Ofgem’s targeted charging review decisions

In November, Ofgem published its final targeted charging review (TCR) decisions. In this update, we consider who will be affected, what will happen next, and some key actions for interested parties

12 December 2019

What has Ofgem decided?

The TCR considered how residual network charges should be recovered and embedded benefits changed to reflect decentralisation and that electricity increasingly flows from distribution networks onto the transmission network as well as in the other direction.

In its decisions Ofgem announced that:

  • residual network charges will be levied on final demand users and recovered via fixed charges. The changes will be implemented in stages, with reforms to transmission charges being introduced in 2021 and to distribution charges in 2022;
  • two embedded benefits will be reformed:
    • Transmission Generation Residual charges will be set to zero (subject to ensuring compliance with EU Regulation 838/2010); and
    • the ability for suppliers to reduce their liability for balancing services charges by contracting with small distributed generators will be removed. This will be achieved by recovering balancing services charges from suppliers based on gross consumption (rather than net consumption, factoring in embedded generation) at grid supply points where distribution networks meet the transmission network; and
  • a third embedded benefit, that small distributed generators do not pay balancing services charges, is not being removed now but will be considered by a Balancing Services Taskforce which will look at who should pay balancing charges and on what basis.

Who will be affected?

Consumers, embedded generators and suppliers:

  • consumers: Ofgem anticipates that domestic households will pay less and non-domestic consumers will pay more. Consumers with onsite generation will, on average, pay more, whereas those without onsite generation will, on average, pay less. Overall, Ofgem’s modelling suggests that its reforms should result in savings to consumers of £3.8-5.3bn and provide a system benefit of £0.8-2.9bn in the period to 2040;
  • embedded generators: their revenue streams will be affected (regardless of technology type) because fewer embedded benefits will be available. Fewer savings achieved by suppliers means less revenue that can be shared with embedded generators. However, Ofgem hopes that the changes will not detrimentally impact investment and believes that decarbonisation can be delivered at significantly lower cost to consumers. During the TCR some argued that certain types of generation should be treated differently to others, but Ofgem’s view is that all generation should face network charges reflective of the costs they impose on the system – if certain technologies require additional support/subsidy in connection with wider policy goals (e.g. meeting renewables targets) Ofgem argues that this should be dealt with separately and explicitly rather than through distortions to network charges; and
  • suppliers: will be impacted, but will seek to mitigate their financial exposure to the changes by passing costs through to their customers and paying embedded generators less for the benefits associated with their output.

What happens next?

Ofgem has issued detailed directions so that modifications to relevant industry codes are raised to give effect to its decisions.

The modification procedures under those codes are not entirely within Ofgem’s control, but Ofgem has made it clear that it expects the relevant licensees to work together on the necessary modifications, and that these should be submitted to Ofgem for approval in good time so that they can be implemented in line with Ofgem’s desired timings.

Ofgem has also stated that it will, if necessary, use its powers under the “duty to co-operate” electricity licence conditions and/or issue a “backstop direction” if code modifications do not meet its expected policy direction or timelines for implementation.

Key actions

  • Interested parties should consider the impact of Ofgem’s decisions and if they are signatories to industry codes that will be modified to implement those decisions, should engage via the relevant modification procedures in order to make their voices heard.
  • Distributed generators should:
    • review their existing power purchase and route to market arrangements to analyse how these may be affected, and whether they contain any change in law provisions which could be invoked when the changes announced to embedded benefits take effect to protect against or mitigate any associated loss of revenue;
    • seek to ensure, where possible, that any new arrangements price in those changes from the outset and include change in law protection to cover any future changes (e.g. any further changes to embedded benefits resulting from the Balancing Services Taskforce’s work); and
    • non-domestic consumers may wish to engage with their suppliers to ensure that they are categorised/banded (and thus billed) correctly when the changes to residual network charges are introduced.

Further information

Ofgem’s decision and associated documents are available here.

More information on the background to the TCR is available in our article on key energy sector developments to look out for in 2019.

If you have any questions on the content of this update, or the impact of Ofgem’s decisions for your business, please contact James Phillips or Peter Ramsden.

This article was written by Peter Ramsden.

 

 

Key contact

James Phillips

James Phillips Partner

  • Head of Oil and Gas
  • Energy, Power and Utilities
  • Environment

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