Water regulator warns one-off price cuts possible

Privatised water companies could be hit by the kind of savage one-off price cut which has driven British Gas to the Monopolies and Mergers Commission, the industry regulator warned yesterday.

Ian Byatt told MPs at the Commons Trade and Industry Select Committee that the idea of one-off price cuts, which were rejected in his last price review in 1994, were firmly back on the agenda.

Commenting on the much criticised excess profits earned by the companies, he said: "If these high returns continue ... then I would think much more in terms of a once and for all reduction in prices as has happened in the energy industries."

The price cuts planned for British Gas's pipeline network, TransCo, by Clare Spottiswoode, the gas industry regulator, led to an unprecedented public row and the high risk decision by the company to take the issue to the MMC. Ms Spottiswoode wants to slash TransCo's revenues by 20 per cent from April, worth almost pounds 30 off average bills.

The principle of a dramatic one-off cut, known in regulatory circles as a "P-nought", was also used by Professor Stephen Littlechild, the electricity regulator, in his recent price cap for National Grid which cuts charges by 20 per cent from April.

The move reflects an increasingly tough stance by Mr Byatt in recent months as several of the 10 privatised water and sewerage businesses have failed to meet Ofwat investment targets. The current price formula allows water bills to increase by an average of 1.5 per cent above inflation to pay for the huge backlog of under-investment from before the industry sell-off.

Mr Byatt told MPs his ideal rate of return on investment for water companies was some 5 to 6 per cent, compared with a current average rate of return earned by the 10 companies of more than 12 per cent, with Welsh Water and Northumbrian Water earning the highest returns.

Simon Flowers, head of utilities at NatWest Markets, said a one-off cut would hit companies' profits in the first year, though the crucial factor was whether prices rose or fell in following years. "This would seem to be a vindication of the strategy at Ofgas. In the light of the British Gas example Ian Byatt has been portrayed as being the most lenient regulator on prices, but he's been rattling the companies' cages for some months now," he commented.

Last night, water companies reacted with scepticism to the idea of one- off price cuts. Barry Delabour, head of regulation for Southern Water, said a cut on the scale of that planned for British Gas would be "ridiculous". He continued: "We will be arguing that there's still heavy investment needed and we have got the heaviest investment programme of all."

However, Frank Dobson, Labour's environment spokesman, was unimpressed by the move. "It's a bit late in the day and I don't think this will do anything permanent."

The current price control period was originally intended to last from the 10 years from 1995, with increases in bills in real terms also planned for 2000-2005. However, last October Mr Byatt said he would review the formula by 1999 and has indicated recently that from 2000 the companies can expect cuts in real terms along the lines of those in other regulated industries.

Mr Byatt has already warned that he may ask some companies not to implement the full price increases from April. Water bills have to be sent out in advance of the next billing year, and need to be printed from the end of next month.

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