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Are IDNOs margins about to be squeezed? - tmrw. test

Are IDNOs margins about to be squeezed?

Earlier this month, voting closed on a potential rule change that could have important consequences for the network charges faced by electricity Licenced Distribution Network Operators (LDNOs), including independent network operators (IDNOs).

DCUSA proposal DCP266 The Calculation and Application of IDNO Discounts was raised by British Gas in March 2016 and has since been developed by a workgroup. It is seeking to change the way that distribution use of system (DUoS) revenues are allocated between host DNOs and downstream networks.

Currently, IDNOs receive a discount on the “all the way” DUoS tariff charged by the host DNO, which is broadly meant to represent the network service that they provide to the customer. The IDNOs then normally charge their customers the full “all-the-way” tariff and retain the difference. The proposal would change how that discount is calculated in the common distribution charging methodology (CDCM) for connection at low or high voltage and therefore would directly impacts IDNO revenues.

British Gas said it was seeking to achieve a better allocation of revenues between an LDNO and the host DNO to ensure an LDNO can receive the same margin as the host DNO’s notional downstream business. It argued there is a disconnect between the models that create the tariffs, as the Price Control Disaggregation Model that determines the portion of the all-the-way revenue that an LDNO should retain uses a total cost approach, but the CDCM uses an incremental cost approach. British Gas believes that this will not produce a reasonable allocation of the total costs of the elements of the DNO’s business, and therefore proposed a different approach: the avoided total cost would be compared with the average p/kWh figure for each all-the-way CDCM tariff in order to determine the IDNO percentage discount figure to be applied.

The impact on each IDNO would depend upon the profile of its customer base. For most tariffs in most DNO areas and at most boundary levels, DCP266 would raise percentage discounts. Taking all DNO areas together, the impact assessment indicated that it would increase LDNO margins at CDCM boundary levels by 2.29% (£897,568) in 2018-19 and 1.55% (£800,125) in 2019-20. However, for some high-volume tariffs, notably domestic unrestricted tariffs, the modification would in most cases lower discounts (see Figure 1).

Source: Electralink, DCUSA Change Report 

Concerns about the proposal included whether a case for change had been made and the fairness of the resulting allocation was questioned. However, a key issue was whether the proposal could represent a case of “margin squeeze” as an abuse of market dominance under UK/EU competition law. This proved a highly contentious issue that saw three workgroup members resign, and legal and Ofgem advice sought around the appropriate approach, including conducting an As Efficient Competitor test. The workgroup terminated without resolving the issue, but it was suggested that DCUSA Parties consider this when voting on their recommendation to Ofgem. The proposal has been recommended for rejection, although DNOs as a class recommended implementation; the regulator’s decision is now awaited.

If you would like to know more about our services for IDNOs please contact Pixie Energy via enquiries@pixie-energy.com or on 01603 542093.

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