Ring fence review: energy networks call for input
Options
Summary
This section outlines the options we are proposing.
What we want to do
We want to find the best option for strengthening the ring fence.
Details
Our three potential options are:
- Maintain existing approach
- Higher intervention approach to strengthening the ring fence
- Detailed review and targeted approach to strengthening the ring fence
If we need to take action, we may choose a combination of these options.
Option 1: Maintain existing approach
Maintaining the current provisions may be an option, considering that the network companies have survived the financial crisis and more recent volatility in commodity markets relatively intact.
However, these crises highlight that even seemingly well-capitalised businesses can quickly face insolvency pressures.
These events have primarily impacted the retail and water sector so far, but we have seen some evidence of potential consumer harm in the energy network sector through our initial assessment.
Given the issues identified, a ‘do nothing’ approach is not considered appropriate.
Option 2: Higher intervention approach to strengthening the ring fence
There are several additional requirements we could consider bringing into the licence that would allow us to more closely scrutinise the financial health of network companies.
Reserve requirements
We could introduce a requirement for network companies to hold specified sums in reserve facilities. This will provide funding for the network business if other sources of funding became unavailable.
Similar liquidity requirements exist in the banking sector and have recently been introduced by us to apply to the retail sector.
Further tightening of dividend lock-up
We have already proposed amending the dividend lock-up trigger in our RIIO-3 Sector Specific Methodology Decision.
We could consider further tightening the dividend lock-up by prohibiting certain interest payments on loans from intercompany entities, shareholders or related parties once the lock-up is triggered, viewing such payments as forms of distribution.
Additional restriction of activity
We could put forward proposals to prohibit specific risky activities if we conclude these may be contrary to the consumer interest. For example, whole business securitisations and structures with debt issued above the licensed entity which is reliant on dividend flows for servicing.
Closer scrutiny of ownership structures
We recognise that, as ownership structures become more complex, they may also become less transparent.
In some instances, there may be multiple controlling interests including limited partnership funds with undisclosed investors.
Transparency around the ultimate owners may promote accountability, which could be in the interest of consumers so we may consider requesting the disclosure of all investors rather than just those with a controlling interest.
Option 3: Detailed review and targeted approach to strengthening the ring fence
Adopting a set of more robust measures across the board may provide us with greater assurance as to the effectiveness of the ring fence. But this could be perceived as placing an increased regulatory burden on energy networks.
At the same time, the evidence identified so far indicates that it would not be appropriate to continue to rely on the existing provisions.
A third option is to take a more targeted approach by reviewing the existing licence conditions for any gaps or inconsistencies. This includes looking at current regulatory submissions to identify areas where more guidance is required.
As well as looking at our existing framework we would perform a review of the licensees’ corporate structures, statutory accounts and request additional information if needed.
Through this review, we would:
- engage closely with licensees to better understand their current financing practices and details of any transactions or activities that could impact the ring fence
- engage closely with consumer groups, investors and any other interested stakeholders to understand their perspectives
- consider the areas which may benefit from additional requirements, guidance and increased monitoring