104 The
surface water run-off created by this rainfall is increased by the hilly terrain in the North West, which is
comparable only to that of Welsh and South West Water’s regions, and by the relatively impermeable
soil types found in the North West105.
The North West is predominantly soil class 4106 which is poorly draining, leading to little percolation of
water through the soil and the potential for surface run-off and ponding. The rest of the regions in the UK
are generally more variable and are predominantly more freely draining soils.
Average Annual Rainfall, 19712000 (mm)
1,400
1,200
1,000
800
600
400
200
0
Figure 55 - Rainfall in our region is 30% above the England and Wales average
Black dotted line denotes England and Wales company average. Source: Hydrological Summary for the UK (April
2014).
Urbanisation (Human Geography)
High levels of surface water run-off is exacerbated by the human geography of the North West, which is
highly urbanised with large impermeable areas. Figure 56 reflects urbanisation in our region, showing
that the North West has a population density greater than any other English or Welsh region except
London and the South East, and significantly higher than that of England & Wales as a whole.
The figure understates the localised effects of density in the North West, as most of the region’s
population is concentrated in the south around Greater Manchester and Merseyside, with sparsely
populated Cumbria in the north accounting for 48% of the region’s landmass but only 7% of its
population.
104
Based on analysis of daily precipitation data from Met Office, April 2004-March 2014. “Peak intensity rainfall” is
th
defined as the level of rainfall experienced at the 90 percentile of days ranked in order of precipitation.
105
Wallingford Procedure for design and analysis of urban storm drainage, HR Wallingford, 1981
106
Wallingford Procedure for design and analysis of urban storm drainage, HR Wallingford, 1981
92
Population density, persons
per hectare (2011)
9
8
7
6
5
4
3
2
1
0
Ldn & SE
NW
W Mids Yorks &
H
East
NE
E Mids
SW
Wales
Figure 56 - The population density of the North West is 34% higher than that of England & Wales
Black dotted line gives population density of the whole of England & Wales. Source: ONS, 2011 census data.
Combined Network
The effect of geography on our region is compounded by the fact that surface water and foul flows are
received by an unusually highly combined network, where sewer blockages, sewer flooding and pollution
from combined sewer overflows are more likely to occur (see section below titled “Impact on our efficient
costs” for evidence on failure rates). Figure 57 below, based on the most recent available cross-industry
data from the 2005 June Return, shows that combined sewers in our region, at 43% of the overall
network length, make up a significantly greater proportion of our network than the industry average.
Given the long asset lives of sewers and the high costs of separating combined networks, we would not
expect these figures to have changed substantially since 2005.
The impact of higher run-off in the North West is exacerbated by the relatively high proportion of our
sewerage system that is combined. As combined sewers take both foul and surface water (rain) they
therefore experience large fluctuations in flow which can require additional pumping and treatment. The
variable flows in combined sewers also result in both sewer blockages (resulting from low flows in large
diameter sewers), and flooding due to hydraulic overload resulting from periods of heavy rain. Higher
run-off volumes in separate systems are unlikely to have a similar impact. Separate systems typically
discharge directly to a watercourse and so there are no treatment costs, in addition there is limited
pumping and the pipes are sized on the basis of peak flow rates, not volumes of flow limiting surcharge
and sewer flooding.
% network length comprising
combined sewers
70%
60%
50%
40%
30%
20%
10%
0%
SWT
YKY
NWL
UUW
WSH
WSX
SVT
SRN
TMS
AWS
Figure 57 - The proportion of our network made up of combined sewers is 26% more than the industry
average
Black dotted line denotes England & Wales company average. Source: June Returns 2005, Table 17a.
93
Percentage total volume received
from trade
Trade Effluent
A further challenge in the North West results from high trade volume and load. Not only do we take more
trade flow and load when compared to other companies (see Figure 58), the trade effluent from the
North West is highly varied and still reasonably industrial. Analysis of the nature of trade effluent in the
North West shows that 39% of the trade load received is more recalcitrant (difficult to treat) than
domestic waste. This means that our treatment works have to work harder to treat this waste as well as
treating the more benign waste, to ensure we meet the end of pipe standards, which are also typically
tighter than for other companies (see below).
12%
10%
8%
6%
4%
2%
0%
Figure 58 – We have much the highest proportion of volume received from trade
Black dotted line denotes England and Wales company average. Source: June Returns 2011, Table 14.
Environmental Constraints
The difficulty of receiving and treating these high and volatile flows and loads is compounded by the
unusually sensitive environment in the North West in which we operate. This results in the requirement
for more advanced wastewater treatment and sludge treatment assets, and larger storage volumes at
overflows. There are a number of aspects of this environmental sensitivity, including:
Low dilution of discharges into the Mersey and Irwell catchments in the south of our region107.
This is due to water being imported from the Lake District and North Wales to serve Greater
Manchester and Merseyside, which is subsequently released into small local rivers. Where loads
receive less natural dilution in watercourses, effluents from wastewater treatment works and
combined sewer overflows must be treated more intensively before discharge to ensure the
receiving waters comply with any given environmental standards.
Poor marine dispersal, low levels of sunlight and high turbidity around the Fylde peninsular (and
other coastal areas of the North West), which hosts a number of designated bathing and shellfish
waters subject to environmental protection under the Water Framework Directive108. Again this
results in the requirement for wastewater treatment works and combined sewer overflows to meet
tighter standards.
Stringent levels of environmental protection in the north of our region. This is reflected in the
preponderance of SSSIs in the region, which cover 18% of the North West compared to only 8%
of England109. The North West is also home to 52 Special Protection Areas and Special Areas of
Conservation, which are subject to special protection under the EU Birds Directive and EU
Habitats Directive.
The importance of the environment to the local economy, including bathing waters at Blackpool
and the ecology of the Lake District. This means that the economic consequences of
environmental failures can be more adverse to customers.
107
RD206b – The Water Environment in the North West: Challenges for United Utilities
109
See http://www.naturalengland.org.uk/ourwork/conservation/designations/sssi/default.aspx.
108
94
The report by Cascade Environmental Consultants110 sets out in detail these environmental constraints
under which we operate, and how the situation in the North West compares to other regions.
One indicator of the strict constraints within which we operate is the proportion of our large (size band 6)
works that are subject to tight consents. As Figure 59 shows, the proportion of our loads subject to tight
ammonia consents is more than twice the industry average.
% loads at Band 6 works
subject to NH3 consents of
3mg/l or less
60.0%
50.0%
40.0%
30.0%
20.0%
10.0%
0.0%
SVT UUW TMS
YKY
SRN
ANH
NES
SWT WSH WSX
Figure 59 - More of our treated loads are subject to tight ammonia permits than average
Black dotted line denotes industry average. Source: 2013 Large Works datashare
Finally, as a separate result of many of these environmental factors, plus the low area of suitable
farmland in the North West, we have a significantly smaller landbank available for the disposal of
conventionally treated sludge than other companies. This reduces our ability to rely on conventional
sludge treatment, compared to other companies – a fact acknowledged by Ofwat in accepting a cost
exclusion on this point in PR09111. Figure 60 shows that we have by far the smallest area of landbank
per unit of sludge produced in the industry and clearly demonstrates the constraints imposed by our
landbank compared to the other companies.
Figure 60 – We need to dispose of much more sludge per hectare of available land than any other company
Note: Black dotted line denotes England and Wales company average: Source: 2013 company submissions
to EA on sludge disposal, June Returns 2011, Table 17. Available landbank taken from ADAS, “Biosolids
recycling to agriculture: The impact of exclusion clauses and other restrictions on the agricultural landbank”,
April 2008.
110
United Utilities Water, “Special Factor Submission: Land Bank Restrictions Leading to Significant Additional
Costs for Treatment and Recycling of Sludge”, 7 August 2009.
111
95
Impact on our efficient costs
The various factors outlined in the previous section (“Why we are different”) above interact to affect our
efficient costs in a multiplicity of ways. In this section, we present a non-exhaustive selection of ways in
which our assets or operations have been affected by the environmental challenge we face – all of which
may be expected to raise our efficient costs. We group these effects together under three headings:
The requirement to install more assets
The requirement to use more advanced treatment and disposal technologies
The increased number of service failures resulting from our combined network.
We quantify the financial impact of some of the effects in Section 7.3.2 below.
The requirement to install more assets
We need to install more asset capacity per unit of load received across the whole wastewater value
chain. This allows us to accommodate high surface water flows in our network and challenging, variable
loads at our wastewater treatment works, while meeting demanding environmental standards. Since
these extra assets are costly to maintain and operate, the effect of this is to increase our efficient costs.
In our network, high surface water flows mean we need larger sewers and more storage capacity to
accommodate flows and prevent discharges into sensitive waters. Figure 61 below shows that, as a
result of this, we have the largest network storage capacity installed per kilometre of network length in
the industry, more than double the industry average.
Storage volume (m3) per
network km
16
14
12
10
8
6
4
2
0
NWT TMS
SWT
YKY
WSX
SVT
ANH
SRN
WSH
NES
Figure 61 - We need the most network storage per km network length in the industry
Black dotted line denotes industry average. Source: 2012-13 network length from Jacobs forecast; 2015 storage
capacity estimated by summing AMP5 capacity additions and estimated 2010 storage capacity. 2010 capacity
estimated from PR09 asset inventory data on “Other Sewer Structures” and Ofwat guidance on banding criteria –
3
3
Band 1 structures assumed to have capacity of 25m , Band 2 structures assumed to be 525m , Band 3 assumed to
3
be 1,000m .
Similarly, at our wastewater treatment works, we need more capacity headroom than other companies in
order to accommodate peaks in flow to full treatment and to allow for trade load volatility over time.
Figure 62 below shows that, as with network storage, the general environmental challenge facing the
North West makes us an industry outlier in terms of treatment capacity per load received. The effect of
this on efficient maintenance costs is reflected by the strong positive relationship between treatment
capacity / load and capital maintenance spend / load across the industry, with a high correlation
coefficient (r = 0.59).
96
Treatment Capacity /
Load
1.5
1.4
1.3
1.2
1.1
1
0.9
UUW
NWL
WSH
AWS
SWT
SRN
YKY
SVT
TMS
WSX
Figure 62 - We need the highest sewage treatment capacity / load received ratio in the industry
Black dotted line denotes industry average. Source: June Returns 2011, Table 15.
As with our network and sewage treatment assets, the strict environmental constraints and landbank
restrictions we face in treating and disposing of sludge require us to install 70% more enhanced
digestion and incineration capacity per load received than the industry average (see Figure 63 below).
Again, this would be expected to raise our efficient operational and capital maintenance costs.
Capacity enhanced digestion plus
incineration (tds) per load (PE)
30.0
25.0
20.0
15.0
10.0
5.0
0.0
TMS
UUW
NES
YKY
ANH
WSH
WSX
SVT
SWT
SRN
Figure 63 - We need 70% more enhanced digestion and sludge incineration capacity per load than the
industry average
Black dotted line denotes industry average. Source: capacity data calculated as described in Appendix G; sludge
loads from June Returns 2008.
The requirement to use more advanced treatment and disposal technologies
We need to carry out more advanced sewage and sludge treatment and disposal than other companies.
As the advanced technologies involved tend to have a higher unit cost to operate and shorter asset lives,
this serves to further increase our efficient base costs.
As noted in the case for this exclusion submitted with our June business plan, we must conduct more
tertiary sewage treatment than the industry average in order to meet our environmental commitments,
resulting in higher operating costs. Figure 64 shows that the proportion of our load receiving tertiary
treatment is 16% greater than the industry average.
97
Figure 64 - More of our sewage load receives tertiary treatment than the industry average
Source: June Returns 2011, Table 17D.
% sludge not disposed in
agriculture
Likewise, given our limited landbank and the sensitive environment in which we operate, we are unable
to dispose of as much of our sludge to agriculture as other companies, as highlighted by Figure 65
below. The alternative disposal routes that we must use, including incineration, incur higher operating
costs and involve more assets. Our extensive use of incineration also means that, unlike most other
companies, many of our sludge treatment facilities have been made subject to the Industrial Emissions
Directive (see Appendix E for more details). This imposes further additional compliance, maintenance,
and testing costs.
60%
50%
40%
30%
20%
10%
0%
YKY
TMS
UU
SWT
ANH WSH
SRN
SVT
NWL WSX
Figure 65 - We cannot dispose of as much sludge to agriculture as the industry average
Black dotted line denotes industry average. Source: 2013 annual return to the Environment Agency.
A further feature of advanced treatment and disposal, widely recognised in this industry112, is that the
assets involved tend to be shorter lived – implying that, all else being equal, the capital maintenance
costs associated with them will be higher. Unsurprisingly given the above, we have almost twice as
many short-lived assets that will need to be replaced during AMP6 as the industry average, expressed
as a proportion of its total asset base. Figure 66 below illustrates this.
112
Advanced treatment assets tend to include electrical equipment and computer technology that make them
shorter lived than assets such as pipes and storage facilities used elsewhere in the sewerage value chain. This
has been remarked upon by other companies in previous price reviews (e.g. Anglian Water, PR09 Final Business
Plan, Part B, “Key Components”, p182).
98
Short-Life Assets to Total
ASsets
10%
8%
6%
4%
2%
0%
YKY UUW WSH SVT WSX ANH TMS NES SWT SRN
Figure 66 – We have more short-life assets than industry average
Note: We construct an asset registry for each company based on data in Table 34 of June Returns from 1998 –
2010. Table 34 provides the analysis of expenditure on non-infrastructure fixed assets additions to base service
and enhancement by asset life, and the average life of the non-infrastructure fixed assets additions by asset life in
the year. We assume that all assets become operational the year after the expenditure is reported, and so an asset
that is acquired in 2010 with a 5-year asset life would cease to be useful in 2016 and so the asset registry in year
2016 would not include the 2010 asset.
Source: Analysis of Table 34 of June Returns. Asset values measured in real gross acquisition cost, and reported
“short-life assets to total assets” is average proportion of short-lived assets across AMP6.
The increased number of service failures resulting from our combined network
Our large combined network means we are more vulnerable to network failures than other companies.
This is a consequence of the mixed loads and highly variable flows in the North West, resulting in
increased probability of sewer blockages and collapses and more sewer flooding, as highlighted in
Figure 67 below. Though the table reports failure rates for our network only, the exogenous nature of
the causes of these incidents means the failure rate pattern is likely to be replicated across the industry.
Sewer Type
Blockages
per km
Collapses
per km
Flooding incidents
per km
Combined
1.22
0.05
1.28
Foul only
0.56
0.02
0.68
Surface water
0.35
0.01
0.41
Figure 67 - Combined sewers are more vulnerable to all kinds of failure
Source: Our network data, February 2011-March 2014.
The effect on our costs of the increased rates of failures in our combined network is in addition to the
contribution combined sewers make to the general environmental challenge faced by the North West
through increased surface water flows into combined networks and on to wastewater treatment works.
The greater costs associated with combined network failures should therefore be considered as a part of
the wider exclusion.
Summary of the impact on our efficient costs
In summary, the environmental challenge we face means we need more assets across the entirety of the
wastewater value chain, and these assets need to employ more advanced treatment and disposal
technologies, which have shorter asset lives. Furthermore, the configuration of our network leaves it
more prone to all types of failure, so requiring higher proactive and reactive operating and maintenance
costs. All of these features of our wholesale wastewater business tend to raise our efficient base costs.
99
To provide an overarching view of the relative quantity and sophistication of the assets required by our
wastewater service relative to its scale, Figure 68 shows the sewerage GMEAV per load of companies in
the industry. Consistent with the evidence on our asset configurations given above, we are ranked
second in the industry, with 20% more assets per load than the industry average.
Our asset stock remains significantly above average when assets are disaggregated into value chain
elements, with our network GMEAV per load 22% greater than average, our sewage treatment GMEAV
per load being 4% above average, and our sludge treatment and disposal GMEAV 49.2% above
average.113
GMEAV / load received (£m / kg
BOD5/day)
0.13
0.12
0.11
0.1
0.09
0.08
0.07
WSH
UUW
SRN
WSX
TMS
SVT
AWS
YKY
NWL
SWT
Figure 68 - Our sewerage assets need to be 20% larger per load received than the industry average
Source: 2014 company regulatory accounts (GMEAVs) and Ofwat modelled AMP6 loads.
The Ofwat/CEPA models: The need for a cost exclusion
None of the component factors that make up the environmental challenge we face are included as
explanatory variables in the Ofwat / CEPA botex models. As such, these factors are only accounted for
in our Draft Determination botex allowance to the extent that they:
1. Also affected an average company in the industry in the AMP4-5 data used in estimation, and
2. Are correlated with other scale variables that are included in the models.114
However, in the above sections (“Why we are different” and “Impact on our efficient costs”), we have
shown that these factors affect the North West significantly more than the industry average, after
normalising for Ofwat’s primary scale variable of load. This means that neither the extent to which they
affect an average company nor the correlation with other scale variables will (coincidentally) compensate
us in full for the costs we must incur in meeting the environmental challenge we face in AMP6.
We therefore conclude that there is a need for a cost exclusion to arrive at a correct
determination for our AMP6 wastewater botex costs.
113
Value-chain GMEAVS taken from 2014 regulatory accounts; load denominators are Ofwat’s modelled AMP6
loads.
114
For (1), the factors’ average effects on costs would then be picked up in the botex models’ constants or
intercepts, while for (2) the coefficient on a scale variable can pick up the impact of an omitted variable if it is
correlated with the scale variable.
100
We consider that in providing significantly more information on the physical geography, human
geography and legacy assets in our region that we have conclusively demonstrated the considerable
differences between the North West and other areas of England and Wales
Furthermore we consider that we have provided sufficient information to link the factors identified above
with the impact on our efficient costs
We would therefore expect that the ‘Need’ be considered a full ‘pass’.
We have not undertaken a cost benefit analysis on the costs in this exclusion document as these are not
a direct estimate of our efficient costs (unlike, for example, the totex costs in our business plan), but are
rather a test of the cost impact of the combination of factors described in section 7.1.2 on the water
industry.
We also note the feedback in the Draft Determination deep dive (DD13) which states that this test is “Not
relevant for a base totex claim”.
In this section, we quantify the efficient costs arising from the environmental challenge inherent in
operating in the North West, and provide evidence that our base costs are efficiently incurred.
In the botex exclusion submitted with the June business plan, we valued the cost exclusion using a
limited number of indicators. Reasoning that this small selection of indicators only partially reflected the
costs arising from the effects on our operation described earlier in section 7.1.2 (see “Impact on our
efficient costs”) and that the estimate was therefore a likely understatement (an assessment
independently confirmed by Halcrow115). However, in response to feedback in the Draft Determination
on the indicators used, we have changed our valuation method to cover a larger group of variables, with
much less reliance placed on GMEAVs. Our analysis shows convincingly that an exclusion of £188.0m is
warranted.
The remainder of this section provides a brief summary of our understanding of the Draft Determination
feedback; we then respond to this feedback; provide assurance on the efficiency of the choices of assets
and technologies employed by ourselves to meet the environmental challenge we face in the North
West. The section also includes our quantitative analysis, concluding that an exclusion of £188m can be
robustly justified.
We understand that the Ofwat concerns which resulted in the fail of this test centre on the fact that both
Northumbrian Water and South West Water, both companies with a higher proportion of tertiary
treatment, have submitted plans with efficient costs. Also that our June Return cost data does not appear
to show that tertiary treatment is more expensive that secondary treatment.
In addition, not-withstanding the concerns raised regarding the use of GMEAV as a cost driver, the
additional costs resulting from high numbers of assets did not, in any case, appear to material.
115
RD-K Appendix K – Halcrow Assurance Report.
101
However, it was recognised that, in relation to non-sewer infrastructure, that we appear to have many
more assets than other companies, and that the impact of this on costs appeared to warrant further
investigation.
Other companies with a high proportion of tertiary treatment
As we discussed in section 7.1.2 (see “Impact on our efficient costs”), tertiary treatment is only one of
very many ways in which the environmental challenge we face affect our assets and thus our efficient
wastewater base costs. The fact that there are two other companies that do more than ourselves in this
one respect but have overall botex lower than the Ofwat modelled cost does not undermine our claim
that tertiary treatment costs are a legitimate component of the wider cost exclusion. This is especially so
since neither Northumbrian Water nor South West Water face the general environmental challenge that
underpins this exclusion.
Furthermore, both of the companies that carry out more tertiary treatment than ourselves also do more of
their treatment in small works than we do (South West Water being an outlier with nearly 10% of its
loads treated in Band 1-3 works). The proportion of loads treated in small works is included in the Ofwat
treatment botex models, with a positive coefficient indicating costs increasing for companies with smaller
works. However, as Figure 69 below shows, there is a positive correlation between tertiary treatment
and treatment conducted in small works across the industry. This means that, due to a misidentification
in the Ofwat / CEPA models, firms are partly compensated for the costs associated with higher tertiary
treatment via the correlation with the amount of treatment they do at small works. Because they do more
treatment at small works, both Northumbrian and South West Water will benefit from this more than
ourselves.
% load receiving tertiary
treatment
80%
70%
60%
50%
40%
30%
20%
10%
0%
0%
2%
4%
6%
8%
10%
12%
% load received in band 1-3 STWs
Figure 69 - Across the industry, companies with smaller works carry out more tertiary treatment
Black dotted line denotes best fit line from linear regression. Source: June Returns 2011.
Our tertiary treatment costs
In addition to the above, the Draft Determination feedback considers that we do not in fact have higher
operating costs resulting from tertiary treatment, even if the size of its works are taken into account. The
feedback presents an analysis of direct and functional costs at works that shows we have lower overall
unit costs for tertiary treatment than other forms of treatment, including at works in size bands 5 and 6.
102
It is illogical116 for the addition of tertiary treatment processes to reduce efficient unit operating costs
compared to secondary treatment, since tertiary treatment entails the operation of more assets than
secondary treatment alone. The fact that we conduct more tertiary treatment than the industry average
must therefore increase our costs, regardless of whether any other features of our works mean we have
lower unit costs at our tertiary works than our secondary works.
A major reason why our unit costs appear lower for tertiary treatment works is the pattern of Combined
Heat and Power (CHP) plant installation at our works, which can reduce energy costs through onsite
generation and renewable income. Although CHP is economical at large works, regardless of whether
they use secondary or tertiary processes, it happens that we undertake CHP generation
disproportionately at our tertiary wastewater treatment works. In the period covered by the June Returns
data analysed by Ofwat, 80% of our CHP generation took place at tertiary works in Band 6 and 20% at
secondary works in Band 6, while only 70% of loads at Band 6 works received tertiary treatment and the
remaining 30% received secondary treatment.
A further quirk of our treatment service is that, in order to meet environmental standards efficiently, a
number of its larger secondary works have been installed with more advanced processes such as
biological contactors, deep shafts, secondary BAFFs, and Sequence Batch Reactors.117 These
processes cost more to operate than standard activated sludge plants and tend to raise average
operating costs, this makes make our secondary treatment seem as expensive as activated sludge
plants with tertiary treatment.
Since idiosyncrasies such as this will tend to cancel out across the industry, our use of industry-wide unit
costs is, we believe, a reasonable way of estimating the incremental operating costs associated with our
above-average levels of tertiary treatment.
The effect of non-sewer infrastructure assets on our costs
The Draft Determination feedback acknowledges that, in the category of non-sewer infrastructure, our
GMEAV per population served is significantly higher than the industry average and that there does
appear to be an association between this variable and costs across the industry. However, Ofwat
estimates this cost impact to be £13m, which falls below our materiality threshold.
We concur with the general contention in the Draft Determination feedback that we have more network
storage infrastructure given our size (as was shown in Figure 61), and that this might be expected to
raise our capital maintenance and operating costs. Though we are unable to reproduce the Ofwat cost
analysis due to a lack of data, we are prepared to accept it given our view that GMEAV-based indicators
can be informative of the effects of multi-faceted challenges on company asset configurations.
However, the fact that the total value of this cost effect alone falls below the materiality threshold does
not mean it can be disregarded from this claim. As demonstrated in Section 7.1.2 (see “Impact on our
efficient costs”), our need for more non-sewer infrastructure is just one effect of a multi-dimentional
environmental challenge that bears on our assets and operations in all parts of the value chain. This
claim relates to the combined effects of this challenge, which, taken together, comfortably meet the
Ofwat materiality condition.
Efficiency of costs
This section shows that the differences between ourselves and the rest of the industry as set out in
Section 7.1.2 (see “Why we are different” and “Impact on our efficient costs”), have emerged in the
context of efficient investment and asset planning over recent AMPs, and that the continuing costs
associated with these unusual features are efficient.
116
Merrett (1997). Introduction to the Economics of Water Resources. London
This includes the following sites: Whitehaven, Fleetwood, Birkenhead, Bromborough, Kendal, Southport, and
Sandon.
117
103
The chief source of evidence for this is materials from previous price reviews. At all price reviews, we
has been obliged to demonstrate that our enhancement and maintenance programmes – including the
associated costs – are efficient, and in all cases Ofwat has agreed a plan that, in its judgement, has
satisfied this requirement. For example, in PR09, we provided detailed assurance that our Integrated
Catchment Planning Framework, which was used to shape our asset planning, complied with industrywide best practice as enshrined in the UKWIR Common Framework118. This was confirmed by AMPAP
testing and an independent report by Halcrow, which found our PIONEER capital maintenance planning
tool to be “powerful”, especially in assessing the links between asset serviceability and costs119.
Similarly, in PR04, our plan was also consistent with the Common Framework, and was informed by a
bespoke River Impact Optimisation Tool that helped to ensure our strategy towards UIDs was efficient120.
The fact that Ofwat agreed to these programmes shows that, given customer priorities and what was
known about future environmental regulations at the time, our enhancement and maintenance
programmes were broadly optimal.
Other indicators show that our assets are not “gold-plated” in the sense of not being oriented to providing
outcomes that customers value or giving levels of service that needlessly surpass statutory requirements
or customer expectations. For example, though we have the second highest sewage treatment asset
GMEAV per load received in the industry, the high replacement costs of these assets are justified by the
fact that they deliver a large treatment capacity, provide a high quality of treatment and accommodate
variable trade loads. This is illustrated in Figure 70 below, which shows that our sewage treatment asset
GMEAV per treatment capacity installed is significantly below the industry average.
Figure 70 - Our sewage treatment GMEAV per treatment capacity is 18% less than industry average
Source: GMEAV data from 2014 company regulatory accounts; Capacity data from 2011 June Return Table 15.
The fact that we have not inefficiently over-delivered on our environmental obligations is reflected in the
continuing environmental challenges we face, as summarised in a separate report by Cascade
Environmental Consulting121. The report highlights that despite substantial investment in previous AMPs,
the North West continues to have the highest number of UIDs in the industry and the greatest
compliance challenge for bathing water standards.
118
United Utilities Water Business Plan 2010-15, “Chapter B3 – Maintaining Service and Serviceability to
Customers”, Section 6.
119
Halcrow Management Services Ltd, “B3_Maintaining Serviceability.PR09”, p131.
120
United Utilities Water PLC PR04 Business Plan, Part B Chapter B4, “Quality Enhancements”.
121
“The Water Challenges in the North West”, Cascade Consulting, 2014.
104
Finally, as explained in the “Implicit Allowances” section below, the efficiency of the costs sought in this
exclusion is ensured by basing the claim, wherever possible, on industry-wide cost relationships and the
Ofwat modelled allowances rather than our costs.
Quantifying Cost Impacts
In this section, we quantify the impact of the factors described in Section 7.1.2 on our efficient costs.
Consistent with Ofwat’s approach in estimating costs, we do this on the basis of historical observations
on the industry-wide wide relationships between the factors and spending wherever this is possible (in
almost all cases). Our analysis shows that all of the factors have appreciable impacts on our efficient
costs, and that – taken together – their impact will substantially exceed the £188m value of this
exclusion.
Implicit Allowances
All of the estimated cost impacts we present below are net of any implicit allowance from Ofwat’s
models. This is because, in calculating the cost impacts, we:
Base the cost impact on a metric that is normalised for scale variables already included in
Ofwat’s models (loads for treatment, length for network); and
Use the distance between ourselves and the industry average according to the chosen metric to
estimate the effect on our efficient costs.
The section headed “The Ofwat/CEPA models: The need for a cost exclusion” at the end of Section
7.1.2 explains that Ofwat’s models only include the effect of omitted variables on company costs to the
extent that they affect average costs across the industry or are correlated with scale variables used in
the models. Therefore these two features of our methodology will strip out implicit allowances in full.
Cost Estimates
We consider a selection of the impacts on our costs highlighted in Section 7.1.2 (sub-section “Impact on
our efficient costs”) in turn.
We have more storage assets
As set out above in section “The effect of non-sewer infrastructure assets on our costs”, we are willing to
accept Ofwat’s assessment of the effect of our non-sewer infrastructure assets on our costs as a proxy
for the impact of its having more storage assets. This amounts to an additional cost of £13m, including
£6m of opex and £7m of capital maintenance.
We have more treatment capacity
Figure 71 reports the results of regressing treatment capacity per load received and log treatment capital
maintenance per load received. As expected, it implies that the more treatment capacity a company has
installed per unit of load, the more assets it has to maintain, and so the higher its capital maintenance
costs per unit. It shows that, across the industry, an increase in the ratio of capacity to load of one
hundred percentage points is associated with an increase in capital maintenance costs of 73%.
105
Y = ln(smoothed base treatment
capex per kg/BOD per day)
Capacity : load received
Constant
Coefficient
0.73
(2.43)
Standard Errors
0.36
0.45
P-Value
0.04
0.00
2
R = 0.33
Figure 71 - Regression shows statistically significant positive relationship between capital maintenance
per load and treatment capacity per load
Source: econometric analysis of company smoothed 2012-13 treatment capital maintenance from Ofwat’s Risk
Based Review dataset, projected loads from Jacobs’ Risk Based Review forecasts, and capacity installed from
2011 June Returns Table 15.
Since, as shown in Figure 62, we have 24% of additional capacity per load compared to the industry
average, we would be expected to incur 18% higher capital maintenance costs at our treatment works.
This equates to £102.6m above our modeled allowance in AMP6.122
We undertake more tertiary sewage treatment
Figure 72 below shows the industry-wide average unit opex incurred for different forms of treatment.
Given the industry average proportions of different forms of treatment, this suggests a unit cost of £0.48
per kg BOD5 / day, but using our own proportions, which are weighted more heavily to costlier tertiary
treatment, gives a unit cost of £0.50 per kg BOD5 / day.
Treatment level
Primary
Secondary
Tertiary
Outfalls
Total
0.06%
46.10%
53.22%
0.61%
100.00%
3.22
0.48
0.51
1.76
0.48
0.07%
31.11%
68.82%
0.00%
100.00%
Industry average
%age proportion of total load
entering sewerage system
Industry average unit opex cost
(£2012-13)
United Utilities
%age proportion of total load
entering sewerage system
Implied industry average unit
opex cost using United Utilities
0.50
proportions
(£2012-13)
Figure 72 - More tertiary treatment expected to raise our unit sewage treatment opex by 5% above industry
average
Source: JR2011 data on treatment and treatment opex.
We might therefore be expected to incur around 5% more treatment opex per load received than the
industry average. On the basis of an AMP6 modelled treatment opex123 of £703.3m, this equates to an
increase of £36.6m above our allowed costs.
122
The modelled treatment botex is the average of the “bottom up” treatment botex estimate and a proportion “x” of
the “top down” base cost estimate, where x is equal to the proportion of the “bottom up” botex estimate made up of
treatment costs. The percentage of this allocated to capital maintenance is assumed to be equal to that observed
in the dataset used in Ofwat’s models (45%).
123
The modelled treatment botex is the average of the “bottom up” treatment botex estimate and a proportion “x” of
the “top down” base cost estimate, where x is equal to the proportion of the “bottom up” botex estimate made up of
treatment costs. The percentage of this allocated to capital maintenance is assumed to be equal to that observed
in the dataset used in Ofwat’s models (45%).
106
We need to conduct more advanced sludge treatment and disposal
Quantifying the cost effect of our above-average use of advanced sludge treatment and unconventional
disposal is complicated by a lack of cross-industry data on loads, disaggregated by treatment
technologies. The most recent citable data we have for this comes from the 2008 June Returns, which is
likely to be outdated in light of the significant investment that has been undertaken in this area since
2008.
Because of this constraint, we use a measure of enhanced digestion and incineration capacity as a
proxy for loads subject to these forms of treatment, which we normalise by sewage loads received to
compare ourselves to the industry average allowed for by the Ofwat models. The capacity data we use
is likely to significantly understate the extent to which we undertake more enhanced digestion and
incineration than the industry average, since it includes mothballed capacity and capacity under
construction for other companies but not for ourselves. We describe the methodology used to arrive at
company capacities in detail in Appendix G.
Enhanced Digestion
Incineration
(a)
Industry average capacity per sewage load (tds per
annum / thousand PE)
10.46
3.32
(b)
United Utilities capacity per sewage load (tds per
annum / thousand PE)
16.23
7.19
(c)=(b)(a)
Difference between United Utilities and industry
average
5.77
3.87
(d)
United Utilities sewage load (thousand PE)
(e)=(c)*(
d)
Projected additional annual tds subject to treatment
(f)
8,376
48,30
6
32,377
Industry average increased opex cost compared to
conventional treatment (2007/8 £/tds)
23.89
2.63
(g)=(e)*(f)
Annual increase in United Utilities opex (2007/8 £m)
1.154
0.085
(h)
RPI uplift (2007/8-2012/13)
17.3%
(i)=(g)*(h
)*5
Increase UU’s AMP6 opex (2012/13 £m)
7.267
(j) = (i)
Increase in UU’s AMP6 capex (2012/13 £m)
7.267
Total increase in AMP6 costs
£14.5m
Figure 73 - Our greater use of enhanced digestion and incineration raises our required sludge opex by
£14.5m
Source: JR2008 data on average unit costs of advanced treatment / incineration compared to conventional
disposal; capacity data as described in Appendix G; projected sewage loads from June Return 2011.
Figure 73 shows how we estimate the effect of this on our AMP6 opex, using the most recent available
industry-wide unit costs from the 2008 June Returns. The industry-wide incremental unit cost estimates
(£23.89 per tonne of dry sludge or tds for enhanced digestion and £2.63 per tds for incineration) are
highly sensitive to the costs of the small subset of firms in the industry that carried out enhanced
digestion / incineration in 2007-08, and both numbers appear unrealistically low compared to our own
engineering assessments. The incremental unit cost that we use for enhanced digestion is significantly
lower than the incremental cost at our works of £33.77 per tds, while the quoted incremental unit cost for
incineration is implausibly low given the operations this entails. Our estimate that capital maintenance
costs increase in line with opex costs (based on RD206 pp58-59) is also highly conservative given the
relatively short asset lives associated with these technologies (see Section 7.1.2 “Impact on our efficient
costs”). Nonetheless, in order to stay consistent with our general approach of using industry-wide costs
to estimate specific cost impacts, we use the valuation of £14.5m set out in the table.
107
We are constrained by more Industrial Emissions Directive permits
Appendix E of this report shows that we face base costs arising from complying with IED permits of
£7.4m per AMP.124 Given the exceptional nature of these costs, which do not affect other companies to
a significant extent and are thus unaccounted for in Ofwat’s models, this implies that our efficient base
costs will be £7.4m greater than its modelled allowance.
We have shorter asset lives
The effect of our additional short-lived assets on our capital maintenance in AMP6 can be calculated
directly by measuring the additional need to replace these assets. This will be £68.5m in AMP6.
(a)
(b)
(c)
(d)=(c)*(b)/(
a)
(e)=(c)[14/1
5](c)[19/20]
(f)=
(d)[14/15](d)[19/20]
(g)=(e)-(f)
UU % short-life
assets
Industry average
% short life
assets
UU Short-life
assets (£m)
Short-life assets
implied by
industry average
(£m)
UU short-life
asset AMP6 CM
(£m)
2014/15
2015/16
2016/17
2017/18
2018/19
2019/20
11.6%
9.9%
6.8%
6.8%
6.8%
5.3%
6.4%
5.8%
4.9%
4.1%
3.5%
2.2%
331.93
275.63
183.20
183.20
183.20
139.80
182.39
160.77
131.39
111.44
93.04
58.79
192.13
Industry average
AMP6 CM (£m)
123.60
Additional UU
AMP6 CM (£m)
68.52
Figure 74 - Our shorter asset life implies additional £68.5m in maintenance spending
Source: See note under Figure 66 for methodological steps.
As Figure 74 shows, the stock of short-life assets in the asset register we have constructed using the
available data from 1998-2010 is expected to diminish during AMP6 as these assets reach the end of
their lives. Since these assets will need replacing, this implies we will need to carry out £192m of capital
maintenance during AMP6 that can be attributed to these assets. If it had a proportional stock of shortlived assets closer to the industry average, however, this figure would fall to £123.6m – meaning our
AMP6 capital maintenance is projected to be £68.5m above average.125
Failures of combined sewers
To calculate the cost impact of additional blockages, collapses, and floods arising due to our
predominantly combined network, we worked in two steps:
124
See Figure 82 – Costs in AMP5 in Appendix E. The figure of £7.4m reflects base spending only, and thus
excludes the items “Civils and odour capex” and “Improvement programme”.
125
Note that, given the period covered by the data we have available, the quantity of other classes of assets
that will reach the end of their lives will be very small in AMP6. However, considering our relatively high GMEAV
per load (see Figure 68) there is no reason to suppose that we have a smaller stock of these assets than other
companies in proportion to Ofwat’s scale variables. Therefore, we do not expect us to enjoy any offsetting
maintenance saving in very short-, medium-, medium-long-, or long-lived assets.
108
First we use the failure rates reported for different types of sewer given in Figure 67 and the
difference between our network configuration and the industry average to calculate the excess
number of each type of failure we would be expected to encounter per AMP.
Then, using unit costs based industry-wide data on costs, collapses, and blockages in private
sewers126, and our unit costs for rectifying flooding incidents127, we calculate the additional
imposed by these excess failures.
Figure 75 below shows that the expected additional cost during AMP6 attributable to our combined
network is £14m.
Blockages
Collapses
Flooding
Incidents per AMP with avg network composition
50,020
2,008
55,505
United Utilities incidents per AMP
54,973
2,257
60,312
4,953
249
4,807
Est cost per AMP with avg network comp
17.6
55.9
63.0
Est UU cost per AMP £m
19.7
62.1
68.4
2.1
6.2
5.5
United Utilities excess incidents
Total additional United Utilities cost per AMP
Additional cost to United Utilities £m
13.8
Figure 75 - The cost of additional failures on our network is projected to be £14m in AMP6
Source: Our network failure rates observed from February 2011-March 2014. Costs of blockages and collapses
estimated using Ofwat’s unit-cost approach for private sewers; flooding unit cost that we observed in 2012-13.
Costs given in 2012-13 £m.
Summary of Costs
Figure 76 below summarises the cost estimates set out above. A “raw total”, summing up all of the
impacts of the environmental challenge that we have quantified, gives an exclusion value of £256.5m for
AMP6. However, as there is an arguable overlap between the cost impacts of treatment capacity and
short asset lives, we reduce the value of the exclusion to its minimum possible value, where all of the
effect of short asset lives is assumed to be covered by the effect of our high treatment capacity. This
gives an exclusion value of £188.0m. Since it is the minimum sum of a non-exhaustive list of impacts, we
regard this as a considerable understatement of the full cost impact of the challenge described in Section
7.1.2 (see “Why we are different”).
126
We observe that this is likely to be conservative given the small size of private sewers relative to the remainder
of companies’ networks.
127
We could find no industry-wide data on unit costs for this.
109
Impact
Value
(2012-13
£m)
6.0
7.0
102.6
36.6
IED permits (opex)
7.4
7.3
7.3
47.0
7.6
6.2
Raw total
CM
256.5
Network
Sewage
Treatment
Sludge
Treatment /
Disposal
Opex
CM
Opex
CM
Opex
CM
13.6
36.0
36.6
125.4
14.7
30.1
(22.8)
(22.8)
(22.8)
Minimum total
188.0
13.6
13.2
36.6
102.6
14.7
7.3
Figure 76 - Costs impact estimates suggest an exclusion of £188.0m is very conservative
Notes: Combined network opex calculated as additional costs related to blockages and floods; combined network
capital maintenance calculated as additional costs related to collapses. In raw total, effects of short asset lives
distributed evenly across network, sewage treatment, and sludge treatment / disposal capital maintenance (this has
no impact on minimum totals).
Though the value of the exclusion is now higher than the £145m claimed in our previous submission, this
should be taken in the context of our revised proposals, which no longer suggest a moderation of
Ofwat’s Upper Quartile adjustment worth £200m. We maintain that Ofwat’s adjustment is misguided
given the weak predictive power of its wastewater models. However, the more detailed analysis in this
submission has managed to explain robustly a greater proportion of the difference between our costs
and the Basic Cost Threshold on the basis of the general environmental challenge we face – and we
have made up the remainder of the difference through exacting efficiency targets.
Cost Assurance
As highlighted above, all of our cost estimates are derived using principled methodologies, following
Ofwat’s general approach of constructing a cost estimate based on industry average data. Though there
is a degree of variation between our two estimates of the cost exclusion, the fact that we have
triangulated these two separate estimates should ensure that any errors in either approach will tend to
be moderated.
Furthermore, as highlighted by the report prepared for us by NERA Economic Consulting, Ofwat’s base
totex assumption for wastewater lacks robustness, being derived from a small dataset, using few
explanatory variables, and questionable functional forms. The robustness of our cost exclusion
estimates, which accept Ofwat’s base totex assumption as a starting point, must be assessed within this
context.
Franklin and Andrews have provided third party assurance that our “approach to setting AMP6 efficiency
was robust, auditable, challenging, appropriate and developed from an informed basis”. As described in
the overview, after we applied an efficiency adjustment of c.10% to projects across the wholesale
wastewater programme as part of our December and June submissions. Franklin and Andrews have
110
assessed our wastewater capital programme post efficiency costs as being c.3% better than industry
average for AMP5. This demonstrated that this cost exclusion is in line with Ofwat’s guidance.
As part of our representation we have conducted a series of programme and project specific assurance
activities, primarily on our enhancement programmes. We have used this information allow us to better
understand the upper quartile efficiency challenge applied by Ofwat on the cost exclusions they
accepted in the Draft Determination. In response to this information we have applied a further efficiency
adjustment across our wholesale wastewater programme of 8.7%. This results in us proposing costs
which are now equal to or better than Ofwat’s upper quartile efficiency assessment
Halcrow have completed independent assurance across a range of projects in our wastewater wholesale
business plan, which include both maintenance and enhancement expenditure. They have confirmed
that our solutions and costs are robust and efficiently developed.
The plan includes a post efficiency cost estimate which is lower than the raw output from our main
costing models. The mid-point P50 AMP6 estimate of total expenditure for the cost exclusion is £188.0,
the P10 is £145.4m and the P90 is £256.5m. Though the size of this exclusion is somewhat larger than
the £145m requested in our last submission, we are no longer proposing that Ofwat moderates the
Upper Quartile adjustment applied in our Basic Cost Threshold, which was previously worth an additional
£200m. In part this because we have been able to explain robustly more of the difference between the
Basic Cost Threshold and our costs using our revised cost estimation approach.”
We have provided extensive evidence on the relationship between the factors identified in Section 7.1.2
(the Need) and the requirement for additional capital maintenance and operating costs associated with
operating in the North West.
We believe that we have clearly demonstrated that the changes we have made, along with the additional
evidence now available has addressed the concerns raised in the Deep Dive feedback and should result
in this test being considered a ‘Pass’ at the Final Determination.
We consider that customers are protected by the following:
Our estimates for the valuation of this cost exclusion are conservative, and tend to understate the
value.
We will be subject to totex menu incentives, which will incentivise us to minimise costs.
We are subject to performance commitments and Outcome Delivery Incentives (ODIs) relating to:
o
o
o
o
o
o
Private sewers service index;
Network performance index;
Sewer flooding index;
Maintaining our WwTW;
Ww pollution index; and,
Satisfactory sludge disposal.
The ODI incentive mechanism ensures that we maintain service standards to customers, and that we will
be penalised if we fail to invest, resulting in a reduction in service performance.
In addition to these, the company would suffer the potential for wider regulatory sanctions available to
the Environment Agency such as enforcement notices and undertakings and Ofwat under sections 18,
19 and 22A of Water Industry Act 1991 from our failing to deliver statutory obligations. Under the Act we
111
would be enforced to comply, incurring considerable totex in doing so, in addition it would be expected
that we would receive further financial penalty as a consequence of the failure.
failure of the previous robustness of estimate test.
Our proposed ODI’s are fully compliant with the methodology, which means that customers are
protected. As a result of the regime included in our Draft Determination customers would get money
back which is directly equivalent to the value that they place on the outcome.
The ODI regime has been designed to work alongside the totex incentive regime. This ensures that
customers would be financially compensated for any under delivery. The mechanism works such that if
we fail to invest to meet our performance commitment, then under the AMP6 totex incentive mechanism
customers would be compensated for approximately 50% of the avoided expenditure. The ODI penalty
would then act to increase the effective penalty to protect customers.
We believe that we have clearly demonstrated that we have provided an ODI mechanism which, in
addition to the other financial and regulatory measures available, ensures that customers are protected
in the event that we under deliver, and as such we consider that this test would be considered a ‘Pass’ at
the Final Determination.
112
Appendix A – Breakdown of additional site specific scope and cost
for CIP2 and Low Phosphorus Pilot trials.
Fazakerley WwTW (AOP1 - Small Scale)
Atkins
United Utilities
Cost for
additional
scope
CIP1
Cost
Assessment
Small Scale 5k p.e. plus trial
plant alteration cost. Inc.
upstream polishing
Provide new concrete slab – requires piling
due to weight of the oxygen storage system
[redacted text,
reason 2]
Provide Security and Emergency Measures
Direction compliance (due to storage and use
of dangerous liquids)
Pilot plant operator
[redacted text,
reason 2]
Initial
difference in
cost
estimates
[redacted text,
reason 2]
Total
[redacted text,
[redacted text,
reason 2]
reason 2]
Note operator cost includes all of project team (management, technician, process engineer, maintenance engineer
etc). Operator alone would cost £60k
Horwich WwTW (Proprietary Iron Dosed SF + Ozone – Medium Scale)
Atkins
United Utilities
Cost for additional
scope
Proprietary
Plant
Manufacturer and CIP1 Cost
Assessment
Provide concrete slab – requires piling
due to number and weight of sand
filters
Provide electrical supply upgrade
Provide 12x BluePro sand filters
Provide new pumps & controls to feed
the 12x BluePro sand filters
Provision of all associated ancillaries,
including pipework and valves to
provide feed to the 12x BluePro sand
filters and remove treated effluent
Provide new concrete slab with bund
Provision of necessary services i.e.
ductwork, electrical supply, potable
water, to new slab
Provide new ferric storage
Provide new ferric dosing system with
controls
Provide new alkalinity storage
Provide new alkalinity dosing system
with controls
Commission and set-up the whole
system in preparation for optimisation
prior to the trial period
Total
Initial
difference
in cost
estimates
[redacted text,
reason 2]
113
Grasmere WwTW (Retrofitting of COUF to BluePro)
Atkins
United Utilities
Install additional ferric dosing
point
Assumes use of existing
chemical dosing and tertiary
filtration equipment
Assumes the land required is
already owned by United
Utilities and is in greenfield
condition
Assumes that sufficient
electrical power can be
provided to operate the
technology
Provide new concrete slab, with bund
water to new slab
Reuse existing ferric storage, some
maintenance required
Provide new ferric dosing system with
controls
Provide new alkalinity storage, with
bund
with controls
Provide new delivery point for Alkalinity
Remove and dispose of sand from the
3x existing sand filters
Remove internals from the 3x existing
sand filters
Clean the 3x existing sand filters
Fit BluePro internals to the 3x existing
sand filters
Fill the 3x refitted sand filters with new
sand
Provide one new BluePro sand filter
Provide new control panel for 4x sand
filters
Replace feed pumps, etc
Provide all necessary pipework,
valves, etc to facilitate feeding of 4x
sand filters and removal of treated
effluent
Commission and set-up the whole
Total
Hyde WwTW (Optimising Dosing)
Atkins
United Utilities
Install additional ferric
dosing point
chemical dosing and
tertiary filtration
Cost for additional
scope
Initial
difference
in cost
estimates
Cost for additional
scope
water to new slab
[redacted text,
reason 2]
Initial
difference
in cost
estimates
114
equipment
Assumes the land
required is already owned
by United Utilities and is
in greenfield condition
technology
Provide additional ferric storage
Provide additional ferric dosing system
Provide new alkalinity delivery point
with controls
Commission and set up the whole
Total
Saddleworth WwTW (Optimising Dosing)
Atkins
United Utilities
Install additional ferric
dosing point
chemical dosing and
tertiary filtration
equipment
Assumes the land
required is already owned
by United Utilities and is
in greenfield condition
technology
Cost for additional
scope
water, to new slab
with controls
Provide new alkalinity delivery point
Commission and set up the whole
system pre optimisation prior to the 12
month trial period
Total
Chorley WwTW (Retrofitting of BluePro to an RGF)
Atkins
United Utilities
Manufacturer supplied
Laboratory testing of media to ensure we can
coat the RGF media with the ferric and get P
removal and initial trials to determine how to
[redacted text,
reason 2]
Initial
difference in
cost
estimates
Cost for additional
scope
[redacted
reason 2]
Initial
difference
in cost
estimates
text,
115
adapt for a batch process
Assumes use of
existing chemical
dosing and tertiary
filtration equipment
Assumes the land
required is already
owned by United
Utilities and is in
greenfield condition
technology
Provision of a full-scale ‘test cell’ – not
proprietary kit, has to be specially designed
Provide new concrete slab – requires piling
due to weight of liquid
ductwork, electrical supply, potable water, to
new slab
Provision of RGF media
Provision of pumps and controls to feed the
‘test cell’
Provision of backwashing equipment,
including air blowers, backwash pumps, etc
and associated control system
Provision of all associated ancillaries,
including pipework and valves to provide
feed and remove treated effluent
ductwork, electrical supply, potable water, to
new slab
Provide new alkalinity dosing system with
controls
Provide new alkalinity and ferric delivery
points
Commission and set-up the whole system in
preparation for optimisation prior to the trial
period
Total
[redacted text,
reason 2]
116
Appendix B - Davyhulme trade effluent growth in AMP6
The Davyhulme catchment includes a number of very large traders [redacted text, reason 2].
[redacted text, reason 2] will increase Chemical Oxygen Demand (COD) from the current 1,598 kg/day to
7,078 kg/day, an increase of 5,489 kg/day, [redacted text, reason 2] could be as high as 11,141 kg/day
as a worst case.
[redacted text, reason 2] we can convert this significant increase in load into a population equivalent
using standard process engineering calculations.
COD is converted to BOD by dividing by a factor of 1.62 → 5,489 / 1.62 = 3,388 kg/day
Settled BOD is converted to shaken BOD by a conversion factor of 0.75 → 3,388 / 0.75 = 4,518 kg/d
Shaken BOD is converted to a population equivalent based on a load of 53.2 g/person/day →
4,518 * 1000 / 53.2 = 84,935
The population equivalent increase in trade load is forecast to be 84,935 which is highly significant to our
costs compared to a modelled allowance for population growth of 176,847. We believe significant trade
growth is a reasonable basis for an addition to our basic cost threshold. An additional population of
84,935 would equate to an additional allowance of around £20.2m using the unit cost model.
117
Figure 77: [redacted text, reason 2]
118
Appendix C – Changing rate of regional trade effluent decline
In 2014, our trade effluent load was 29,634.77 tonnes per annum, for Davyhulme the figure was
5,118.45 tonnes per annum. Davyhulme received 17.3% of the regional trade effluent load in 2014.
Converting these figures to population equivalent:
29,634.77 * 1,000,000 / 365 = 81,191,150 g/day
Standard is to assume 60g BOD load per head per day:
81,191,150 / 60 = 1,353,186 population equivalent for the region.
Doing the same calculation for the Davyhulme catchment gives a population equivalent of 233,719 from
trade.
Impact of change in trade effluent decline
Excluding Davyhulme, an industry average trade effluent decline of 15% between 2008 and 2012 is
9.8% higher rate of decline than we are expecting to experience during AMP6. This has the effect of
understating the unit cost required as there will be consequently fewer areas where domestic population
growth could be absorbed in headroom. Converting that 9.8% into a population equivalent gives:
(1,353,186 – 233,719) * 0.098 = 109,708 population equivalent
The loss of this decline should be corrected for in the sewage treatment growth allowance as this
otherwise unfairly penalises us, particularly as a company with a high level of trade effluent. As
Davyhulme catchment is our only catchment now forecasting trade growth in AMP6 it would not be
unreasonable to allocate all of this to the Davyhulme project. However to be prudent we propose to
assume that 20% of trade effluent growth will occur elsewhere in our region and so apply 80% of this
adjustment to the implicit allowance for Davyhulme.
109,708 * 80% = 87,766 population equivalent
119
Appendix D – [redacted text, reason 2]
120
121
122
123
Appendix E - PPC (IED) Cost Analysis
Context
Although remaining an “uncertainty” for most water companies, the requirement for certain sewage
sludge treatment facilities to comply with the Industrial Emissions Directive (IED) (formerly PPC) is a
statutory obligation for us and we are therefore obliged to continue to pay the additional direct and
indirect costs associated with the permits. Should IED become a reality for the rest of the water
companies, our costs are indicative of what they can expect to pay for permitting their digestion facilities
in due course. However until Europe provides clarity they are able to remain in this fortunate,
unpermitted position.
Background
The permit needs arise from: regional topographical restrictions on agricultural use, high rainfall and a
historical asset base, and allow us to comply with our obligations as the Sewerage Undertaker. Both the
Sewage Sludge Directive and the waste hierarchy principles of the Waste Framework Directive drive us
to recover sludge to land whenever possible. However the above restrictions force our planned
contingency arrangements to rely on sewage sludge incineration at certain times of year; this allows us
to be completely sure of a timely and permanent destruction of the sludge. This potential for use of the
incinerator triggers the need for a large number of the most onerous and prescriptive permits at our
sewage treatment facilities. This puts us outside the “norm” for the water industry regarding the number
and extent of these permits. Figure 78 shows that Yorkshire are close to ourselves in total number of
permits, but we believe the extent of each of their permits is limited to the simpler and typically smaller
physico/chemical treatment activities, not the more complex digestion and biogas permits we have.
Thus the current permitting burden on Yorkshire is less than that on ourselves.
Water Company
United Utilities Water
Yorkshire Water
Thames Water
Severn Trent
Northumbrian
Wessex
Southern
South West Water
Anglian
Number of IED (PPC)
installation permits
(identified on the EA
public register)
24
22
4
4
2
2
0
0
3
Total number of waste
operations and IED
installation permits (figures
obtained from the EA)
52
58
32
40
12
19
27
18
34
Figure 78 – Number of IED permits
Note: The above figures are taken from the EA public register and EA correspondence that correctly confirms the
number of IED permits we hold. We therefore assume is correct for the other water companies, but it is not
possible to determine which of the other waste companies permits are sludge related permits.
The dominant influencing factor on the number of IED permits required is their dependence on a
“disposal” activity eg incineration or landfill rather than “recovery” of the sludge for agricultural benefit.
Similar treatment sites with similar environmental impact are regulated differently depending on where
the sludge could go once it leaves site. It is this inconsistency which distorts our need for permits and
the associated costings for its sludge treatment facilities, which was challenged through the High Courts
but confirmed as necessary.
Defra Impact Assessment results
In 2012 Defra published a report they had commissioned updating the Impact Assessment of the
Industrial Emissions Directive (IED) Final Report.
https://www.gov.uk/government/uploads/system/uploads/attachment_data/file/82614/industrial-emissions-amec-ia-120312.pdf
124
It looks at a range of different industry activities including the water industry. It reviews the
administrative and compliance cost differences between sites already covered by IED (ours) and those
only regulated by waste permits (the majority of the rest of the water companies). Below the Water
Sector reference is for the treatment of wastewater and standalone sludge treatment facilities ie not on a
WwTW, whereas the Waste sector includes commercial anaerobic digestion. The administrative and
compliance costs are highlighted in the executive summary and an extract can be seen in Figure 79
below.
5.3(b)
sector
activity
Number of
Installations
Admin
costs/installation
recurring: £000
p.a.
Low
High
Water
Sector
0
20
£0
£0.9
Waste
Sector
70
189
£0.9?
£0.9
35 104.5
£0.0
Average
of the
above
Low
High
Compliance
costs/
installation
recurring:£000
p.a.
Low
High
£28.5 £165.0
£4.0
£0.9 £16.25
Admin
costs/
installation
annualised
non
recurring:
£000 pa
Low High
Compliance
costs/
installation
annualised
non
recurring:
£000 pa
Low High
Total annual
costs ;
£million pa
Low
High
£1.2 £10.8 £4.4
£9.1
£0.0
£3.7
£20.0 £1.2 £10.8 £1.0
£5.4
£0.5
£7.0
£92.5
£1.2 £10.8 £2.7 £7.25 £0.25 £5.35
Figure 79 – Extract of administrative and compliance costs
Note 1: All figures in line 1 and 2 above are rounded to one decimal place
Note 2: Costs are annualised over a time period of 20 years, using a discount rate of 3.5%
Note 3: Research indicates that operators will not incur additional operational costs associated with improvements
to meet BAT
Note 4: The line of average figures in the table above have been calculated by UUW for the purposes of this
document
Note 5: Defra impact assessment removes major capital costs such as secondary containment
The industry average calculated costs per installation can be seen in Figure 80 below.
IED 5.3 (b) sector
activity
Water
Waste
Average
Numbers of
potential
installations
20
189
104.5
Total cost for all
installations per
annum
£3.7 million
£7.0 million
£5.35
Per installation per
annum
£185,000
£37,037
£51,196
Total cost for
our 24 permits
per annum
£4.44 million
£ 0.88 million
£ 1.23 million
Figure 80 - Industry average calculated costs per installation
The above can be regarded as the industry direct costs of complying with the IED permit requirements.
However there are some substantial indirect costs associated with the sludge transportation and
processing pre and post the permitted activity which the Defra impact assessment does not appear to
take into account but which have impacted on us.
Legal Challenges
We have challenged the need for this type of installation permit in the high court but finally lost in
October 2007. In 2013 the Environment Agency modified all our PPC permits to embed IED. As a direct
result we have appealed these modifications on the grounds that:
125
Sewage sludge treatment facilities serve the Urban Wastewater facility, and the revised directive
excludes UWWTD facilities.
The Environment Agency had wrongly assigned our sites as “disposal” during the modification
process. IED allows for “mixture of disposal and recovery” which is a more accurate description
of the activities which take place. It has the benefit of dropping a number of the physico/chemical
permits out of IED.
The appeals are “on hold “with the Planning Inspectorate whilst Defra seeks clarification from Europe on:
is sewage sludge at a wastewater treatment works subject to IED
is the resulting burning of the biogas to sustain the treatment process to be permitted as
combustion of a hazardous waste.
However unless and until the appeals are successful or Europe clarifies the issues in our favour we are
required to continue to comply with the revised permits and meet their costs. Fees for legal advice from
a barrister advising on IED appeals this year (2013/14) are anticipated to be in the region of £50k.
Legal defence
There have been several occasions of non-compliance of the IED permits, which have to be selfreported and which subsequently have generated substantial enforcement costs. They only came to light
because the IED permit requires us to self-report and would not have been incurred if we had not been
regulated under IED. In the past 5 years this cost amounts to £521,000 and loss of reputation.
Impact on sludge transport costs
The Defra impact assessment also reviews the potential impact of IED permit needs on competitive
pricing, but recognises that water companies are natural monopolies subject to economic regulation by
Ofwat. Each region has one water company with a limited number of treatment sites which are not
competing with each other and it also notes that
“the possibility of transporting material to another site will be limited to distances where the inclusion of
the transportation costs makes it cheaper to treat the material at the nearest site.”
It goes on to note that
“….if water companies are unable to pass on costs, this may lead to redistribution of expenditure with
spending elsewhere reduced (eg on infrastructure) which may ultimately reduce the value offered to
consumers and the general public.”
This is a very significant point for us when pricing our sludge treatment costs. Permitting restricts the
choice of sites which can legally accept the sludge as only permitted sites can receive and treat
permitted sludge. All contingency sludge arrangements must be permitted, and sites must qualify for an
IED permit. Those which do not qualify cannot legitimately send sludge to permitted sites unless it is unthickened. Thickening substantially reduces the sludge volumes by approximately 50% (for liquid sludge)
or 90% (for sludge cake). We have modelled its transport by comparing permit compliance movements
with complete flexibility in its tanker movements; we are therefore able to identify the transport costs
associated with IED.
The options and additional costs are in three areas:
1) Cost of planned contingency to permitted sites vs free choice based on practical needs
2) Thicken the sludge and transport it much greater distances to sites which are legally able to
accept it.
3) Transport twice the volume of sludge (un-thickened) shorter distances to sites where it can be
accepted. This option is not always practical based on the very high number of tanker
movements required keep up with the sludge make.
Permitting alternatives have been considered but are not available
126
It takes a minimum of 8 months to obtain the necessary permits if it determined it is necessary
and we cannot store that long
To permit all the sludge treatment facilities to regain the flexibility would dramatically increase the
number of permits required and associated costs and compliance risk. It is not possible at
present as many unpermitted sites do not qualify. It is in any case not a decision to be made until
after the outcome of the need for IED permits is determined. It is not simple or cheap to “hand
back” unnecessary permits.
Once you have a permit, there are considerable costs associated with handing it back – known
as surrender
Regulatory Uncertainty impact on costs
We do not carry Environment Agency annual subsistence charges as operational costs, but regard them
as overheads and manage them through the Wastewater Asset Management budgets. A summary of
the waste operations and waste installations charges can be seen in Appendix F.
IED annual charges total £192,010 for 2013/14. Subject to the Environment Agency charging scheme
the overall costs can be considered representative of the annual costs, generating a total of fees of
around £960,050 in this AMP.
In addition, it was not legally possible to consolidate waste and IED permits until changes to the
regulations in 2013. This meant that we had to have more than one permit on some of our sites in order
to continue to operate legitimately as can been seen in Appendix F.
This has the impact of increasing the impact of IED on our operations through the duplication of fees by
a total of £68,533 for 2013/14. This cost can be considered representative of the annual costs in this
AMP and generate an additional cost of £342,000 in this AMP.
Work to consolidate permits has not taken place as we are awaiting a confirmation from Defra that the
IED permits are required. The Environment Agency has issued a Regulatory Position Statement stating
that water industry has no need to apply for IED permits for those sewage sludge sites not previously
permitted under PPC. However those already under PPC must continue under the IED regulation until
the legal obligations are clarified by Europe, which is why we must continue with these permits for now.
Despite the additional costs, it is within our interest to maintain separate permit obligations. It is felt
there is a high risk that combining the permits now, and then finding that they may prove unnecessary
would introduce IED style obligations for the entire waste operational area, significantly increasing the
permitting demands and compliance costs on the site. If the European decision falls in our favour, we will
be able revert back to the original waste permits and their obligations in line with the rest of the water
industry.
Design and Construction costs
As a result of the IED permits there are additional construction requirements which go beyond the water
industry standards (CESWI) and/or our Asset Standards. They are required by the Environment Agency
guidance (S5.06) and Horizontal Guidance in order to be able to obtain and or comply with an IED
permit. The specifications are known BAT (Best Available Techniques). We had to develop additional
civil engineering design guidance which must be adhered to when building, refurbishing or maintaining
an IED permitted site to ensure it can obtain and comply with BAT. The AMP 6 costings for some sludge
projects have identified additional costs of approximately 1% of the overall project for the additional civil
work required.
Assuming this is repeated across all the IED permitted sites this 1% increase will already have been
captured in the costings used for our submission. The total sludge programme total cost is £173 million
with approximately £2.65 million of civil work directly attributable to PPC/IED intervention.
127
In addition to the construction costs, there are the associated application fees and preparation of
documents to satisfy the Environment Agency in order to vary the IED permits. These can take up to a
year on complex projects and permit variations must be obtained prior to commissioning – risking delays
on occasions or change of design detail as a direct result of Environment Agency permitting intervention.
Failure to obtain even temporary permissions during construction has resulted in a prosecution – see
legal defence above.
Odour
IED permits are bound by specific Environment Agency odour guidance known as H4. This defaults to
the need for sewage sludge treatment to be subject to the most stringent limit of odour emissions from
the permitted installation which is 1.5 odour units. The Defra guidance for sewage treatment is that of 5
odour units – much less stringent. To achieve the much tighter standards we must use different design
options to allow for the necessary odour extraction and odour treatment and more treatment plant may
be required. The odour design, model, operation and maintenance are subject to a permit requirement to
agree everything with the Environment Agency in an Odour Management Plan (OMP). Where possible,
less stringent limits have been negotiated and accepted by the EA, subject to us moving to 1.5 odour
units, should odour complaints be substantiated.
The AMP 6 sludge programme costs has been assessed for additional odour costs, which currently do
not routinely appear in the submitted costings. Using the available costings, there is an average
additional cost of 13.7% (1.9 – 23.5) per project, which is not always included in the estimated project
cost. This additional capex cost will need to be included in the projects scope in due course and totals in
the order of £12m.
In addition, compliance with H4 and or the odour management plans is likely to drive more frequent
odour-filter media changes to ensure they continue to achieve their design criteria. In addition the
electricity demand from the odour treatment in particular the fans generate a substantial increase in
running costs. It has not been possible to assess these additional operational costs as they are “hidden”
within the sites general operating budget for electricity and chemicals rather than specifically budgeted
for. It can be assumed that on average every permitted site should require one media change per annum
during the next AMP.
Improvement Programme
For AMP 5 we were required to budget for £15million of improvement work to bring the permitted sites
up to BAT standard. With continual improvement a requirement of the permit (review every 4 years), it is
indicative of future potential costs to maintain the permits at BAT standard if IED permits are required.
Funding for this is not available unless it is coincidentally addressed in planned work or included in the
Business Plan. Future requirements cannot be easily predicted. Note the Environment Agency may
change their guidance including what constitutes BAT without consultation or impact assessment.
Of particular concern is the potential to further reduce the NOx emissions from the CHP engines to a
level that will require replacing the engines with alternative plant, or providing abatement on the exhaust
to remove NOx and the need for removal of small particulates prior to emission to air.
Site based - operations and support activities directly attributable to permit obligations
The table below details the average costs across all 24 PPC/IED installations – which includes
incineration. The number of CHP and digestion sites - see Annex 1, and therefore their complexity
means that our costs are likely to be significantly higher than Yorkshire’s simpler physico/chemical sites.
128
Resource
Ops process
controller
ERAs
Maintenance
Average
estimated
days
[redacted
text,
reason 2]
[redacted
text,
reason 2]
[redacted
text,
reason 2]
On site
monitoring
External
permitting
services
Permitting
Manager
Management
system
Develop and
maintain
management
documentation
Odour
treatment
maintenance
Total
[redacted
text,
reason 2]
Permit activity
[redacted text,
reason 2]
Rate
[redacted
text,
reason 2]
[redacted
text,
reason 2]
[redacted
text,
reason 2]
Total per
installation per
annum
Total x 24
installations
per annum
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted text,
reason 2]
[redacted
text,
reason 2]
Figure 81 - average costs across all 24 PPC/IED installations
Note1 capital will pick up costs of major variations, the costs in the table above are associated with operation
changes arising
Note2 Defra assessment costs are extrapolated from the referenced document (see link) above
Summary
1) The total costs we face in this AMP can be summarised in Figure 82 below
129
IED activity
Cost per AMP
Additional sludge transport costs
IED permit subsistence fees
Duplication of fees
Legal Fees for appeals
Legal defence fees
Civils and odour Capex costs (based on [redacted text, reason 2]
AMP 6 costings)
Improvement programme
Operations
Total
Figure 82 – Costs in AMP5
2) Construction for permitted activities where new build civils and odour treatment is required can
assume an average of a 14.7% increase in project costs over and above all other costs.
3) Operational costs are in the order of £5m with a further £1m for Environment Agency subsistence
fees and an unknown cost associated with the additional costs of maintaining emissions not
exceeding 1.5 odour units.
4) The operational costs can be compared with Defra impact assessment to demonstrate that they
are not outside the expected norm for this type of permit at this level of complexity
5) The Environment Agency public register128 demonstrates we have more IED permits than any of
the other sewerage undertaker, with Yorkshire Water a close second. This does not take into
account co-digestion, a business choice but one which triggers the need for this type of IED
permit.
6) We have no choice but to have these permits if we are to fulfil our obligations as a competent
sewerage undertaker.
7) The restrictions permits place on sludge movement substantially increase our transport costs and
reduce our sludge treatment efficiency
8) Achieving BAT has driven a multi-million pound programme and is subject to continual
improvement and more of the same can be expected in the next AMP
9) Legal costs associated with failure to maintain compliance are additional £0.5m in this AMP and
are now linked to percentage of turnover for a successful prosecution.
10) The Defra impact assessment129 (page 24, 2.6.1) supports the need for funding by Ofwat of these
permits to avoid reduced investment in other infrastructure projects.
128
http://epr.environment-agency.gov.uk/ePRInternet/SearchRegisters.aspx
https://www.gov.uk/government/uploads/system/uploads/attachment_data/file/82614/industrial-emissions-amec-ia120312.pdf
129
130
Appendix F - UUW permit subsistence costs current of 2013/14
[redacted text for reason 2]
Treatment
Site
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
AD= Digestion
including CHP
CHP = CHP only
PC = phys/chem
Current IED/PPC
2013/14
subsistence cost
pa
[redacted text]
Former IED
subsistence cost
pa £
Waste operations
2013/2014
subsistence cost pa
[redacted text]
[redacted text]
[redacted text]
Closed Landfill
Subsistence
(for completeness
only)
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
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[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
[redacted text]
Note: Although not exactly matching permissions, the boxes highlighted in grey indicate duplicate
permits/subsistence fees = £68,533 for the year 2013/2014.
131
Appendix G - Measuring Enhanced Sludge Digestion and Sludge
Incineration Capacity
The data on enhanced sludge digestion and incineration capacity reported in Figure 63 is based on our
own assets at the time of submission and a comprehensive search of the websites of the relevant
manufacturers and Water and Sewerage Companies. Data was taken from the following websites:
Cambi: http://www.cambi.no/wip4/location.epl?cat=10650
Monsal: http://www.monsal.com/biosolids/references.asp
Severn Trent Incineration capacity:
http://www.waterprojectsonline.com/case_studies/2006/Severn%20Trent%20Incinerator%20upgr
ades%202006.pdf
Thames Water Riverside STW THP plant: http://www.thameswater.co.uk/about-us/10099.htm
Thames Water Longreach STW: http://www.thameswater.co.uk/about-us/10100.htm
Thames Water Crossness STW: http://www.thameswater.co.uk/about-us/10097.htm
Thames Water Beckton STW: http://www.thameswater.co.uk/about-us/10098.htm
Thames Water Mogden STW: http://www.thameswater.co.uk/about-us/10096.htm
Welsh Water AD – Cardiff: http://www.edie.net/news/4/Welsh-Water-turns-sludge-topower/20116/
Welsh Water – Afan (Port Talbot): http://www.enviropro.co.uk/entry/107244
Anglian Water – Kings Lynn: http://www.anglianwater.co.uk/news/investmentscompleted/8743C29EE70E4BAE956E58B50DDB97A3.aspx
Anglian Water – Great Billing http://www.anglianwater-consultation.co.uk/greatbilling/treatmentworks
Wessex Water – Bristol:
http://www.google.co.uk/url?url=http://www2.wessexwater.co.uk/WorkArea/DownloadAsset.aspx
%3Fid%3D9444&rct=j&frm=1&q=&esrc=s&sa=U&ei=Ne0jVOyZLJDXapGtglA&ved=0CBoQFjAB
&usg=AFQjCNFW7J3AFFiahn7Vc212hh8EeT4-Kw
Thames Sludge Incineration figure:
http://professionalservices.morgansindall.com/projects/crossness-sludge-incinerator-uk/
Yorkshire Water Incineration Capacity:
http://oldweb.northampton.ac.uk/aps/env/Wasteresource/1999/Mar99/99mar41.htm
132
Glossary of terms
Acronym
AMP
AMPAP
ASP
ASD
BAFF
BCT
BOD
Capex
CBA
CESMM
CHP
CIP
CM
COD
COUF
CP-C
CSO
DD
DFMA
EA
ENI
ENSCES
EPR
FBDA
FD
FWF
FY
GMEAV
HMS
IAP
ICM
IPES
LBE
LTP
MAMS
MCerts
MNI
NEP
NH3
ODI
Opex
PE
PR09
PR14
Description
Asset Management Plan
Asset Management Planning Assessment Process
Activated Sludge Plant
Auto Structural Design
Biological Aerated Floating Filter
Basic Cost Threshold
Biochemical Oxygen Demand
Capital expenditure
Cost Benefit Analysis
Civil Engineering Standard Methods of Measurement
Combined Heat and Power
Chemical Investigations Programme
Capital maintenance
Chemical Oxygen Demand
Continuously Operating Up Flow sand filter
Change Protocol C
Combined Sewer Overflow
Draft Determination
Design for Manufacture and Assembly
Environment Agency
Enhancement Non-Infrastructure
Aqua Consultants Engineering Scoping and Estimating tool
Environmental Permitting Regulations
Fine Bubble Diffuse Aerator
Final Determination
Freshwater Fish Directive
Financial Year
Gross Modern Equivalent Asset Value
Integrated Asset Planning
Integrated Catchment Modelling
Investment Programme Estimating System
Latest Best Estimate
Liquor Treatment Plant
Master Asset Management System
Environment Agency’s Monitoring Certification Scheme
Maintenance Non-Infrastructure
National Environment Programme
Ammonia
Outcome Delivery Incentive
Operational expenditure
Population equivalent
Periodic Review 2009
Periodic Review 2014
133
RBMP
RCM
RGF
SAC
SIMCAT
SPA
SSSI
Q
TARP
tds
Totex
TP
UID
UKWIR
UPM
UQ
UV
UWWTD
WwTW
River Basin Management Plan
Reliability Centred Maintenance
Rapid Gravity Filter
Special Areas of Conservation
Simulated catchment modelling
Special Protection Areas
Site of Special Scientific Interest
Quality
Tertiary Ammonia Removal Plant
Tonnes of dry sludge
Total expenditure
Total Phosphorus
Unsatisfactory Intermittent Discharge
UK Water Industry Research
Urban Pollution Management
Upper Quartile
Ultraviolet
Urban Wastewater Treatment Directive
Wastewater Treatment Works
134

Wastewater totex programme and exclusions

Transcription

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