CONTENTS

Foreword

Summary

Inset appointments

Applying for inset appointments — timetable and process

Applying for inset appointments — information requirements

Lessons from the past

APPENDICES

Inset appointments — the legal framework

Licence conditions for existing undertakers

 1. FOREWORD

Inset appointments are an important means of introducing more competition to the water and sewerage industry as they allow some customers, particularly large ones, to choose who provides their water supply and sewerage services. They provide for one supplier to be replaced by another for a specific geographical area.

Some customers have already recognised the value of inset appointments. I have granted three so far and eight more are waiting for customers to give their final consent.

This paper sets out the process and timetable to be followed by Ofwat and for any party interested in applying for an inset appointment. It provides guidance on how to produce an efficient and effective application.

The inset appointment process has not been as straightforward as was envisaged in the July 1995 paper, Competition in the water industry: inset appointments and their regulation. Several complex issues have arisen from practical experience. Discussions between Ofwat and suppliers, customers, potential entrants and other interested parties have also highlighted areas of the process that could be improved. This paper details changes which I believe will improve the application process.

Originally it was envisaged that I would be able to grant an inset appointment around 23 weeks from receipt of an application. Applications have, however, taken longer to process because of the many issues that have arisen in practice. Even with the improved process, the revised timetable envisages that it could take between 16 and 30 weeks to process an application, from its receipt to a point where an inset appointment can be granted. If the inset appointment is complicated by, for example, the need for a bulk supply determination, it may take longer.

The revised process involves direct discussion between the applicant and the current supplier, known as the incumbent, with a greater degree of transparency in the exchange of information. Where this is not forthcoming, I will consider using my powers to ensure information is exchanged between the parties. This will make applying for an inset appointment a more open process. Secondly, the new process recognises that customers and potential applicants will find it helpful to talk to Ofwat about their proposals at the pre-application stage. Too often in the past, applications for inset appointments have been received that were incomplete or inaccurate. This has caused the applications to stall. Early discussion in advance enables us to clarify points of detail and address potential issues as early as possible.

More customers are now taking an interest in competition and the benefits of inset appointments. These customers have a diverse range of businesses, from power stations to hospitals, food manufacturing to heavy industry. This guide should be of greater use to them in considering how to apply for an inset appointment.

I C R BYATT

Director General of Water Services

2. SUMMARY

This paper sets out the process to follow when applying for an inset appointment, including a timetable and Ofwat's information requirements. It gives guidance on various issues regarding inset appointment applications based on Ofwat's experience and sets out how the process can be made more efficient and effective.

The key points made in the document are as follows:

• There is a timetable for processing applications. A straightforward application could take as little as 16 weeks to process. Some applications are more complex, for example if they require a bulk supply determination. These can take considerably longer to process, possibly up to 30 weeks.
• Parties considering applying for inset appointments should discuss their proposals with Ofwat before an application is made. This provides Ofwat with an opportunity to set out information requirements and timetables and to consider any potential issues arising from the application.
• The applicant and the incumbent must exchange material information. Wherever possible, information should be exchanged directly between the applicant and the incumbent rather than involving Ofwat. If this does not happen, the Director General of Water Services (the Director) will consider using his legal powers to obtain information and make it available. He will pursue a process that balances the need for transparency with that for confidentiality and does not place any party at an unfair commercial advantage.
• The status of a proposed area as a greenfield site can be verified by means of a report by an independent surveyor or other similar party. This approach will lessen the scope for disagreement over the details of an application based on the greenfield criterion.
• Ofwat has now adopted a simpler, more formal approach to appraising whether a potential inset Appointee can finance the proper carrying out of its functions as a water and/or sewerage undertaker. The approach places the onus more on the applicant to demonstrate its suitability. Unless the applicant is an established undertaker, it will need to show support for its proposals by a sponsor, parent company or significant investor.
• Regulation of an inset appointment should not be an unnecessary burden for the Appointee. To avoid deterring potential applicants, the licence can be simplified by suspending some conditions. The Director considers that, in some cases, some conditions of the current licence may be an unnecessary imposition on the inset Appointee, particularly new entrants. For example, the Director has adopted a principle that customers whose supplier is changed should be no worse off than if they had remained with the incumbent. This would suspend the need to set a price limit for the inset appointment.

  Suspended conditions would only take full effect if and when the Director decides to implement them and would depend on certain triggers within the conditions. For example, such a trigger may be if an Appointee initially has a single large customer but then gains further customers who will require protection.

• Ofwat can provide for time limited licences for new appointments, where appropriate. This can take the form of the Appointee agreeing to time limit the licence so that the customer is not tied indefinitely to that Appointee. This will facilitate customer choice.

  A time limited licence can also provide a safeguard for customers. It would give the option to terminate a licence where there is a risk of the Appointee not being able to finance or carry out its function.

• Applications for inset appointments can involve new sources of water and new methods of treating effluent. However, inset appointments can be at least partially dependent on bulk supplies or sewer connection agreements. Before an application based on a bulk supply or sewer connection agreement is submitted, both the applicant and the incumbent should attempt to reach agreement on terms. If any terms cannot be agreed, the Director can be asked to make a determination.

3. INSET APPOINTMENTS

What is an inset appointment?

An inset appointment is made when an existing undertaker is replaced by another as the supplier of water and/or sewerage services for one or more customers within a specified geographical area.

There are three circumstances in which inset appointments can be granted:

• For the premises of one or more customers — as long as each premises is supplied (or is likely to be supplied) with not less than 250,000 cubic metres of water in any period of 12 months. The same criterion applies in relation to inset appointments for sewerage services.
• For an area which is not served by an existing undertaker — a 'greenfield site'. This includes areas that may currently be supplied by unregulated or 'private' suppliers. This criterion has to be met for each service included in the inset appointment application.
• An inset appointment can also be granted if an incumbent consents to change its boundary to allow part of its area to be transferred to another undertaker or potential undertaker.

How is an inset appointment regulated?

A successful applicant will be granted an instrument of appointment by the Director to provide either a water and/or sewerage service. This is known as the licence. The area of appointment will be shown clearly in the Director's Register (which is located in the Ofwat Library) and within the Appointee's licence. The holder of a licence will have to carry out the functions, obligations and duties of an undertaker. This includes complying with environmental and water quality obligations regulated by the Environment Agency (EA) and the Drinking Water Inspectorate (DWI) respectively.

In every case, the incumbent will have its licence altered to remove the inset appointment area from its area of appointment for the relevant service.

All existing undertakers already have a licence. Therefore, if an existing undertaker is successful in gaining an inset appointment, it will usually be simpler to vary the undertaker's existing licence to include the inset area, rather than grant a new separate licence requiring separate regulation. The end result is the same and it avoids the Director having to regulate the inset appointment area separately from the undertaker's main area.

An undertaker for an inset appointment (the inset Appointee) has the same legal status and obligations as other undertakers. The level of regulation required, however, may not be as great and the Appointee should not be burdened unnecessarily. This can be achieved by suspending some conditions of the licence which are not immediately applicable. The Appointee's licence may be constructed so that it contains triggers which entitle the Director to bring suspended licence conditions into operation. For example, if the inset appointment is for a single large user, there is no immediate need for conditions prohibiting undue preference or discrimination in charging, as there is no possibility of it being subsidised by other customers. If other customers were to become supplied by the Appointee, then these conditions could be triggered.

The licence for new entrants is discussed further in Section 6.7.

Who can apply for an inset appointment?

The holder of an inset appointment for water must be a limited company or a statutory water company. This can be an existing undertaker or someone seeking to be a new undertaker. The holder of an inset appointment for sewerage must be a limited company.

Every applicant will need to satisfy the Director that it has the managerial competence and financial viability to operate a water or sewerage business. This is to satisfy the Director's duty to ensure that an undertaker can finance and carry out its functions.

Why apply for an inset appointment?

It is not necessary to be appointed in order to provide water and sewerage services. Customers may wish to opt for a private supply if they feel it is more appropriate to their requirements. However, inset appointments have advantages:

• Customers can exercise choice as a result of competition. They do so because they will be better off in terms of price and/or service.
• An inset Appointee operates under a licence regulated by the Director, in the same way as existing undertakers. This provides protection to the customers involved in terms of, for example, the standards of service they receive.
• The licence provides the licence holders with powers to operate, including statutory powers to lay pipes both inside and outside their area of appointment. These powers are not available to unregulated service providers.
• Inset appointments provide incentive for the inset Appointee and the customer to look at ways of being more efficient. For example, new sources of water or new wastewater treatment facilities or methods could be introduced.

4. APPLYING FOR INSET APPOINTMENTS - TIMETABLE AND PROCESS

This chapter sets out the timetable and process for making a inset appointment application. It covers the period before the application is submitted to the approval of the appointment, if successful.

Once the Director has considered the application and he is broadly satisfied with it, then it becomes a proposal by the Director to grant an inset appointment.

The chart provides an overview of the timetable, process and the parties involved at each step. The timings indicated refer to Ofwat's part of the process. Timings are not given for steps that are dependant on the applicant, customer or incumbent. However, we would be concerned about undue delays, particularly by the incumbent (see Section 6.2).

The bold arrows show the process if the formal application meets all the criteria and contains all of the required information. In this instance, Ofwat will attempt to process the application within 16 weeks between the submission and the Director announcing his decision. This will be followed by a period during which the customer confirms its consent for the inset appointment and the appointment is made.

However, as has happened with earlier applications, the process can take considerably longer. This happens if there are matters to be resolved or further information is required after the application is submitted, particularly if the Director is asked to make a determination about terms for a bulk supply agreement or sewer connection agreement. These additional steps are denoted by broken lines.

A description of each step of the process follows the chart. The steps can be considered in four key stages:

• preliminary steps, including discussion with Ofwat before an application is submitted;
• submission and consideration of the application;
• the Director's decision; and
• the customer's consent and the appointment being made.

• The Director must ensure that an inset appointment application meets one of the three qualifying criteria (as a large user, as a greenfield site or by the consent of the incumbent undertaker – see Chapter 3). This is established through the application process.
• Each inset appointment application to date has had some distinct characteristics that have required individual consideration. In many instances, this has had an impact on the time taken to process the application, as new policy has been developed.

It is key to the application process that there is effective communication between the parties involved. This is especially important at the outset and can prevent unnecessary delays in processing the application.

1. Discuss inset appointment proposal with Ofwat — customer, applicant

Ofwat strongly advises that the first step in the process is for the customer and particularly the applicant to discuss their proposals with Ofwat before submission of the formal application. This is discussed further in Section 6.1. All enquiries will be treated confidentially. This is an opportunity to assess whether the proposal will meet the criteria and allows the applicant to fully understand what being an undertaker entails. It allows time for potential problems and issues to be examined and is an opportunity to discuss the costs involved in making an application (see Section 6.9).

2. Prepare a complete application — applicant

The applicant should use the discussions with Ofwat and the incumbent to inform the preparation of a complete inset appointment application. A proposal without full supporting evidence or information cannot be accepted as a valid application. Chapter 5 contains details of the information to be submitted.

2.a. Agree terms of a bulk supply or sewer connection agreement — applicant, incumbent

If the application requires a bulk supply or sewer connection agreement, the applicant and incumbent should negotiate the terms of the agreement before the application is submitted. The complete application should include details of any terms that have been agreed. If parties have been unable to reach agreement on any terms, the application must be accompanied by a request for a determination. This is discussed further at Section 6.6.

Application - submission and consideration

3. Submit complete application to Ofwat and copy to incumbent — applicant

At the time of submission, the application should be copied to the incumbent.

Within 14 days of submission, the applicant must publish a notice of application and provide copies of the notices to Ofwat. On receipt of these notices, Ofwat will record the application in its table of inset appointment applications and appointments, which will be in the public domain.

4. Assessment of the application — Ofwat                                                  Up to 6 weeks

On submission of an application, Ofwat will require up to six weeks to confirm it contains the correct information and meets the criteria and to make enquiries about any part of the application. If the Director considers that the application is broadly satisfactory, he will use the information to formulate a proposal. This proposal will include consideration of which Customer Service Committee (CSC) will represent the customers (see Section 6.8). Ofwat will begin the period of statutory consultation on the proposal. Any outstanding issues can be resolved during this time.

4.a. Determination of terms — Ofwat                                                         Up to 8 weeks

If the parties cannot agree the terms of a bulk supply or sewer connection agreement, the application will be accompanied by a request for the Director to determine the terms. Depending on the nature of the determination request, the Director may require up to eight weeks (as a guide) to gather information and consider the parties' views before making a decision.

Ofwat will, as far as possible, conduct the assessment and determination processes concurrently.

4.b. Decide whether to continue — Applicant

Following the Director's determination of the terms of a bulk supply or sewer connection agreement, the applicant must decide whether it wants to proceed with the application. There is no prescribed time limit within which an applicant must decide. However, price terms will not be available indefinitely and it may become necessary to review them.

5. Statutory public consultation — Ofwat                                            28 days to 12 weeks

If the Director decides to proceed with an application, he is required to consult publicly on his proposal. This must be for a minimum of 28 days. In addition to the public consultation, he will notify the incumbent, the EA and the local authorities in the area about his proposal. If an application raises new issues to be addressed, the consultation period may be extended to ensure proper consideration of these issues.

The Director's decision

6. Consideration of responses to the consultation — Ofwat                          Up to 2 weeks

Before deciding whether to proceed with his proposal, the Director must take account of comments made in response to the consultation. If there are no substantive issues, the Director will make known his intention to make the appointment, informing the incumbent and the applicant first. If substantive objections are raised, the Director will attempt to resolve them as quickly as possible.

7. The Director's intention to make the appointment is made public — Ofwat    Up to 2 weeks

Once the Director is satisfied that there is no impediment to the inset appointment being made, Ofwat will publicise, through a press notice, his intention to proceed, subject to the customer consenting to the appointment.

Consent and appointment

8. Final consent to the proposal — Customer                             At customer's discretion

If the inset appointment is in respect of an existing customer, then the Director is not allowed to make the appointment until the customer gives formal written consent. There is no statutory time limit within which this consent has to be given. If the inset appointment is for a greenfield site, the Director requires a letter of support from the party responsible for the site before proceeding (see Section 6.5).

9. Inset appointment made — Ofwat                                                         Up to 2 weeks

After considering responses to the consultation and receiving consent from the customer, the Director will make the inset appointment. This will be done either by issuing a new licence to a new entrant or by varying the licence of an existing undertaker. The Director is required to notify the incumbent and other parties such as the EA and the local authorities in the area of the inset.

5. APPLYING FOR INSET APPOINTMENTS - INFORMATION REQUIREMENTS

This chapter sets out the information required to make an inset appointment application. All applicants will need to provide the information shown at 5.1 to 5.4. Other information is required depending on the proposal.

There are three main areas of information required:

• information to be provided with every application;
• the criterion on which the application is based; and
• details of the resources, including bulk supplies or sewer connections, to be used for the proposed inset appointment.

Information to be provided with every application

5.1 Notices

For an application to be valid, the applicant needs to give formal notice to the following parties within 14 days of the application being made:

• incumbent supplier(s) - there may be more than one if the inset area straddles boundaries or if the application is for water and sewerage services where they are provided by different incumbents;
• the EA (local office regional manager); and
• all local authorities whose areas include any part of the application site.

• a nationally circulated newspaper (Ofwat suggests the London Gazette); and
• local newspapers circulated throughout the application area.

5.2 Details of the parties involved

Ofwat requires for each applicant, the customer and the incumbent:

• a name and address; and
• the name of the person dealing with the application, their position, telephone number, fax number and e-mail address.

This is discussed in Section 6.4.

5.3 Services

The application should state if it is for water, sewerage or both services.

5.4 Maps

Ofwat requires a site map which clearly and accurately shows the site boundary. It should include details of existing infrastructure, connections and treatment works.

A location map clearly showing the proposed inset appointment area in relation to its surrounding area, including the nearest town, is also required.

5.5 Customer consent

It is the applicant's responsibility to ensure that Ofwat receives a letter from the customer endorsing the application (for greenfield sites, the party responsible for the site may be considered as the customer). This is examined further in Section 6.5.

The criterion on which the application is based

5.6 Is the application for a greenfield site, a large user or by consent?

An inset application must meet one of these three criteria. If it fails to do so, the application is not permitted under legislation.

5.6.1 Greenfield site

Evidence is required to support an application as greenfield (see also Section 6.3).

The application should:

• indicate whether the site is occupied and, if so, by whom;
• indicate whether the occupiers receive a private supply;
• give details of the anticipated customer base for the area;
• include a map showing any existing infrastructure in place in the proposed inset appointment area, who owns the assets and any premises in the locale receiving the benefit of a supply;
• include a map showing any required infrastructure and connections; and
• indicate if pipe-laying powers are required and, if so, whether consent has been granted. If it has not, give details of the proposals.

5.6.2 Large user

Evidence to support an application based on the large user criterion (see Chapter 3) can include:

• copies of previous bills;
• a letter from the customer(s) confirming the level of actual or expected consumption of water; and
• robust demand forecasts.

• where there are separately owned or occupied premises within the inset area;
• where there are existing supply/collection points;
• the size of the main or sewer and the annual volumes normally associated with each;
• details of any on-site storage and water or waste treatment facilities;
• details of any assets owned by the existing undertaker dedicated to supplying the site; and
• if pipe-laying powers are required and, if so, whether consent has been granted. If it has not, details of the proposals should be given.

We will require a letter from the incumbent undertaker consenting to the variation of its area and full supporting details of the proposal. Where relevant, details should:

• indicate whether the site is occupied and, if so, by whom;
• indicate whether the occupiers receive a private supply;
• include details of the anticipated customer base for the area;
• include a map showing any existing infrastructure in place in the proposed inset appointment area, who owns the assets and any premises in the locale receiving the benefit of a supply;
• include a map showing any required infrastructure and connections;
• indicate if pipe-laying powers are required and, if so, whether consent has been granted. If not, give details of the proposals;
• indicate where there are existing supply/collection points;
• indicate the size of the main or sewer and the annual volumes normally associated with each;
• include any on-site storage and water or waste treatment facilities; and
• include any assets owned by the incumbent dedicated to supplying the site.

The Director must be assured that the applicant has access to, or ownership of, the necessary assets in order to operate the appointment.

In order to facilitate the process the following information should be provided with the inset appointment application (on a map where necessary):

• the source/treatment works;
• any infrastructure and connections to premises;
• whether the site is self-contained or whether it will be linked to the applicant's existing infrastructure;
• what assets are to be used; and
• details of any investment required, including length and size of pipes, size of works, how long it will take to complete the capital cost and how this cost is to be recovered.

• Has ownership/access to the necessary assets been secured? If not, how is ownership/access proposed and to what timescale?
• Is consent required from any third parties? If not obtained, when will it be available?
• Are pipe-laying powers required and, if so, has consent been granted? If not, what are the proposals?

Where an applicant proposes making a new connection to the site (ie using resources or works not controlled by the incumbent), information should be provided about the planned investment.

This information includes:

• system capacity;
• demand projections (both domestic and industrial);
• the source and cost of funding involved;
• grants and capital contributions expected;
• estimates of expenditure on capital and operating costs; and
• target levels of service provision and leakage control.

In addition to the information at 5.7 and 5.7.1, applicants must specify:

• where each new source of water will come from;
• the volume of water that each new source will provide;
• how the water will be transported;
• how long new infrastructure will take to build; and
• if an abstraction licence is required, whether it has been applied for from the EA, if so, when and whether it has been granted.

In addition to the information at 5.7 and 5.7.1, applicants must specify:

• how sewerage services will be provided;
• whether the necessary infrastructure is in place and if not, how long the new infrastructure will take to build; and
• if a consent to discharge is required, whether it has been applied for from the EA, if so, when and whether it has been granted.

Where an application is based on a bulk supply or sewer connection agreement the applicant will have negotiated the terms with the incumbent and sought an agreement on them before the application is submitted (see also Section 6.6).

5.8.1 Bulk supply agreements

The application should specify:

• which company has been asked to provide the bulk supply;
• details of terms which have been agreed with the incumbent;
• details of terms which have not been agreed with the incumbent; and
• reasons and assumptions supporting proposals for terms.

5.8.2 Sewer connection agreements

The application should specify:

• which company has been asked to provide the sewer connection;
• details of terms which have been agreed with the incumbent;
• details of terms which have not been agreed with the incumbent; and
• reasons and assumptions supporting the proposals for terms.

5.9 Charges information

Before an appointment or variation is made, the Director needs to understand clearly what the customers on the site will be charged by their new undertaker. He requires the application to show clearly:

• the proposed charges for each class of customer (ie measured and unmeasured, household and non-household customers) showing fixed charges, volumetric charges, standard charges and special agreements;
• how the proposed charges compare to existing charges levied (if any) and how the proposed charges will change over time; and
• details of the capital investment required to provide the service and how this investment is to be recovered other than through the tariff (for example, by a capital contribution from the customer).

6. LESSONS FROM THE PAST

This chapter explains how Ofwat's processes and policies for inset appointment applications have developed and why they have come about.

Important issues have come to light when dealing with inset appointment applications. The resolution of these issues and the experience gained has helped to develop Ofwat's policies on competition and improve the efficiency and effectiveness of the application process.

Inset appointment applications so far

Ofwat has received inset appointment applications for water only, sewerage only and for both water and sewerage. There have been applications in respect of customers who are single, large users and for greenfield sites.

Most applications have not involved the development of new resources or new sewage treatment facilities. Instead a broker has sought to drive down the price of the existing service towards what it believes to be the cost of supply. The broker looks to negotiate with the incumbent for a bulk supply of water or the use of its sewerage system at a price based on the cost of supply. Negotiations between applicants and incumbents have had mixed success as there is less incentive for the incumbent than for the applicant to reach an agreement. In many cases, therefore, the Director has been asked to determine the price at which the incumbent should provide the service. The Director has also been asked to resolve disputes about non-price terms in agreements, such as provision for their termination.

The use of arbitrage, however, is one approach. It is also possible for inset appointments to be based on new or renewed sources of water, or new or innovative ways of treating and disposing of effluent. The most recent applications have not involved brokerage arrangements. Some businesses already have their own source of water and many treat their own wastewater, so it may be easier for these customers to benefit from competition.

6.1 Discussion before submitting an application

Ofwat strongly recommends that parties who are considering applying for inset appointments should discuss their proposals with Ofwat before a formal application is made.

Guidance on the best way to make an application can be provided to potential applicants. Experience has shown that it is helpful to discuss detailed proposals in advance. It is an opportunity to ensure that the submitted application will contain the necessary information. It also provides early notice of any new issues and allows time for them to be addressed.

A number of inset appointment applications received by the Director have been incomplete. For example, submissions have been made before negotiations over bulk supply agreements have been attempted. This causes delays in processing the application, as the applicant has had to enter into negotiations. In such circumstances, Ofwat is unable to progress the application until these matters have been clarified and points of disagreement are resolved.

The time between submitting an application based on a bulk supply or a sewer connection agreement and the Director receiving a subsequent request to determine the disputed terms has delayed progress in moving competition forward. Terms should be discussed before applying to the Director for a determination and an application made only when terms cannot be agreed.

If the Director is asked to determine any part of the agreement, he needs to be satisfied that the two parties have attempted negotiation but have been unable to reach agreement.

He requires the application to include details and dates of discussions held between the two parties and evidence of what was resolved and what remains to be resolved.

Each party will be invited by the Director to comment upon the evidence provided.

When agreement has been reached, the application would be at the equivalent stage to one based on the applicant's own resources.

6.2 Exchange of information

The applicant and the incumbent undertaker must exchange material information. In particular, where a bulk supply of water or sewer connection is requested, the Director expects the parties to exchange information as part of the negotiations. Information should be exchanged directly between the applicant and the incumbent, rather than involving Ofwat. In the event of disputes, however, the Director will pursue a course that balances the need for transparency with that for confidentiality and which does not place any party at an unfair commercial advantage.

To date, there has been a reluctance to exchange information, particularly by the incumbent. Often this is because one party considers the information to be commercially sensitive. A more open and transparent approach should stimulate the incumbent and applicant to negotiate on more equal terms than they might otherwise have done. This is important in challenging the incumbent's market power, especially in the early days of competition.

An approach has been devised to facilitate the inset process. An applicant seeking information which an incumbent considers commercially sensitive provides a written undertaking to the incumbent not to disclose or discuss the information with third parties.

When an incumbent refuses to participate in exchanging information, the Director will consider using his powers to obtain the information from the incumbent and disclose it to the applicant for comment. He is satisfied that he may do this for the purpose of fulfilling his duty to facilitate competition. The Director may be persuaded that particular information is sufficiently commercially confidential that it should not be divulged. However, if he still believes that publication is required for the proper discharge of one of his functions, he will give the party a further opportunity to show why this should not happen.

Nevertheless, non-disclosure must not be allowed to prejudice the outcome of the inset process. If one party is not prepared to disclose information to the other party, the Director may decide not to attach any particular weight to that information when deciding how to proceed.

Where a substantive response to a request is required, the Director will usually allow one month. Failure to comment on evidence provided by the other party may be regarded as acceptance of it.

Case Study 1: exchange of information Enviro-Logic submitted a number of inset appointment applications in Severn Trent Water's area requiring sewer connection agreements. The two parties could not reach agreement on the terms and the Director was required to make a determination. As part of the process for determining price terms, it was necessary to make Severn Trent Water's estimates of long run marginal costs available to Enviro-Logic. Severn Trent Water considered this information commercially sensitive and was reluctant to release it, particularly given Enviro-Logic's links to Pennon Group plc (formerly South West Water plc). Enviro-Logic suggested that it could provide assurances to Severn Trent Water that it would not disclose the information to Pennon, other third parties or otherwise misuse it. All parties felt that this was a reasonable approach. Severn Trent Water was satisfied with Enviro-Logic's assurances and the information was exchanged. This enabled the Director to make his determination in a transparent way based on information held by both parties.

6.3 Criteria for greenfield site applications 

The Director must be assured that every inset appointment application is valid, based on one of the following consent criteria: greenfield site, large user or incumbent. He will make a decision based on detailed information that he requires from the parties involved. This is a complex issue with respect to greenfield sites.

For greenfield sites, the Director requires an application to be supported by evidence that the site contains no premises that are, or will be, connected to an undertaker's mains or sewers at the time when the appointment is to be granted. Any premises for which a connection is demonstrated to exist are to be excluded from the proposed inset appointment area. The Director recognises, however, that this is a complex and difficult area for applicants to investigate.

The Director will not formulate a proposal to make an inset appointment for a site that is not correctly defined. He requires verification of the status of the proposed area as a greenfield site. This should take the form of a report by an independent surveyor, for example, an Ofwat Reporter (see Section 5.6.1). The applicant must be able to demonstrate to the surveyor that the site is greenfield. This should also take into account the view of the incumbent.

The extent of any connected premises will be judged on the facts of each case but may be expected to include not only buildings but also any associated land that has the benefit of a connection. For example, in the case of a large farm, as well as the connected buildings there may be nearby fields in which there are cattle troughs receiving a water supply. These fields can be said to have the benefit of a connection and would be excluded from the area of an inset appointment. More distant fields, that do not have the benefit of such a connection, would not be part of the premises served although part of the same farm. Therefore, they could be included in the application.

This issue was of particular relevance in Hartlepool Water's application to provide a water supply for Wynyard Park in Northumbrian Water's area of supply.

Case study 2: premises served Hartlepool Water applied in October 1997 to become the water undertaker for a new development at Wynyard Park, near Wolviston on Teesside. The development is in Northumbrian Water's area but is adjacent to Hartlepool Water's existing Water Supply Area. Within the proposed inset appointment area there were premises identified in Hartlepool Water's licence as part of its Water Supply Area, although not within its area map. This means that Hartlepool Water was already the statutory undertaker for these premises. Therefore, they could not be part of its application. This raised the issue of what is meant by premises and how to determine the extent of these premises. The Water Industry Act 1991 gives no guidance other than to say that premises are not just buildings. Ofwat's view is that only buildings and land that have the benefit of a connection were, in this case, premises served. An alternative view is that it includes any land attached to a building, raising the possibility that huge areas (eg hill farms) could qualify as premises served. After further consideration, Hartlepool Water accepted Ofwat's view and the area of the application was modified to exclude the agreed extent of the premises served.

 The Wynyard Park application highlighted the need to verify the extent of the area of an application based on the greenfield criterion. It also highlighted that the applicant should be sure that there are no premises served within the area of an application.

Following this approach will lessen the scope for disagreement over the details of the application and thus assist the processing of the application by Ofwat.

6.4 Managerial competence and financial viability

Section 2(2)(b) of the Water Industry Act 1991 requires the Director to exercise his functions in the manner that he considers is best calculated to ensure that undertakers are able to finance the proper carrying out of their functions. This applies to all licence holders, including inset Appointees.

The Director needs to be satisfied that the holder of each inset appointment can finance the proper carrying out of its functions. Varying degrees of substantiation may be required by Ofwat depending upon the circumstances of the application. An assessment will be made for each application based on its individual circumstances. Less substantiation may be required for established licence holders who have proved their standing or where the inset appointment represents only a small fraction of the Appointed Business. More substantiation will be required for a new entrant needing to employ significant capital.

The size and financial impact of a new inset appointment relative to the existing business needs to be considered, as well as the financial and operational support of parent companies and investing partners.

We envisage that there are four main scenarios to guide our assessment of an applicant's viability. This is not exhaustive and future applications may give rise to new situations.

1. The applicant is an existing undertaker of proven standing and is of sufficient size relative to the inset application.

2.The applicant is a new entrant to the industry or an existing undertaker:

i. for which an inset appointment would represent a relatively large increase in the size of its financial commitments; and
ii. which is reliant on financial institutions or non-undertakers for its working capital.

i. for which an inset appointment would represent a relatively large increase in the size of its financial commitments; and
ii. which has the backing of a parent company or significant investor, or which is an undertaker and is of sufficient size and financial credibility.

i. for which an inset appointment would represent a relatively small increase in the size of its financial commitments; and
ii. which does not have the backing of a parent company or significant investor, which is an undertaker.

In any case, the Director is still required to form his own judgement about the applicant's eligibility. The approaches outlined do not guarantee that the Director will accept the applicant as an undertaker, but he will take these statements into account when forming his judgement.

References to 'present requirements' are interpreted to mean at least until the end of the next full financial year.

Scenario 1

If the applicant is an existing undertaker of proven standing and is of sufficient size relative to the inset application, it will not be necessary to provide the same assurances as in other scenarios. However, Ofwat still requires a written statement from the applicant that:

• The directors of the applicant company confirm in writing to the Director that:

i. they are an undertaker;
ii. that in their opinion the company has sufficient working capital to meet its present requirements; and
iii. that in their opinion the company has sufficient relevant experience (such as access to staff) of operating in the water and sewerage industry to carry out its duties as an undertaker.

This involves a sponsor vouching for the applicant's ability to carry out the duties it would acquire as an Appointee in terms of managerial competence and financial viability. The sponsor should be of good standing, such as a merchant bank or a firm of stockbrokers, accountants or solicitors.

The framework for this approach is as follows:

• The directors of the applicant company confirm in writing to the Director that in their opinion, the company has sufficient working capital to meet its present requirements and sufficient relevant experience (such as access to staff) of operating in the water and sewerage industry to carry out its duties as an undertaker.
• The directors of the applicant company appoint a sponsor who reports to the Director in writing that:

i. it has obtained written confirmation from the applicant that the working capital available to the applicant is sufficient for its present requirements;
ii. it is satisfied that this confirmation has been given after due and careful enquiry by the applicant and that the persons or institutions providing finance have stated in writing that the relevant financing facilities exist; and
iii. it is satisfied that the applicant has sufficient relevant experience of operating in the water and sewerage industry to carry out its duties as an undertaker.
• The sponsor should be an authorised person under the Financial Services Act 1986 or a credit institution able to carry on a business in the United Kingdom under the provisions of the Second Banking Directive. The applicant may propose to appoint as its sponsor an organisation that already has knowledge of the proposals (eg its bankers or accountants).
• The Director needs to be satisfied that the sponsor is competent to discharge its responsibilities. He retains, therefore, the right to reject any potential sponsor. The applicant should inform the Director at the earliest opportunity who it intends to appoint as its sponsor.

Scenario 3

This is similar in approach to Scenario 2 but the functions of the sponsor are replaced by the parent company or significant investor. They will provide a statement of support or comfort, in terms of the applicant's managerial competence and financial viability.

The framework for this approach is as follows:

• The directors of the applicant company confirm in writing to the Director that in their opinion the company has sufficient working capital to meet its present requirements and sufficient relevant experience (such as access to staff) of operating in the water and sewerage industry to carry out its duties as an undertaker.
• The parent company or significant investor confirm in writing to the Director that:

i. the parent company or significant investor is an undertaker;
ii. the parent company or significant investor is a significant shareholder of the applicant and confirms what the shareholding in percentage terms is;
iii. the parent company or significant investor confirms that the persons or institutions who are providing finance (other than the parent or significant investor) have stated in writing that the relevant financing facilities exist;
iv. the parent company or significant investor is committed to supplying financial support to the applicant and that this is sufficient for its present requirements; and;
v. the parent company or significant investor is satisfied that the applicant has sufficient relevant experience of operating in the water and sewerage industry to carry out its duties as an undertaker, or that the parent company or significant investor is prepared to offer guidance or expertise where necessary.
• The parent company or significant investor must be an undertaker and have knowledge of the proposals for the inset appointment.
• The parent company or significant investor must be of sufficient size and financial credibility to be competent to discharge its responsibilities. The Director, therefore, retains the right to reject any statement from a parent company or significant investor and insist on an appropriate sponsor, as in Scenario 2.
• The statements from the applicant and its parent company or significant investor will be placed in the Ofwat Library, at the time the Director makes the appointment. The appointment cannot be made until both statements are received.

This is similar in approach to Scenario 2, except the applicant has enough funds at its disposal. Therefore, the sponsor is only required to vouch for the applicant's managerial ability to carry out the duties it would acquire as an Appointee. The sponsor should be of good standing, such as a merchant bank or a firm of stockbrokers, accountants or solicitors.

The framework for this approach is as follows:

• The directors of the applicant company confirm in writing to the Director that in their opinion the company has sufficient working capital to meet its present requirements and sufficient relevant experience (such as access to staff) of operating in the water and sewerage industry to carry out its duties as an undertaker.
• The directors of the applicant company appoint a sponsor who reports to the Director in writing that it is satisfied that the applicant has sufficient relevant experience of operating in the water and sewerage industry to carry out its duties as an undertaker.
• The sponsor should be an authorised person under the Financial Services Act 1986 or a credit institution able to carry on a business in the United Kingdom under the provisions of the Second Banking Directive. The applicant may propose to appoint as its sponsor an organisation which already has knowledge of its proposals (eg its bankers or accountants).
• The Director needs to be satisfied that the sponsor is competent to discharge its responsibilities. He retains, therefore, the right to reject any potential sponsor. The applicant should inform the Director at the earliest opportunity who it intends to appoint as its sponsor.
• The statements from the applicant and its sponsor will be placed in the Ofwat Library at the time the Director makes the appointment. The appointment cannot be made until both statements are received.

In addition to these assessments of viability, Ofwat may consider additional controls for individual inset appointments. For instance, it may be possible to control the risk of projects whose financial viability in the medium to long term is not certain, by granting licences with early termination provisions. As with existing licences, an undertaker will continue to operate until such time as notice is given and comes into effect. These new licences could also run indefinitely but might be terminated with a shorter notice period and after less time. It could be possible to grant a licence operating in a similar manner but with shorter time periods, for example a five year licence with a one year notice period.

Should an Appointee breach its duties such that it became inappropriate for it to continue to hold its appointment, then the Secretary of State or the Director may apply to the High Court for a Special Administration Order. This enables the court to appoint a Special Administrator who takes the running of the business out of the Appointee's hands, pending the appointment of a replacement undertaker.

Time limited licences can also facilitate customer choice. If the customer wishes, the Appointee can agree to time limit the licence so that the customer is not tied to that Appointee indefinitely. It gives the customer the option to change its undertaker at a future date if it feels it can find a better deal elsewhere.

6.5 Customer consent

Where an inset appointment is made in respect of a large user, the Water Industry Act 1991 requires that the Director cannot make the appointment until the customer in relation to the premises consents in writing to the appointment.

Although the legislation does not specify at which point of the process consent is required, the Director recognises that it would be unreasonable for a customer to give formal and final consent before it was aware of the final position. The customer may decide not to proceed with an inset appointment, once the Director has made his decision that the appointment can be made.

It is the applicant's responsibility to ensure that Ofwat receives a letter from the customer endorsing the application when it is submitted. The customer would then provide the required written consent before the Director finally grants or varies the appointment.

In the case of sites that are greenfield or where one undertaker consents to transfer to another, the legislation does not specify that customer agreement is required. However, the Director requires that the parties responsible for the site should provide written support for the appointment or variation before he makes the appointment.

The Director is mindful that inset applications for greenfield sites could be made for speculative purposes. To avoid this, the Director requires an indication from the applicant of who the customers are to be on the site.

There is no prescribed time limit within which customers have to decide whether to proceed when the Director has made known his intention to make the inset appointment. The Director may request from the customer a timescale within which it will make the decision. However, if the timescale is too long, the information on which the application is based may become out of date and it may be necessary to re-evaluate the application.

6.6 Bulk supply agreements and sewer connection agreements

Applications for inset appointments can involve new sources of water and new methods of treating effluent. However, inset appointments may be partially dependent on bulk supplies or sewer connection agreements.

Before an application based on a bulk supply or sewer connection agreement is submitted, the applicant and the undertaker should have negotiated and attempted to reach agreement on terms, in particular on the price terms of the bulk supply or sewer connection. If agreement cannot be reached, the Director can be asked to determine whether the agreement is necessary or expedient and what its terms should be.

A general approach to price determinations for bulk supplies or sewer connections will apply to all cases. There are a number of principles which do not necessarily carry the same weight for all determinations. Each case will be treated on its own merits. They may raise issues which are not reflected in the general methodology but which the Director may have to take into account when making his determination.

Bulk supply agreements

Generally, the Director will use the principle of long run marginal cost (LRMC) when determining a price for a bulk supply. Existing undertakers have provided estimates of LRMC as part of their supply and demand balance submissions for the 1999 Periodic Review. Using these estimates when determining a price will be consistent with promoting efficiency of water use and resource development. Prices must not give the wrong economic signals to customers.

The Director will also have regard to large user tariffs offered by the incumbent. He supported the introduction of large user tariffs based on cost savings in the distribution system when compared with supplies to other companies. If large user tariffs are believed to be at a level above the LRMC of supply, there could be scope to determine bulk supply prices at a lower level than the prevailing large user tariff.

The customer's individual characteristics will also be considered. Large user tariffs are set for a class of customer across a region who usually tend to have similar characteristics. However, there may be circumstances where the customer's characteristics are notably different from the class of customer. For example, a customer may use considerably more water than most other members of its class. As such, the customer in question may have very different costs of supply from the regional average cost reflected in the tariff. This may mean that the customer warrants different treatment from the class. In some cases, these customers are not regarded by the incumbent as part of the class and are supplied and charged by means of individual special agreements.

It is important to establish the grounds for any special agreements. If a company cannot explain why some customers receive special prices when others do not, the Director could decide to set the bulk supply price with reference to prevailing special agreements.

The availability of resources both locally and throughout the incumbent's region is a potentially significant factor in a bulk supply determination. Therefore, before making a price determination, the Director has to consult the EA.

Sewer connection agreements

The general principles outlined above for water will also apply to determining sewer connection agreements.

The LRMC of treating and disposing of effluent is as relevant a factor in considering sewer connections as the LRMC of water is for bulk supplies of water. It is, however, a more complex issue. Particular emphasis is placed on the treatment of effluent. The Director considers that competition can be facilitated through the use of alternative ways of treating and disposing of effluent or reducing its strength. Artificially low treatment charges would reduce the incentive to look for cheaper ways of treating and disposing of effluent.

Generally, sewer connection prices will be determined with reference to the elements of the Mogden formula: reception and conveyance, primary treatment, biological treatment and sludge disposal and treatment.

Customers who discharge large volumes of effluent may only use a limited proportion of the sewerage network (ie not the 'local' network). In principle, these customers could benefit from a reduction in the reception and conveyance element, as long as the marginal costs of treating effluent are recovered.

As for water, reference will be made to an incumbent's prevailing tariffs and special agreements. It is important that companies do not set tariffs or special agreements below cost in order to prevent competition emerging. If an incumbent cannot explain why some customers receive special prices when others do not, the Director could decide to set the sewer connection price with reference to prevailing special agreements.

When making a sewer connection there is an issue about the status of the pipes to be connected. This is discussed in Appendix 1.

6.7 The licence for new entrants

The Director considers that in some instances some conditions of the current licence may be an unnecessary imposition on the inset Appointee, particularly new entrants. This is especially relevant where the inset appointment is for a single, large customer and does not involve other customers.

Several of the proposed conditions of appointment will only take full effect if and when the Director decides to implement them. Each of these conditions contains a trigger which the Director may operate, once it becomes available to him.

The Director wishes to ensure, as far as possible, that the potential application of any of these conditions to an inset Appointee should not deter potential applicants from pursuing the possibility of becoming a water and/or a sewerage undertaker. The following notes explain how the Director proposes to approach the question whether, once the trigger in a condition is available to him, it should be activated.

A full schedule of licence conditions is shown in Appendix 2.

Charging - Conditions B, C, D, and E

The Director will make a judgement about whether the Appointee's new customers need the additional protection of a price limit set by him. He would then be able to test the Appointee's charging proposals against that limit and to check that the charges are neither unduly discriminatory nor unduly preferential. The Director considers that this will not normally be necessary if those customers' interests are otherwise protected, for example, because the Appointee's charges to them do not exceed what they would have paid for the equivalent service had they chosen not to change their water and/or sewerage service provider.

An example is where a housing association that previously supplied water and sewerage services for a housing development chooses to relinquish its water and sewerage responsibilities to an existing undertaker. The housing association may be expected to accept the best commercial deal it can. However, its choice of supplier may not be the same as the residents of the housing development, who will remain with the undertaker for the future. In order to protect such customers, the Director has therefore adopted this principle that they should be no worse off on average than if they had remained with the current undertaker. This means that average charges should be no more than they would otherwise have been. This does not prevent, however, the inset Appointee from charging less than the incumbent's tariffs.

Case study 3: 'no worse off' There have been inset appointments where domestic customers who received a private supply have undergone a change of supplier through no choice of their own. An example of this is the inset appointment for MoD Tidworth, a garrison town lying in the areas of Wessex Water and Southern Water, for which the MoD supplied water and sewerage services. The MoD wanted to transfer the responsibility of supplying these services to an undertaker. One possibility was for Wessex Water and Southern Water, as the incumbents, to take over. Instead, the MoD chose Thames Water to become the inset Appointee for Tidworth for both water and sewerage. As the domestic customers had no choice in the matter, Ofwat took the view that they should be at least no worse off on average as a result of competition, than if their supply had reverted to the incumbents. Thames Water agreed to this principle and decided, for convenience, to charge according to Wessex Water's and Southern Water's tariffs.

The Director will also take into consideration the numbers and types of new customers and the extent to which they have been able to secure the protection of their own interests by agreement with the Appointee.

Accounting information - Condition F

This condition is designed to enable the Director to identify those of the Appointee's costs which are properly attributable to its conduct of the Appointed Business. This is particularly important whenever the Appointee buys in from associated companies (companies within its group) any resources it requires for the Appointed Business. Therefore, this condition is to apply from the date of the appointment.

However the Director does not believe that it will be necessary to insist upon full compliance with the condition's detailed requirements, beyond the submission of the regulatory accounts and current cost accounting statements. Unless he believes that the Appointee is (or may be) at risk of trading with associated companies at less than arm's length (that is, on terms which do not reflect market prices or, if market testing is not practicable, are not properly reflective of the costs concerned).

In such a case, the Director will require the Appointee to provide him with whatever information he may specify, to enable him to decide whether to require fuller compliance with the detailed requirements of this condition.

Customer service and protection — Conditions G, H, I, J, and Q

These conditions may be triggered whenever the Appointee acquires a customer who is a householder. For this purpose, the supply of water or sewerage services for domestic purposes to business premises would not count.

Although it will be open to the Director to require full compliance with the condition concerned, he may, in particular circumstances, be prepared to accept some less formal arrangement.

The Director would not normally implement any of these conditions unless there is evidence, such as customer complaints, that the additional protection provided by these conditions is necessary. He will ask the CSC to keep matters under review. Where he proposes to implement these conditions, he will take into account the views of the Appointee.

Underground asset management plan — Condition L

The requirement to provide an underground asset management plan is unlikely to arise, so long as the large user inset Appointee relies upon either a bulk supply of water from a neighbouring undertaker or a sewer connection agreement to a neighbouring undertaker's system. In these cases, there is a presumption that the inset Appointee will control only minimal infrastructure of its own (the necessary connection to the neighbouring system) and will not operate any treatment works.

However, the Director will review the situation whenever it appears that the inset Appointee's current obligations to its customers have necessitated the provision of additional infrastructure, whether within or outside its water supply or sewerage service area. In practice, this issue may arise when the Director is considering the need to apply conditions B to E (see above) if the demands of an extended customer base require the Appointee to invest in system capacity or infrastructure.

6.8 Customer Service Committees

All customers of regulated undertakers in England and Wales are represented by a CSC which the Director established to look after the interests of customers. Ofwat will decide, after consultation with the relevant CSC chairmen, which CSC is most appropriate to represent customers of the inset Appointee. Usually, this will be the CSC in whose area the customers lie. The following principles will be applied to each case:

• Where customers receive water and sewerage services from different companies they should normally be represented by one CSC.
• A single company is normally allocated to one CSC. However, where an Appointee is acting outside its own area, it can be allocated to more than one CSC if this will avoid geographical anomalies.
• Those customers taken over by a company allocated to a different CSC should normally continue to be represented by the local CSC, who will be familiar with their concerns. Examples where this could apply include company mergers or takeovers and inset areas distant from the Appointee's main area.
• Where an inset appointment is close to the companies' boundary, the allocation of a CSC will be looked at on an individual basis. Issues to be considered will include:
  i. which CSC is currently responsible for the billing company;
  ii. which CSC has local knowledge; and
  iii. would customers have to change CSC and would this be beneficial?

6.9 Costs

Ofwat's incidental costs which arise when processing an application, such as the cost of placing newspaper notices, will need to be paid for by the applicant.

APPENDIX 1: INSET APPOINTMENTS — THE LEGAL FRAMEWORK

Structure of the water and sewerage industry

In 1989 the ten water authorities in England and Wales were privatised and licences were granted to operate geographical monopolies for all aspects of water and sewerage services. The effect of privatisation was that these authorities became statutory water and sewerage undertakers. The water only companies, that were already operating under statute, also became licence holders and subject to the regulatory regime as set out in the Water Act 1989.

Every area of England and Wales is allocated one water undertaker and one sewerage undertaker. Not all customers, however, receive their services from licensed undertakers because not all suppliers of water and sewerage services became part of the regulatory regime at privatisation. These private suppliers were, and still are, able to supply water and sewerage services as long as they have the resources and assets to do so. They serve a range of customers, from single premises to towns. They do not operate under Government licence and are not regulated by Ofwat. It is possible for people to develop their own supply and service. Private and individual supplies and services are regulated, however, by local authorities. They monitor quality standards to the same regulations as licensed undertakers are monitored by the EA.

Inset appointments — legal framework

The framework for inset appointments is set out in the Water Industry Act 1991 (WIA) as amended by the Competition and Service (Utilities) Act 1992. The key points can be considered under the following categories:

• the Director's duties;
• the basis for inset appointments and the process of application;
• other key points; and
• and bulk supply agreements and sewer connection agreements.

Section 2 of the WIA imposes the following general duties on the Director with regard to the way in which he carries out his role. He has a duty to:

• Secure that the functions of a water undertaker and of a sewerage undertaker are properly carried out for every part of England and Wales and to secure that undertakers are able to finance the proper carrying out of their functions. This gives rise to the need for the Director to ensure that he is satisfied that inset applicants have the managerial competence and financial viability to carry out their functions as an undertaker. This is discussed in Chapter 6.
• Protect the interests of every person who is a customer or potential customer of a company which has been or may be appointed to be an undertaker. This applies principally to the charges applied by the undertaker and to the quality of its service.
• Promote economy and efficiency on the part of any undertaker in the carrying out of its functions.
• Facilitate effective competition, both between undertakers and those seeking to become undertakers.

Section 7 of the WIA sets out the criteria by which an inset appointment can be made where:

• the incumbent consents to the variation of its area of supply; or
• the inset appointment relates only to parts of the incumbent's area in which none of the premises is served by that company; or
• each of the relevant premises are, or are likely to be, supplied with not less than 250 megalitres of water in any period of 12 months and the person who is the customer in relation to the premises consents in writing to the appointment or variation.

Section 8 of the WIA sets out the procedure for making an inset appointment.

'The existing Appointee', in relation to a variation replacing a company as a relevant undertaker for the inset area, means the company which is replaced in relation to the whole or any part of the area to which the variation relates or, where there is more than one such company, each of them.

• Within 14 days after making an application, the applicant shall:

i. serve notice of the application on the existing Appointee, the EA and on every local authority whose area includes the whole or any part of the area to which the application relates; and
ii. publish a copy of the notice in such manner as may be prescribed.
• Before making a variation to replace a company as a relevant undertaker, the Director shall give notice:
i. stating that he proposes to make the inset appointment;
ii. stating the reasons why he proposes to make it; and
iii. specifying the period (not being less than 28 days from the date of publication of the notice) that representations or objections with respect to the proposal may be made.

• As soon as practicable after making an inset appointment, the Director shall:

i. serve a copy of it on the existing Appointee; and
ii. serve notice of it on the EA and on every local authority whose area includes the whole or any part of the area to which the inset appointment relates.

Section 6 sets out how appointments are made. A water undertaker must be a limited company or a statutory water company and a sewerage undertaker must be a limited company.

Section 9 requires the Director to consider any representations or objections made as a response when he gives notice that he proposes to make an appointment. He must also pay regard to any arrangements made or expenditure made by the existing Appointee for the purpose of serving premises in the area.

Section 11 provides for the Director to impose conditions that he considers to be requisite or expedient with regard to his duties.

Section 28 covers the allocation of each Appointee, including inset Appointees, to a CSC.

Section 36 sets out that premises are served by an Appointee if they are supplied with water by means of a connection with a distribution main (a water main that is not a trunk main) of that company. For sewerage, premises are served if they are drained by means of a relevant sewer (one that is vested or will be vested in that company). These definitions have meant that a way of validating greenfield sites has had to be developed. This is discussed in more detail in Chapter 6.

Bulk supplies of water and sewer connections

Section 40 sets out the framework for the Director to determine the terms of a bulk supply where such a determination is requested. The Director must have regard to the desirability of facilitating effective competition in the water industry. A determination can be made where the Director is satisfied that an applicant and the undertaker from which it requires a bulk supply cannot agree on the terms for the supply. He may, by order, require the supplier to give and the applicant to take such a supply for such a period and on such terms and conditions as may be provided in the order.

An order made under this section may be expressed not to come into force until the applicant becomes a water undertaker for the area specified in the order, or for an area which includes that area. At that time, it takes effect as an agreement between the supplier and the applicant.

The Director must consult the EA before he makes any order of this type.

The Director must have regard to:

• the supplier recovering the expenses of complying with its obligations under the order and securing a reasonable return on its capital;
• the supplier being able to meet its existing obligations, and likely future obligations, to supply water without having to incur unreasonable expenditure in carrying out works; and
• not putting at risk the ability of the supplier to meet its existing obligations, or likely future obligations, to supply water.

Sewer connection agreements

Section 110A set out the framework for the Director to determine the terms for new connections between an inset Appointee's public sewer and one belonging to a neighbouring undertaker. It is constructed in a similar way to Section 40, which covers bulk supplies of water, but allows for a connection:

• between a sewer or disposal main and a sewer or disposal main; and
• so that a sewer or disposal main can discharge directly into a sewage disposal works.

If premises are situated within a single curtilage, it is likely that they are served by a drain, rather than by a sewer or disposal main. If this is the case, the Director is not able to order a sewer connection agreement in respect of any of the connections between one of these pipes and the receiving public sewer.

However, sewerage undertakers have pipe-laying powers, both in the street and on private land. These powers allow a new entrant to lay a pipe which would be deemed to be a sewer for the drainage of an inset area. A customer can, therefore, be equipped with a new pipe in place of the existing connection to the public sewer. The new entrant could then require the incumbent to permit a new connection to that or any other public sewer. Because that new pipe would, in law, be a sewer, the Director could then determine a sewer connection agreement.

In such a case, it may be that the new pipe might be inserted into the existing pipe or be laid separately over all or some length of the existing pipe. In each case, it is likely that at least part of the new pipe will have to be laid in the incumbent's area. The inset applicant will need the consent of the incumbent to lay pipes within the incumbent's area. The Director is empowered to give that consent if the incumbent refuses.

There is apparently no viable alternative to this approach. The Director must ensure that he acts within his powers when considering whether to order a sewer connection agreement.

APPENDIX 2: LICENCE CONDITIONS FOR EXISTING UNDERTAKERS

In 1989 the Secretaries of State for the Environment and for Wales appointed companies to provide water and sewerage services for the whole of England and Wales. The conditions of appointment were set out in a licence (called the Instrument of Appointment). The licence imposes the conditions on the companies which the Director is required to enforce.

There are currently ten companies providing water and sewerage services and 17 providing water only. Each licence specifies the geographical area served by the company. The principal conditions of appointment are common to all companies. The licence is concerned with economic regulation of the industry price control, ensuring that the supply and quality of service are maintained and protecting the interests of customers.

Condition A: explains terms and expressions used in the licence.

Condition B — Charges: requires that each company's average increase in charges must not exceed the sum of the change in the Retail Price Index over the previous year and a factor called K. It requires each company to produce an annual Principal Statement so that Ofwat can verify its tariffs are in line with its price limit.

It provides for a review of all K factors by the Director at ten yearly intervals, or after five years at the request of the companies or the Director. If a company disputes his determination it may require him to refer it to the Monopolies and Mergers Commission (MMC) for a fresh determination.

Condition B also sets out the circumstances under which the Director or company can request an interim determination to adjust K factors between Periodic Reviews.

Condition C — Infrastructure charges: limits the amount and rate of increase in company charges for the first-time provision to any premises of a water supply or sewerage service for domestic purposes. At the Periodic Review in 1994, the Director judged that such charges should be restricted to the cost of developing the local network and that they should be limited to £200 for each service in 1995–96, with rises only in line with inflation.

This condition was modified in 1991 so that the calculation of these charges for premises that are not individual units of accommodation (for example, hotels and sheltered housing) may better reflect the likely demand for the service in comparison with an ordinary house.

Condition D — Charges schemes: requires undertakers to fix and publicise their charges for water and sewerage services and infrastructure charges. The company may, however, agree with a customer some other charge for any of those services.

Condition E — Discrimination in charging: prohibits undue preference to, or undue discrimination against, any class of customer or potential customer for standard charges. If non-standard charges are involved, this relates to any one individual customer (or potential customer).

Condition F — Accounting information: details the accounts and financial information which companies are required to produce to enable the Director to assess their affairs and compare their financial position and performance. Every year each company must provide the Director with a certificate of resources stating that, in the directors' opinion, the company will have sufficient financial and managerial resources to enable it to fulfil its functions for the following year. Each company must tell the Director about any new business ventures (diversifications) and must consider the impact on its ability to finance and manage the regulated business. If the board thinks it may be material, it must renew the annual certificate of adequacy of financial and management resources.

Condition G — Relations with customers and CSCs: requires companies to obtain the Director's approval and publish Codes of Practice for customers. These should describe services provided, charges, billing arrangements, meter reading and complaint handling. The companies are also required to meet their designated regional CSC at least once a year and to advise their customers about the CSC's role.

Condition H — Code of Practice and Procedure on Debt and Disconnection: all companies must have a Code of Practice that includes guidance for domestic customers who have difficulty paying bills and sets out the procedures the company must follow before it disconnects the supply. Companies are required to make reasonable attempts to reach agreement with customers on payment before giving notice of disconnection. The condition also sets out when disconnection should not take place.