Given the challenges and uncertainties now facing the British gas industry and its customers, the new price control will require more than a straightforward updating and carrying forward of the current price control.

Recognising the time pressures on completion of the review, Transco will give the highest priority to working with Ofgem and the rest of the industry to establish a clear, forward-looking basis for its strategy, outputs, customer service standards and resources.

Transco believes the regulatory framework needs to take account of the changing priorities.

"For gas consumers, it is important that the right balance is struck between the adequacy and integrity of Britain’s gas infrastructure in terms of supply security and safety, and its efficiency. As we face the need for substantial new capital requirements, the next price control must not discourage investment", says Transco.

The key uncertainties identified by Transco are:

• Gas demand is growing, but supplies from the UK are tightening. It is likely that increased imports will be required and the European Interconnector means that the British gas market is now inextricably linked to Continental Europe. Transco’s primary infrastructure, the National Transmission System (NTS), is likely to require significant investment if Britain’s wholesalers and suppliers are to procure gas competitively from a diversity of supply sources.
• With gas now established as the preferred fuel for energy generation, there is growing inter-dependence between the gas and electricity transportation systems which, under the New Electricity Trading Arrangements, may make greater demands on the responsiveness of the gas supply system.
• In the light of continuing developments in public safety standards, substantial additional funding will be required if existing programmes to improve safety are accelerated in tripartite discussions with Ofgem and the Health and Safety Executive.
• The Utilities Act 2000 has introduced new social and environmental obligations which need to be addressed in the review. Tackling fuel poverty, connecting non-gas areas to the mains network and reducing greenhouse gas emissions will impact on Transco’s scope of activities.

Other key points identified by Transco are:

• Keeping open the possibility of reducing Transco’:s regulated value, on which the company earns a return for investors - the focus/unfocus issue - by as much as £2 billion continues to reinforce the perception of regulatory uncertainty in the eyes of capital markets – with detrimental implications for Transco’s capital structure, cost of capital and hence ability to raise new funds for investment. The issue has been carefully considered twice by the Monopolies and Mergers Commission. On both occasions, it concluded that to focus the asset value would be 'arbitrary'. No new information is provided which might reverse this conclusion. (See Notes to Editors).
• The National Grid is an inappropriate benchmark for Transco’s cost of capital. The Initial Thoughts paper suggested that the cost of capital for Transco may be below the 6.25 per cent assumption applied to the Grid in 2000. Transco is different from the Grid in that it has local distribution networks, which are more comparable to the regional electricity companies, as well as a national transmission system. The Grid aligns with less than 20 per cent of Transco’s assets and the external environment of the gas industry is also different and inherently more uncertain. Transco believes its cost of capital to be at least 7 per cent in pre-tax real terms. This is consistent with the conclusions of the Competition Commission’:s reviews of two water companies published last August.
• The proposal to have separate price controls for the National Transmission System (NTS) and local distribution zones (LDZs) is welcome, as is Ofgem’s willingness to consult on the development of separate price controls for each LDZ. Transco believes this would provide a basis for greater autonomy and accountability, sharpening management focus and encouraging greater responsiveness to customers’ local needs.
• Transco also welcomes recognition of the need for early removal of price controls from an unbundled metering business.

Notes to Editors

1. The new Transco price control is due to come in to effect in April 2002. Under the timetable Ofgem is due to publish draft proposals in June 2001 with final proposals being published in September 2001.
2. Transco – part of Lattice Group plc – is the owner, operator and developer of the majority of Britain’s gas transportation system. Its network supplies almost half the country’s energy needs.
3. Transco’s customers are approximately 60 gas shippers.
4. Focus/unfocus When British Gas was privatised in 1986 the Government sold the company to the public for less than the book value of the assets in its accounts. Those who bought shares benefited from a 'privatisation discount'. Some of the British Gas businesses were subject to regulation because they were monopolies. The focus/unfocus debate centres on whether the 1986 privatisation discount should be spread equally across all of British Gas or focused entirely on the regulated business. The latter approach would have the effect of reducing the value of the assets on which Transco can earn its regulated rate of return. Transco’:s asset base is currently valued at £12.6 billion. The ‘unfocused’ approach, confirmed twice by the Monopolies and Mergers Commission, spread the privatisation discount equally across all the assets, regulated and unregulated, which British Gas owned at privatisation.