1. Structure of Distribution Charges A User’s perspective David Tolley Innogy & Npower

2. 2 Network charges in the electricity market Move towards distributed generation increases need for charging structures to provide locational signals Seamless treatment between transmission and treatment would resolve the “Solway Firth” question Licence Conditions require compliance with principles of non- discrimination; cost reflection and not distorting competition. Competitive Monopolistic Grey Area competitive pressures force innovation and economic efficiency The Grey Area Some competition possible

3. 3 Charging Principles Cost reflection. Of course … but which costs? Marginal or average, historic, modern equivalent, or future. Simplicity. No! Creates distortion, inhibits cost reflection, increases opacity. Might lower transaction costs but that should be a consideration below Ease of implementation. Transaction costs should be a consideration here. Transparency. Yes, but implies sophistication. Need for supplementary documentation and processes. Predictability. Important in terms of both charging structures and levels.

4. 4 Supplementary charging principles Flexibility to changing market conditions. –Yes, but notions of tradable access rights have been misconstrued. Cannot “commoditise” the the transportation of electricity Facilitate competition –Wider importance than just the traded markets of generation and supply. Pressure must be sustained in the “grey area” to encourage efficiency in the monopolistic area. Consistency with social and environmental objectives. –Yes, but should not distort underlying economics.

5. 5 Application principles Siting signals essential for efficient evolution of networks Monopolistic charges should reflect long run marginal costs, I.e. marginal costs that include cost of incremental investment Importance of connection boundary not so much about barriers to entry but ensuring charges are “cost reflective” … and thus encourage efficient siting Harmonisation of application important - “simplifies” charging approaches for the user

6. 6 Governance Should be a composite of “hard” and “soft” governance –Hard governance makes clear rules and timetables; –Soft governance requires Users forum to enable issues to be fully understood before proposals are made, and to obviate “piecemeal” approach to resolving issues.. No distinction between transmission and distribution. Why not a NUSC rather than a CUSC and DUSC. Description and rationale for charging methodologies are an essential adjunct to charging statements, as is publication of pricing models.

7. 7 Connection boundary Connection costs will be a consideration in project evaluation, but main importance of connection boundary is that it should discriminate between the charging principles that apply either side of it. Users Network Competitive Connections Potentially contestable Use of System Monopolistic Load Generation Connection charges Reflect opportunity cost to connected party. Implies: asset linked based on historic cost reasonable rate of return Use of system charges Reflect LRMC for economic efficiency; also raise sufficient revenue to meet regulatory principle of capital maintenance.

8. 8 Definition of connection assets Problem of boundary definition still exists but criteria for its location now defined Current transmission conceptual basis right - recent NGC thinking must be rebutted Connection assets are those for the sole use of a User or group of Users. Sole use should not be the criterion since it does not encourage sharing (I.e efficiency). Free riding issue addressed by giving first user financial rights to assets. Connection assets a function of both geography and voltage. EHV should be within price control, but connection assets could be without!

9. 9 Use of System charges Consultation paper “thin” on basis for UoS methodology LRMC, but how should this be applied. Current methodology is based on average costs allocated on kW or kWh. No efficiency signals. Transmission approach conceptually right. ICRP created charges reflect incremental costs to system in siting of demand or generation. Currently based on a “transport” model that costs the “distance” power must travel to meet demand. Generally believed that basing approach on a DC power flow model would be an improvement. Easier to visualise DC power flows in a distribution context..

10. 10 Is it practical to apply ICRP to Distribution? 10 MW 50 MW 132 kV 33 kV 11 kV 1 MW 3 MW 15 MW 33 kV CHP 400 kV ICRP identifies costs and benefits of adding increments of load or generation at specific locations Expansion constants need to reflect attributes of different parts of the system GSP based models? Sufficiently large to provide stability to charges, but sufficiently disaggregated to reflect local topography. Probabilistic approach to treatment of generation (and load) dictates minimum size of model. Model could reflect surplus capacity where appropriate. ICRP provides locational siting message - not full cost recovery.

11. 11 Detailed implementation issues Generators already connected –Need to identify implicit financial rights that have already been acquired in terms of connection assets, O&M. use of the system, otherwise double charging will occur (breach of charging principle) Power Factor Charges. Determined from cost of correcting low power factor not from proportion of system, I.e effectively capped by cost of local correction. –Part of “Grey area” since User has choice. Charges should ensure efficient outcome of that choice. EHV charges. Voltage should not be the consideration in their regulation. Distinction between connection and use of system could be.

12. 12 In conclusion Generic charging approach needed for both distribution and transmission Distinction between use of system and connection charges must be developed to aid economic efficiency Connection charges should be based on opportunity cost to User Use of System charging methodology should be consistent between transmission and distribution - solves 132 kV problem ICRP model should at least be a contender for distribution Governance must facilitate open discussion in a holistic manner

13. Structure of Distribution Charges A User’s perspective