"Ambitious and significant" reforms of the water industry are on the way as Water Act receives Royal Assent

Out-Law News | 16 May 2014 | 11:37 am | 3 min. read

The most significant reforms to the water industry in England and Wales since it was privatised in 1989 are on course to begin in April 2017, following final approval and publication of the relevant legislation.

The Water Act 2014 received Royal Assent on 14 May 2014 and contains a package of measures designed to reform the water market in England while at the same time maintaining a stable regulatory environment. Its main provisions include the introduction of competition in the non-household retail market, which will make it easier for businesses, charities and public sector customers to 'shop around' for water and sewerage providers; and changes to 'upstream' water and sewerage services to make it easier for new suppliers of these services to enter the market.

Water sector law expert Gordon McCreath of Pinsent Masons, the law firm behind Out-Law.com, said that the new legislation was a "tangible step forward" in the reform of the water industry, after years of reports, consultation and discussion.

"There is so much in the Act to talk about – new duties of resilience, measures to address availability of flood insurance, changes to the merger regime for water companies, measures to tackle unsustainable abstraction – and all in the context of a revolutionised approach to price-setting by Ofwat," he said.

"However, if one highlight has to be picked, it has to be the introduction of competition, first at the retail, then at the wholesale level. This is intended to produce a more consumer-focused, innovative and ultimately better value industry. The opportunities will be there for new entrants too, to introduce some fresh thinking to the delivery of water services. The late addition of provisions allowing exit from the retail market, combined with new merger provisions, will likely result in market consolidation," he said.

"However, for these aims to be achieved, the detail has to work. So the existing and new players now need to engage with the Open Water programme and the process of making secondary legislation. Only then will they be able to influence the shape of their new market and ensure that the substantial opportunities presented to them can be realised, and realised efficiently," he said.

The 2003 Water Act introduced a very limited retail market in England and Wales under the Water Supply Licensing (WSL) regime, which gave some very large users of water the opportunity to switch suppliers. The benefits of increasing competition in the water industry have already been seen in Scotland, where full retail competition for non-household customers with no usage thresholds was introduced in Scotland in 2008. As a result many non-household customers have received price discounts and additional services such as water efficiency advice. Scotland now has eight licensed water and sewerage retailers.

Retail competition is due to be introduced in England in April 2017 while Wales is to retain the existing high volume threshold. The removal of restrictions on entry to the upstream market, which refers to raw water supply and sewage treatment, will follow in 2019. Incumbent water and sewerage companies will also be able to voluntarily exit from the retail market with the consent of the secretary of state. These 'retail exit' provisions were seen by many as essential to allow the retail market to operate properly, and would likely lead to a consolidation of retail businesses, McCreath said.

"Retail exit is a complex issue and it will be important to ensure that effective checks and balances are built into the Exit Regulations to protect both non-household customers that are subject to a transfer and household customers that remain with the incumbent," he said. "The government proposes to carry out a full consultation on retail exit later in 2014."

Changes to the merger regime included in the Water Act will exclude some takeovers from automatic referral to the new Competition and Markets Authority (CMA) if the bidding company makes certain undertakings. The Act will also put in place measures to tackle unsustainable abstraction, and includes provisions to address the availability and affordability of flood insurance.

Alongside these wider reforms, the Act also introduces changes to the regulation of the water sector including separate price controls for wholesale and retail businesses. Separately, a new, outcome-focused risk based approach to regulation (RBR) will put more emphasis on water companies engaging fully with their customers, and encourage operators to become less dependent on the regulatory framework.

"RBR will mean that water companies are likely to face reduced regulatory control but at the same time will have to take on greater responsibility for the management of their businesses," said water industry expert Eluned Watson of Pinsent Masons. "Boards of water companies will have greater ownership and accountability for their business plans and how well they deliver against their proposed outcomes and the protection of the environment in the long term."

"Companies will have more flexibility to innovate and put in place efficiency measures to secure cost savings and greater returns, however, the penalties for failure to comply with statutory requirements and failure to score highly against Ofwat's RBR tests will be higher with reputational and financial risks," she said.