Official Report 275KB pdf
The next item on the agenda is our water inquiry. I invite the water industry commissioner for Scotland, Alan Sutherland, and his colleagues to join us.
First off, I thank the committee for inviting us to talk to members today.
Thanks very much. Your opening statement raises many issues, which we will address in our questions.
What is your general view on the present corporate structure of the three Scottish water authorities?
What do you mean by corporate structure?
The fact that there are three authorities, which operate separately.
There are three aspects to that question—the service, the cost and the implications of changing the structure—two of which I am probably qualified to address.
What might be the advantage of collaboration among, rather than a combination of, the three authorities?
If I were to answer that with my former private sector management consultant's hat on, I would tell you that it is normally much easier to combine entities than to get separate entities to collaborate. However, given the fact that the water authorities are in the public sector and report to the Scottish Parliament through the Executive, it should be possible to ensure that they operate in the same way, through collaboration. I suspect that that is a question of what the Parliament wants.
From the customers' point of view, what disparities result from the tripartite structure?
The level of service for domestic customers differs significantly between the three authorities. We have conducted two rounds of audits of customer complaints against an objective framework that assesses handling and customer service. I am glad that all the authorities have improved over the two rounds. However, North of Scotland Water Authority's standard of domestic customer service remains much higher than that of the other authorities.
If we ended up with a single Scottish water authority, would that significantly disadvantage customers in the west and east by increasing the price that they paid? Would they be asked to share in paying for the service to people in the north? Would not customers in the west and east feel aggrieved, as their charges have already built up the service in their areas?
You raise a point that is an economic fact. If charges for domestic customers were harmonised across Scotland, the change would impact on bills in the east and, to a greater extent, in the west. In Scotland, 80 per cent of households are in the east or the west. For every £10 that could be taken off bills in the north to bring them closer to the average in the east and west, the impact for the east and the west would be about £2. Harmonisation would mean that a relatively small amount was added to bills, at this stage. For example, if charges were harmonised now, the cost for the average household in the east or the west would be about £5 or £6.
Would that be £5 or £6 per annum?
Yes.
I will return to a topic raised by Des McNulty. I have a simple question. Would having one water authority for the whole of Scotland make your job easier?
We would handle less data. Instead of handling three sets of data, we would have only one set. The customer service aspect of our work would not change, because we would still ensure that customer service was delivered to the whole of Scotland properly and effectively. The potential disadvantage of the change would be the loss of comparisons between authorities and of our ability to cajole or encourage a water authority to do better on customer service by pointing out that its neighbour had done a better job than it during that quarter. On balance, having one water authority would probably make the job slightly easier.
I will press you on the perceived savings of combining rather than collaborating. I cannot get my head round why having one authority rather than three should make a difference to an industry that has so much money invested in fixed assets. You suggested that, in a competitive market, only a new entrant could offer a pan-Scotland deal for large users with sites across Scotland. Surely any one of the three water authorities could also offer a pan-Scotland deal in such a market.
I will address the question about one set of data, because that particularly affects my office. I tried to say that the implication for us would be moderately less work. The change would not have a great impact on the economics of the water industry. I would not consider that as one of the possible collaborative or structural benefits. Nora Radcliffe is right to say that it would be open to NOSWA, WSW or ESW to enter into a pan-Scotland contract with a multi-site user. However, if an authority did that, the current structure would mean lost revenue for the other authorities and an increase in charges for households and businesses in those authorities' areas.
Why would that happen? I presume that authorities would increase charges to obtain revenue equal to the loss, but if it is viable for a private company to enter the market, why is it not viable for an existing authority?
Entering the market is perfectly viable for the entity that wins the business, but it means that the other two entities lose a little bit or quite a large amount of business. For example, if ESW supplied all Tesco stores in Scotland, NOSWA and WSW would lose revenue, which would result in a shortfall in those authorities' accounts, which other customers would have to make up. However, ESW customers would gain benefits from the contract.
However, if we are talking about common carriage, which there would have to be for such a situation to occur, would not the other two authorities gain by charging for the use of their pipework?
Yes, but the authorities would not receive as much as they would for providing the full service. The authorities that did not win the contract would not contribute to customer service, customer billing or other activities.
Can you envisage a swings-and-roundabouts scenario where, for example, ESW does Tesco, WSW does Asda and NOSWA does Safeway?
Yes—theoretically, that could happen. However, the caveat is that a commercial company is likely to enter into such an arrangement because the deal that it can get across Scotland is, on average, better than the three separate deals combined. In that sense, there would be a loss of revenue to the Scottish industry as a whole.
It is arguable how it would all pan out.
You asked about the benefits of collaboration. The most simple example is bulk buying—procurement. The water authorities are among the top two or three customers of both Scottish Hydro-Electric and Scottish Power. They use an awful lot of electricity. It would be possible for the authorities to get together and use their buying power to obtain a slightly better deal. The benefits would be neither insignificant, nor huge. A bigger benefit might come from joining the three capital programmes together and taking advantage of economies of scale. That would have a particular benefit in the NOSWA area, because in some areas of the Highlands it can be difficult to get high-quality contractors at good prices. Bundling that work with other work in areas where contractors are happier to carry out large jobs would enable the authorities to get a better price.
You mentioned the higher percentage costs that industrial customers pay in Scotland compared with south of the border. What about the actual costs compared to percentage costs? Are commercial customers paying more for water in Scotland than they would, for example, in the Thames Water area?
There is a range of costs and the situation is not clear cut. Average domestic bills in the east and west of Scotland are the two lowest across the whole of the UK. The average NOSWA domestic bill is moderately higher than the UK average, but not much. Anglian Water, South West Water and Welsh Water all have higher bills, despite the recent price cuts in England and Wales.
Some of the Scottish water authorities may be less efficient than some of their English counterparts, but they also deliver some services that are cheaper than those of the authorities with which they are compared. Could it be said that the most important factors are the scale of past and current investment and the geographic and economic circumstances of the area that the authorities cover, rather than just the management efficiency of the operator?
No. I am afraid that you have taken a step too far. I wish that that were the case. Bills are at the level they are in Scotland because we are storing up problems for the future. We are not able to cover the current outgoings of the industry and, at current revenue levels, there is no prospect of our covering them. Even if we were to make all the efficiencies in operational expenditure that we have identified, as well as the capital expenditure efficiencies that we are seeking, the investment that would be required to achieve an industry that is genuinely sustainable and is not getting any worse would be such that prices across Scotland would still have to rise.
How do you judge improvement or deterioration in the overall performance factors? Do you use the same comparison basis for each authority?
Yes. Since our office was set up and I took up my post on 1 November last year, we have been taking the definitions that were created by the Office of Water Services, which regulates the industry in England and Wales, and adapting them so as to take account of the special factors in Scotland. For example, there are many very small sewage works in Scotland, which would not fit into an appropriate Ofwat category. They would fit into an Ofwat category with a lot of bigger works, which have different economics.
How do comparative balance sheets work? Are they equitable from one area to another? No one has inherited depreciation charges, fixed asset conditions, future capital expenditure and so on.
The asset bases of the three authorities vary in two ways. First, they have different sorts of assets, as required to provide their services. That goes back to the point I made earlier about the fact that the north of Scotland needs more water mains to supply households. On average, the Highlands and Islands need 60m per household, whereas in England and Wales and in the central belt of Scotland, much less is needed. Similarly, in terms of water treatment works and waste water treatment works, there is a need for more, smaller assets in the north than there is in the central belt.
Are the main tasks in the north still laying pipelines to deliver water and establishing more sewage treatment works?
Work to improve the quality of drinking water is being undertaken, particularly in small communities, so particularly in the Highland area.
What are the main tasks facing the other authorities? What do they have to bring up to scratch?
Waste water sewerage is a major issue not just for NOSWA but for all three authorities. The quality of pipes is also an issue. For example, WSW has the highest rate of burst pipes per kilometre of mains pipeline in Scotland.
Does it have an even higher rate than the Highlands?
Yes.
I find that surprising—the burst pipes must all be in Argyll. Sorry—that was a joke. Do not put that on the record.
There is a clear, universal service obligation on the water authorities. I assume that no one intends to remove that obligation, therefore I hope that we will continue with that approach. There is clear consensus among everyone we meet that that approach should continue.
Are you proactive, rather than reactive, about trying to look into the future to predict population trends?
Everything that the water authorities do is designed to be proactive. That is why they go through a water quality and standards programme with the Scottish Environment Protection Agency, the Scottish Executive and my office. We consider what, where and when infrastructure will be required, how much investment is required in order to bring water quality up to scratch and where waste water and water treatment will be required. We plan to make funds available when required.
I want to return to the comparators. You seem to be giving mixed messages. You talked about rigorous criteria for comparing the three water authorities, but then you explained how different the authorities are and their approach to the service that they must provide. According to the statistic that you gave us, NOSWA takes 60m of pipes in the Highlands to provide services to one user, while Thames Water takes only 10m. You keep comparing water authorities in Scotland to Thames Water. I would be concerned if you measured the performance of our three water authorities against the performance of such an authority, which has a completely different service delivery background.
I can reassure you on that point, as we do not compare the Scottish authorities at a macro level. We consider the structure of the assets of each of the three authorities and how much each individual asset should cost to run and then we aggregate those figures. The process is very much bottom up—it is not top down. We are not saying that supplying 1 million households should cost X amount, therefore supplying 1 million households in the north of Scotland should cost the same. We are saying, "This is your mix of assets in the north of Scotland. You have this type of water quality, you have this many small assets and this many big ones and you have this amount of main. Because of that, it is fair to give you this amount of money."
I will not ask you to take us through that methodology, but would it be useful for the committee to receive a written submission on it?
An easy-to-digest summary of the process might be useful for members.
We could certainly provide that information. That would be no problem at all.
I start by picking up on Mr Sutherland's response to Maureen Macmillan on the condition of the inherited asset bases in the three water authorities. Is there any substance to the argument that, to a degree, the poorer asset base in the north of Scotland reflected the largely discretionary allocation of borrowing consent to the relevant local authorities before reorganisation? It has also been argued that, in a sense, ESW and WSW benefited from the local government set-up and from the revenue support grant over a number of years, as they picked up more investment than NOSWA did. Therefore, it could be argued that consumers in the north are being penalised by having more of the necessary investment back-loaded into an era when a far higher proportion of investment was generated by direct charges on consumers.
I have never seen data that explains in detail how much money was spent on either the operation or the capital development of any of the former water boards or regional council departments. I cannot comment on that, although I can talk about the situation today. Through the efforts of the water authorities and, no doubt, our cajoling, the information that is beginning to come in is of a much higher standard. We have a much clearer vision about what needs to be done than we had even a year or two ago.
Fair enough. I will move on to what needs to be done.
The authorities could approach investment in two ways. They could spend capital by borrowing money, were it available, through the public expenditure external financing limits and building an asset that would do the job and would last about 30 years. They would then have to operate that asset during those 30 years.
Do you think that the water boards are, to any degree, being pushed into inappropriate and expensive procurement methods, such as public-private partnerships, simply because of the limits on their external finance options—their borrowing consents, effectively?
The evidence does not suggest that.
What do you think about conventional procurement as opposed to PPPs? Is it appropriate? Are the water companies using PPPs too much or enough? Where are traditional methods of procurement appropriate and where would a PPP or PFI procurement be more appropriate?
A PPP or PFI project will justify itself when the scheme is large or covers a significant area. Bigness is an important factor because of the costs of setting up the structure, which a consortium is more easily able to assume when a project is bigger. For example, a PPP or PFI would be an appropriate way of funding secondary treatment for sewage in Edinburgh or Tayside. It was considered for a much smaller scheme in Montrose and was found not to be viable; traditional methods of procurement worked out better in that case. Of course, in such a situation, local authorities must ensure that they are able to deliver solutions that are as innovative and efficient as those that could be delivered by contractors who would be involved in a scheme funded by a PPP.
You referred to your belief that the level of debt was unsustainable and that it was putting an unfair burden on consumers. Would an appropriate strategy—although it might be only a partial solution—be for the client to attempt to gather together smaller projects to procure more economically through a PFI? Would you go down the PFI route for aggregated contracts?
I suspect that conventional procurement techniques will start to involve a greater degree of partnering and bundling of small projects. That will enable efficiencies to be made in the authorities' capital procurement, which will have significant benefits.
In the long run, would that be enough to remove the increasing burden on the customer?
I think that I said that even if we get to the stage at which capital efficiency and operational efficiency are as good as they can get, prices would still have to increase to deliver a genuinely sustainable industry. We do not want to be in a situation in which, although we have met the statutory compliance deadlines that will hit us between now and 2005 and again in 2013, we find that we have been undermaintaining the underground pipe networks or existing assets and that we must replace them. We do not want to find that we have been storing up problems for the future; we want a sustainable industry.
What is your role in examining the specification for capital expenditure, including the important specification that there must be adequate maintenance so that we do get into a situation such as that which you described? I presume that you take a close interest in the investment programmes of the authorities. Are you examining the specifications of modern and efficient plants, for example? Do you have the capacity to examine that or would you need advice from consultants?
There are three principal ways in which we can examine those specifications. The first relates to the quality and standards process of the Executive, which includes the Executive's water quality people, the Scottish Environment Protection Agency and the water authorities. That method attempts to ensure that all the necessary projects are being done and that we are providing adequate maintenance of above-ground and below-ground assets. That is what the Scottish Executive is consulting on at the moment.
In doing that work, do you find that any tensions emerge? The obvious one would be between reducing current costs and protecting the prospective life of the assets.
Absolutely. Whenever money is relatively short, people must make trade-offs. Since I have been in my post—probably before that, as well—the unfortunate situation in the Scottish water industry is that trade-offs have been made. Statutory deadlines are incredibly important and must be met. The implications for customers of our having to pay fines of £65,000 a day are horrendous—if that had happened in Scotland, every household's bill would have increased by 50p. As money is short, less money than I would like has been spent on underground assets.
How can the water authorities be helped to resolve those tensions?
We try to ensure that the water authorities have reasonable levels of income, that they are efficient and that they have money to invest in the maintenance of assets. We also explain at public meetings what issues the water industry faces.
Is it partly your role to ensure that investment levels are adequate and that the authorities do not duck any of that in the interests of reducing charges?
Absolutely.
I want to ask about the backlog of investment which, in the quality and standards document, you estimated to be £2.5 billion. I assume that that has built up through lack of investment in recent years. Who has the responsibility for monitoring that and for ensuring that that backlog is eliminated?
The quality and standards document is about ensuring that we invest enough to be sustainable. The three options that the Executive has proposed are good in that regard. If we opt for the lowest of the three options, things will get worse on balance, and the expenses for customers over the life of the assets will be greater. I would therefore find it difficult to support that option.
What would the implications for the consumer be if we went for the best option as opposed to the middle one?
One of the problems with the water industry is that there can be few guarantees. Some customers have risks that they do not know about, such as the risk of a basement flooding with sewage. It might not have happened to them yet, but it could and they are not aware of the risk. By spending that extra money, such risks can be eliminated, but would a customer feel any better because a risk that they did not know about was gone? That is the sort of awkward question that we are dealing with. The impact on customers' bills would be significant if we went for the higher option, rather than the middle one. Ultimately, that is a balance for the Executive and the Parliament to make a call on.
I am glad that that is our choice.
Before we move on, I remind members to keep their questions as brief as possible—we have a fairly busy agenda today.
How did the backlog in investment build up? Has it built up gradually over decades, or is it the result of an increase in the standards that are required by European Commission decisions?
It is probably for both those reasons. The most reliable figures for the period 1990-2000 are for West of Scotland Water, as there are some data from Dumfries and Galloway and Strathclyde. On a per capita basis during that period—which covered the end of the regional councils and the beginning of the water authorities—it spent less than half of what was spent in broadly equivalent areas in England and Wales, such as Devon and Cornwall or Wales. Today we are still spending at the lower end of the investment scale for each connected property, compared to what is being spent elsewhere in the UK.
You commented on efficiency in your introductory remarks and in your briefing note. You say that efficiency targets are related to those of companies south of the border, but are modified for Scottish conditions. In which areas do you envisage efficiency targets being set and how do they vary from authority to authority?
The total efficiency target is £134 million annually by 2005-06. Of that total, £66 million is from West of Scotland Water, £44 million is from East of Scotland Water and £24 million is from North of Scotland Water. The areas that are covered by those targets are what we call controllable operating expenditures, such as premises, chemicals, electricity, manpower and transport. There is no simple answer to what the implications for any of those items of expenditure will be, other than to say that—as an aggregate—they will have to be reduced by the amounts that I mentioned.
You guessed correctly that I had employment in mind when I asked that question. To what degree will outsourcing or externalisation of some services, rather than job reductions, play a part in the water authorities' pursuit of efficiency targets?
You should address that question to the senior management of the water authorities. My job is to look after customer interests and to ensure that as good a service as possible is delivered for as low a cost as possible. I can allocate a fair budget to that, but it would be impinging on the authority of management for me to tell water authorities how to spend that money. It is up to them to work out how to do that—that is their job, it is what they are there for and they are capable of doing it.
Have any of the authorities come back to you to say that they feel that the targets that have been set are unrealistic and could not be achieved through efficiency savings?
We gave the authorities our final answer on what we thought the efficiencies were some time ago and we have had a number of sessions with them. I would not say that we have agreed exactly on all the factors, but I understand that each of the three authorities has accepted that the target is fair and realistic. I will make no bones about it; the targets are challenging targets and difficult to meet, but they are reasonable. There are plenty of precedents for similar targets having been delivered and I have no reason to doubt that they will be delivered if management sets about achieving them properly.
You have recognised that North of Scotland Water Authority has higher than average charges for domestic customers. It is also recognised that there are quite widespread lower-income areas in the North of Scotland Water Authority area. What do you think the implications will be if those charges continue to rise above trends for the UK, and how will that impinge on the lower-income areas?
We will continue to set efficiency targets and pressure management to ensure that, before extra money is raised from customers, savings will be made through efficiencies of all types. Before we start talking about charge increases, it is important to reiterate that. It is difficult to know what the implication for charges over the medium to long term will be. We have just begun working on a review of the industry, which we are due to present to the Minister for Environment, Sport and Culture later this year. We have to take into account all the quality and standards data and we must understand what quality and standards options people want.
Many of your recommendations are based on data that are supplied largely by the water authorities. How much of that information is independently audited? How much information do you receive from other sources, such as consumer groups?
Customer service data come in from the authorities, and we audit those data. We compare that information with information that we get from surveys, public meetings and the like. I think that we are pretty robust on that side of things.
I want to ask about efficiency savings. You have talked about challenging targets and manpower. You say in your submission that one of the most efficient English companies had reduced manpower by 15 per cent. Are the water authorities in Scotland overstaffed? Could staff levels be cut by 15 per cent? If they could be cut, would you be concerned if that led the water authorities to bring in mixed working practices, or multiskilling, so that someone who worked in the water department might also work in the sewage department?
Data on levels of employment in Scotland from the past several years show that considerably more people per connected household are employed in Scotland than in England and Wales. More people are employed in the Scottish water industry than in Thames Water, which serves twice as many customers. There are objective reasons for saying that 15 per cent staff cuts—to use the number that Fiona McLeod used—are not impossible. However, I repeat that it is for management to decide how it wants to deliver savings. It is not appropriate for me to impinge on management judgments, because the people who make those judgments are responsible for doing the fine job of delivering water and waste water services. We take their job for granted, but every time we turn on a tap, water is there. We would complain if it were not.
As the water commissioner who represents customers and consumers, are you concerned about the possibility of cross-contamination in our water supplies because of the way that the authorities use their workers?
Absolutely. In my opening remarks, I defined efficiency and said that we had to ensure that we took no short cuts and no risks with health and safety, and that we did nothing that compromised the service that we all value. However, that is ultimately a question for management, which must judge how to deliver the services. If there were any evidence that the authorities were letting services slip, I would not regard them as being efficient. There can be no cuts in services. There can be no lowering of prices merely because services have been cut. I would not regard the authorities as having done their job if that happened.
You mentioned the disparity in customer service levels between the three authorities. Does that correlate with manning levels?
No, it does not.
I want to ask about competition and regulation. We have been considering the Competition Act 1998. Is there an argument for excluding water authorities from the effects of that act? On page 3 of your submission, you say that your concern is not about
I am not a lawyer; if there are lawyers among the committee's members I apologise for my limited understanding of the law. Competition is very much a reality in the Scottish industry. Deals are being struck between the likes of Northumbrian Water and Scottish Courage, Yorkshire Water and Princes Foods, and Anglian Water and Scottish Nuclear and British Energy. There has also been de facto competition on the waste water side for a long time. Major industrial concerns have set up their own effluent treatment plants, rather than using the public system. In some cases, they have been told by the public system, "We do not want your effluent; can you please treat it yourself?" Competition has been around for a while.
You are saying that legislation is required to ensure application of the Competition Act 1998. Could excluding the water industry from that act be justified?
The only bit that would be excluded from the 1998 act would be the common carriage bit, and it is unclear how important that could be. Some people say that it would be unimportant. Access codes have existed in England and Wales for several months and still there is no common carriage. How big an issue that will be is questionable.
Let us move on to your regulatory role. Last week, we heard from SEPA how many organisations are involved in the regulation of water in Scotland: we came up with five at one point. How do you fit into the regulatory framework? Do you envisage a co-ordinating role for yourself in that framework?
My role is pretty clear. It is to try to ensure that the services to customers are improved and that the costs for the delivery of those services are as low as possible. We work closely with the regulators of drinking water quality and waste water discharge, such as SEPA, to ensure that the policy is being co-ordinated.
I understand that a department in the Scottish Executive is currently responsible for regulating water quality.
That is correct.
However, there are proposals to establish a Scottish drinking water inspectorate. Would that be a useful step, or is the current regulation entirely satisfactory?
As the vigilance and enforcement procedures of quality regulation are getting tighter, it is becoming increasingly important for us to ensure that we are complying and that we will not be caught out. We do not want to end up with customers footing the bill for investment and then footing the bill again because we are caught out through not having done everything possible to prevent being fined. I am not an expert, but anything that can be done to strengthen that process must be good news for customers.
I advise members that, as we are pushed for time, we will follow up in writing with Alan Sutherland and his staff a couple of the points that have been raised.
Thanks for your time.
I thank the representatives of the Scotch Whisky Association for attending the committee today. I understand that Matthew Farrow has come at late notice, which we appreciate. Our other witnesses are Brian Higgs, Hugh Morison and Pat Mennie.
Thanks very much, convener. I am the chief executive of the Scotch Whisky Association. On my left is Pat Mennie, who is the secretary of the Malt Distillers Association of Scotland. To his left is Brian Higgs, from United Distillers and Vintners, who is also the president of the Malt Distillers Association. Matthew Farrow, from the Confederation of British Industry, is providing support from the flank.
We appreciate that statement. As the committee has questions on some of the areas that you have raised, I will go straight to Bristow Muldoon.
In your opening statement, you indicated that there should be more private sector representatives on the boards of the water authorities. Those representatives would presumably expect to have an impact on the running of the authorities. How do you feel that such involvement would improve the cost disciplines of the water industry or the way it manages its capital expenditure?
A lot of discipline in the private sector comes from plc non-executive directors who have experience of driving costs down, capital procurement and customer service and are able to ask executive directors the kind of challenging questions that will stimulate improvements to customer service and the management of the organisation. Although that opportunity is sometimes taken at the moment, we feel that more could be done in that area.
I agree with Hugh Morison's comments. All I would add is that when we discussed the corporate governance of the water authorities with our members, they recognised that the authorities are in a tough and challenging situation. We agree with the targets set by the water commissioner and which the English companies have managed to meet on a comparable basis.
You also mentioned the differences between Scotland and England in business charges for water. Have you investigated the reasons for such differences? For example, have you taken into account the fact that many whisky plants operate in fairly rural areas in Scotland? As the water commissioner pointed out, some of the piping costs are considerably higher per customer than they are in England.
We have not undertaken any detailed work on that issue. Although we recognise that certain factors in Scotland will affect pricing—some of my members who buy water across the country also have operations in England—we are concerned about the considerable variation in pricing. The matter comes down to what the water authorities and the water commissioner say about relative efficiencies. Although there have been steps to improve efficiency in the organisation, there is still a long way to go to meet the efficiencies made by the best in class south of the border.
I agree with that. We recognise that there may be particular reasons why some charges will need to be higher in Scotland—as we have heard this morning. Our feeling is that companies with sites in Scotland and south of the border, and in fairly similar locations, tend to find the costs up here much higher. There appears to be a lot of cross-subsidy in Scotland between non-domestic and domestic customers, as well as a less good efficiency record. If we could address those two factors, costs could come down for the private sector in Scotland. It may not be possible for that reduction to be to the level found in England, but costs here are still too high.
Have you studied the proportion of charges levied on businesses in England compared with those levied on domestic consumers? How does the balance compare with that found in Scotland?
For the revenue raised from the different sectors, we have gone on the figures that were quoted by the water commissioner. The East of Scotland Water figures suggest that the authorities in Scotland raise about half their income from non-domestic customers; the equivalent figure in England varies, but tends to be 25 or 30 per cent. That seems to be a clear indication from the industry itself of cross-subsidisation in Scotland.
What proportion of the costs of your business do water charges represent? We recognise that the proportion for malt distillers and grain distillers will be different. What is the variance between the two?
The ratio would be the same for malt and grain distilling. Water costs would generally be 4 or 5 per cent of the overall manufacturing cost.
As for the reasons for charges rising, we have heard from the water commissioner that that is related to a backlog of investment and to an increase in the standards for water. I note that you feel that business is already contributing more than its share; are there ways in which you feel the Scottish Executive could enable the catch-up expenditure to be made, other than through increases in charges or through the measures that the commissioner outlined?
This is a very difficult matter. It is clear that competition law will affect the Executive's capacity to provide grant—which does not seem to be an option. If an increase in borrowing is permitted, that simply feeds into higher charges in the future and would therefore affect pricing.
I wish to clarify something about the cost of the water. The figures that I referred to relate to the actual water supplies from the water authorities. As Hugh Morison said in his opening statement, the vast majority of water used in the distilleries comes from private supplies—obviously at zero cost. If we consider the overall water costs, they would therefore be significantly lower.
Thank you for that clarification.
You mentioned the difference between the water charges of, say, a gin factory in England and a whisky distillery in Scotland. What about differences within Scotland? How much more does it cost—in water charges—to run a whisky distillery on Speyside than in Islay? Do you have any figures?
The water authorities publish their scale of charges. I am sure that you would be able to get hold of that information from them. In the west, the charge for users of less than 100,000 cu m of water is 49p per cu m; in the east it is 61p per cu m; in the north it is 91p per cu m. There are discounts of 15 per cent for users of more than 100,000 cu m and further discounts for those using more than 250,000 cu m. However, there is a similar variation in the costs.
Is that a problem for the industry? I have not heard of any distilleries deciding to move from one area to another because of differences in water charges.
That is not an option for us. A distillery is in a particular location because of the particular quality of the water, the atmosphere and so on.
And the peat and the granite.
If the differential is not sorted, there is no doomsday scenario: the Speyside distilleries will not all move to Fife.
Heaven forfend!
I am not an expert in the social security system and income support. You would have to seek advice from other people as to what might be done in that regard. My prime concern is that charging in an industry that is providing an important material for Scottish business should not be distorted to achieve social objectives. There should be other means of achieving those objectives—whose importance I recognise. Secondly, costs and charging have to be made far more transparent. From what I hear, both from the water authorities and from the water commissioner, there appears to be a lack of robust data about costs in the industry.
So you think that there is cross-subsidisation, but you are not sure how much.
I do not think that anybody is sure how much; the data are not available to calculate that.
I take it that you would like those data to be available.
Yes. I would also like charging systems to move, in due course, towards removing that cross-subsidisation. We must remember that, given increased competition, it is—or will be—open to large water users in the business sector to find other procurers of water to drive down their costs. If the water authorities do not work towards that, they may be forced to do so anyway, through competition.
This question may be more for Matthew Farrow. We would like to know whether there is yet evidence that the water companies are, through the level of service that they provide and the prices that they charge, actively seeking to pre-empt business losses from among the large industrial users. Is there any evidence that the authorities are prepared to amend proposed charges significantly, to keep what they view as their most valuable customers?
The evidence is anecdotal. From what we have heard from our members, we have picked out the fact that the water authorities are getting better on this point. They recognise that competition is on the horizon and that large water users are deeply unhappy with the charges that they pay.
From what you say, competition will not have a sufficiently active or timeous impact on the market to resolve the cost difficulties and location implications. You are effectively asking the water authorities to move much more swiftly towards realistic costing.
I hope that they will. Obviously, companies' positions vary. The company to which I referred was in a difficult market and a difficult position. The time scale is not so dramatic for most companies, but decisions will be made. Our members hope that, before we get new entrants into the market, the water authorities will recognise the desires of customers who are paying a lot of money. We hope that they will take what steps they can to offer a better level of customer service and some form or another of discounting to readjust their tariff scales so that the cross-subsidisation that appears to be in the system is unwound.
There is provision under section 74 of the Local Government etc (Scotland) Act 1994, which established the water authorities, for authorities to have either scale fees or tailored agreements, which they can negotiate with customers. Until 1999, that was kept fairly well under wraps. People did not read the act and say, "Here is a possibility." East of Scotland Water in particular has started going round its large users and asking whether they want to negotiate a tailored agreement. One of our member companies is in the course of doing that, which will give it an appropriate benefit.
I wish to pick up on a couple of things that you said that strike me as a bit inconsistent. I am not aware of any business that does not engage in some degree of cross-subsidisation between its different areas. I appreciate that you are concerned about the extent of cross-subsidisation, but it is a bit precious to take an absolute position on it. My understanding from what the water commissioner said is that the cost to business, at least from West of Scotland Water, is at the lower end of the English scale, so I was a bit confused by Matthew Farrow's generalisation about the high cost of water to business in Scotland. I wonder how that squares with what was said by the water commissioner.
I did not say that East of Scotland Water is the worst culprit for cross-subsidisation, I said that I had a useful quote that happened to come from the evidence that was given by East of Scotland Water, which suggested that cross-subsidisation went on. As I said, East of Scotland Water has trail-blazed in publicising to its large business customers the possibility of having tailored agreements. That is the kind of input that might arise from the fact that it has more business representation on its board. I do not know for sure, because I have not sat in on a board meeting, so I can only speculate. All I am saying is that there are skills in the business community that we feel would help the water authorities to manage themselves better, cope with the challenging targets that they have been set by the water commissioner, and provide a better service to customers. That should be examined.
I wish to return to cross-subsidisation. You obviously feel that the non-domestic sector subsidises the domestic sector. From my recollection, you gave two statistics that led you to that conclusion. First the water companies in Scotland get 50 per cent of their income from non-domestic users and 50 per cent from domestic users, and that split is different from that which exists south of the border. Secondly, you said that the non-domestic sector got 20 per cent of the water, but accounted for 50 per cent of the water companies' income.
I did not concede that there was not enough data, I was complaining.
We all agree that the statistics are difficult and need to be interpreted.
There might be something in what Nora Radcliffe says about the effect on the extent of cross-subsidisation. As I said, by simply looking at income streams in Scotland and England, one cannot conclude firmly that they are much out of synch. However, if somebody gets twice as much of their income stream from the business sector than somebody else does, it is fair to conclude that that is due to more than the structure of industry and the number of small firms.
Do you agree that we need better information?
Yes.
I think that Hugh Morison said that he would not like to speculate too much about the water authorities, because he does not belong to any of their boards. However, I presume that he, as a customer, has a view on the authorities as businesses. Are the water authorities good commercial operators when judged against criteria such as customer care, the way in which they handle or pass on costs and the extent to which they are willing to procure necessary capital investment for the customer? Do you think that the water authorities are now or are becoming good commercial operators that respond to the industrial customer base? In the long run, would you prefer to deal with alternative suppliers?
I do not deal directly with the water authorities. My members do that and I receive anecdotal information from them. I will give the committee a broad picture of the situation, then ask my colleague whether there is anything to add. The impression that I receive is that, since the authorities were established, many improvements in customer service and efficiency have taken place. There is a long way to go on customer service, but the authorities have appointed customer service advisers to build up relationships with clients. However, they have a massive work load and there is, at least, a question mark over whether they have the time and the expertise to deal with the issues that concern my members and other large commercial users. There is also a feeling that underinvestment in the past has created a major problem.
Do you and your colleagues have confidence that the water authorities are making that progress and that they can progress to such an extent that, across the board, they can expect to be your major suppliers in future? Are you likely to look to more commercially attuned competitors in the long term?
I am not in a position to answer that question. However, if the authorities do not make the necessary progress, my members who have grain distilleries—which use large amounts of water—will be strongly tempted to look elsewhere for their water supply and services. Brian Higgs might want to add to what I have said.
The questions are difficult for me to answer, because most of my dealings are with NOSWA, although some of my colleagues work in the west and the south. My feeling is that an honest attempt has been made to start to improve commercialisation and customer service. Improvements could be made, as in all industries.
Is all the available evidence anecdotal and does no clear strategic picture exist yet?
The creation of the three authorities has improved relationships. The authorities have wanted increasingly to communicate and liaise with customers, to find out what customers want and to do their best to improve services to customers. The Scotch whisky industry has regular meetings with representatives of the three water authorities—they are as keen to meet as the whisky industry, which considers the meetings beneficial. However, third-party competitors might enter the market, so whether the industry will remain with the three authorities is purely a commercial question.
Perhaps I can answer Murray Tosh's question. I agree with my colleagues—there is no doubt that improvement has taken place. Collaboration and co-operation among the three authorities was almost non-existent two, three or four years ago, but it happens much more now. The authorities have made efficiency improvements, but there is further to go.
When the water commissioner gave evidence, he talked about the trade-off between standards and costs. He implied that he took a middle path, compared with his English equivalent. Is it your view that business is satisfied with that approach, or do you believe that we should expect a standard that is beyond that and which the commissioner should adopt in imposing his regime on companies?
Are you talking about water standards and effluent standards? I am not quite sure what you are driving at. I think that the commissioner said that the statutory requirements and those of SEPA could not be compromised—we agree. We need good quality water and good quality treatment work for our product. The commissioner said that he did not endorse the approach of forgetting about standards and driving costs down that way. We do not support that approach either. However, if you are asking whether services need to be gold plated, I say that they do not.
I will add to that answer with the CBI's perspective. The Executive has published a consultation paper that sets out the options fairly clearly. There are three options—a minimum, a middle and a high-level option. We are consulting our members about the paper, so I will not prejudge our final answer on that.
Might they want a choice of water standards?
In what sense?
Might there be a choice of different suppliers or of two standards of water: good enough and high standard.
We have not asked them that question.
A lot of the water that we use is for cooling purposes—it need not be of the same standard as that which is required for the product.
East of Scotland Water launched an innovative project to use lower quality water for industrial purposes, because that water need not meet the standard that is required of drinking water.
We would certainly like to give evidence to the committee on that.
Absolutely. There is no problem with that. I thank you for your attendance. It has been a most useful session for us, although we are initially taking a broad approach to our inquiry, to ensure that all views are made known. If, because of time pressures we did not cover certain areas, Shelagh McKinlay will write to you about them.
Thank you, convener.
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