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'Divest water businesses'
Separate ways: water and sewerage businesses should stand alone
by Karma Ockenden
It would be more economic to separate out the water business from the big ten water and sewerage companies than to vertically separate them, according to research from the Aston Centre for Critical Infrastructure and Services (ACCIS).
The centre, part of Aston University, said current costs could be cut by around 13 per cent if water and sewerage activities were separated (while remaining vertically integrated), while costs would be 26 per cent higher if abstraction, treatment and network activities were not performed by integrated companies.
Current policy is tending towards vertically separating activities that could be opened to competition.
David Saal, economist and deputy director of ACCIS, noted that companies such as Severn Trent already chose to organise their businesses as separate water, sewerage and retail operations. He said: "Our results provide no real reason why water and sewerage should be integrated."
Melinda Acutt, director at ICS Consulting, called vertical integration economies "intuitively obvious ... the integrated company has an incentive to take investment and operating decisions that reduce costs or increase efficiency wherever the benefits are felt throughout the integrated supply chain."
But according to Tim Keyworth, Ofwat chief economist: "Vertical separation can have positive and negative impacts on efficiency."
He defended the Cave Review's recommendation of the legal separation of retail, and the regulator's preliminary moves towards accounting separation and separate price controls for different parts of water businesses. "Our work indicates that these types of separation would not be expected to give rise to significant negative economy of scope impacts," he said. Mergers: water companies are already too big
The ACCIS research also took issue with policy proposals to allow more water sector mergers. Noting that the big ten firms were "extremely large" by international standards, it suggested that all but the smallest water-only companies were operating with diseconomies of scale. It cautioned against allowing more consolidation because "candidate mergers are likely to result in firms beyond efficient scale size".
Saal acknowledged that larger firms had financing advantages, but said smaller companies put in a better operating performance. "There is academic evidence to suggest that, historically, the costs of the big ten companies' water operations have been higher than that of the water-only companies," he said. He said some companies effectively divided their water businesses into smaller operations already.
Source: Utility Week
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