Voluntary Regulation of the Island's Gas Supply
The OFT, the Treasury and the Department of Economic Development have announced a historic voluntary agreement with Manx Gas which will, for the first time, see the regulation of the Island’s gas supply market.
OFT Chairman David Quirk MHK explained: “For many years there has been concern from consumers about gas prices and the OFT has been carefully monitoring the market for over a decade. In 2008, the Council of Ministers published an OFT Report under the Fair Trading Act 1996 into gas prices. Based on specialist economic advice, the report defined an acceptable range of profitability and concluded that the profits of Manx Gas were not excessive. Since then, Manx Gas has adopted the mid-point of that acceptable range and has been providing the OFT with confidential data, which has confirmed that the company has been complying with its voluntary policy. What we are announcing today is a formal voluntary system of regulation which contractually commits Manx Gas to a level of profitability which is below their previous target; and ultimately that means a better deal for consumers.”
The 2008 Report concluded that the most appropriate way of measuring profitability in an industry requiring a high level of capital investment, such as gas supply, is the relationship between profits and the capital cost of the assets used to produce those profits. This concept (which is referred to by accountants and economists as Return on Capital Employed or ROCE) is widely used by utilities regulators. It is emphasised that ROCE is a measure of profitability; it is not the profit margin. The business will set its prices and margins to achieve the level of profitability.
David Quirk continued: “Up to now, Manx Gas has been targeting a rolling average ROCE of 10.6%. The new voluntary agreement, which came into effect on 1st January 2015, will result in a ROCE of 9.99%. The agreement runs for a minimum of 4 years and we estimate that it will give a saving to the Island’s consumers of over £2m over that period, compared to the previous system. Company accounts information and other data will be supplied to the OFT and with assistance from Treasury accountants, we will be able to rigorously monitor compliance with the agreement. Manx Gas will still set its tariffs and prices as it has always done, but under the Agreement those will have to achieve the agreed ROCE of 9.99%.”
Tony Nicholls, Managing Director of Manx Gas commented: “We are pleased that a formal voluntary regulatory agreement is now in place. For the first time, stakeholders will have a clear framework within which performance will be measured. The terms of the agreement are challenging but fair and will enable us to plan for future investment in the network. We look forward to working with the OFT and Treasury to ensure the new regulatory environment delivers benefits to all stakeholders.”
David Quirk concluded: “I am pleased that we have achieved a voluntary Agreement which, based on sound regulatory principles, gives prices that are fair to both consumers and Manx Gas. Pragmatically, we could have looked to introduce statutory regulation but it would have been costly, probably confrontational and would, at the end of the day, have most likely only produced a similar result – any savings achieved for customers would be offset by the cost to tax payers of fully regulating the market. Ultimately, however, prices are always going to be driven by the forward purchase cost of gas on the futures market . Finally I would like to thank OFT staff and Treasury officials for their work in negotiating this Agreement with Manx Gas and the Council of Ministers for its approval and support.”
The Agreement can be accesssed on the OFT website and updates on progress under the Agreement will be posted periodically.