Ofgem allows only initial funding in RIIO-3

(by Verity Mitchell)

Ofgem has published price controls for electricity transmission and gas networks. Compared to the £104bn of totex for water, Ofgem is only allowing £28.1bn of upfront investment across the electricity transmission (ET), gas transmission (GT), and gas distribution (GD) price controls. Ofgem said this is a 16% increase from the draft determinations, based on better supporting evidence and updated modelling. The regulator admitted that this is only part of a wider investment pipeline of around £90bn over the RIIO-3 period, which runs from 1 April 2026 until 31 March 2031.

In electricity transmission, £10.3bn of upfront funding was allowed. The approved investment will fund 80 transmission projects and associated works nationwide over the next five years. This will significantly increase grid capacity through new power lines, substations and other technologies. The £10.3bn is only a portion of the total prospective investment in electricity transmission. More evidence and clarity is needed on the network configuration before another interim price control can be agreed. Across the RIIO-ET3 period, over £70bn of investment may be required. £17.8bn will go towards maintaining Britain’s gas networks.

Ofgem has set a higher cost of capital than either Ofwat or the Competition and Markets Authority (CMA). For electricity transmission, for a 55% regulatory debt assumption, Ofgem offered a (real) range of 4.42%-4.66%, compared to 4.03% for water companies at final determination and the CMA’s assumption of 4.29%.

However, its allowed cost of equity at 5.7%, although higher than Ofwat’s final determination of 5.1%, is lower than the CMA’s redetermination for the water appellants at 5.9%. Ofgem is also changing its iboxx benchmark cost of debt index from utilities to non-financials as it said this will reduce the allowed return on debt, removing volatility derived from water sector debt. Unlike Ofwat, it is introducing a nominal allowance for fixed-rate debt, which it said would reduce the exposure of consumers to inflation. It assumed that only 10% of funding in electricity transmission is index-linked debt. For gas, the index-linked debt assumption is 30% of the total.

In terms of the cost to household customers,  £108 will be added to bills by 2031, £48 for gas and £60 for electricity. The bills have been profiled so that the initial impact on network charges for April 2026 is lower with a smoother transition to higher charges over the following five years as investment in the electricity network steps up. Ofgem claimed that, alongside maintaining grid resilience, this investment will deliver significant savings of around £80 compared to not expanding the grid. 

Ofgem's scrutiny has delivered savings of over £4.5bn (15%) against the companies’ initial £33bn proposals. The regulator also set out an overall incentive package through which companies can earn a higher level of additional return, if they outperform targets and deliver network investment which would result in short and long-term reductions to consumer bills.