Developing a value-driven regulatory response capability

Taking charge of your regulatory destiny is key to a successful energy transition

Energy Regulation: Developing a value-driven regulatory response capability in your organisation

As Australia forges ahead in its energy transition journey, the scale, pace and volume of regulatory reforms in the National Electricity Market is substantial. There is an increasing expectation for organisations to be able to anticipate and respond more quickly to changes than ever before. However, it is also increasingly important for regulatory functions in utilities to be more strategic and value-driven to go beyond ‘just compliance’. In a market where changing consumer and sustainability demands are putting pressure on utilities to make fundamental shifts in what and how they generate, transmit and distribute power; being proactive, strategic and commercial in their response to regulatory reforms will be crucial and this requires different capabilities and plans.

The energy transition is driving significant regulatory activity - more disruptive, high volume and fast paced

The energy transition is well underway. In Australia, like other similar global markets, this is changing the energy system from a largely centralised model relying on power plants using conventional energy sources to a more decentralised model where variable renewable energy (VRE) sources. VRE is already generating ~ 28% of the nation’s electricity. This shift is driving a wave of regulatory reforms intended to help the industry accelerate and adapt to the change.

The push to meet net zero targets, the national conversation around coal, the conundrum of energy affordability, reliability and security, and the constant regulatory efforts to adapt to the evolving way we ‘power’ our nation are all defining the national electricity market right now. The latest energy reforms are complex in scale, wider in stakeholder impact.

There are some marked characteristics of the ecosystem at play here.

While the wave of regulatory reforms in NEM are critical to the success of the transition, recent rule changes like the Power of Choice, Five-Minute Settlement (5MS), and Global Settlement have shown us how these transformative reforms result in multi-million dollar implementation programs for the market participants. The implementation of 5MS alone has hit the industry with “an estimated $200-$300M in the competitive sector alone” according to the Australian Energy Council. While four years after implementing Power of Choice, there are still challenges to deliver the intended customer benefits due to challenges in scaling the smart meter penetration.

The regulatory changes and requirements will intensify over the coming years with more disruptive reforms already in the pipeline including the Post 2025 electricity market design and cross-industry reforms such as the Consumer Data Rights (CDR). Scrutiny on compliance and spend is growing and as consumer advocacy bodies play a more proactive role in shaping the industry.

The traditional approach where regulatory reforms equate to minimum viable compliance will need to evolve if businesses are to succeed in tackling the volume and pace of regulatory changes while generating value for their business stakeholders. There is a pressing need to reimagine what regulations mean to the sector participants and whether they intend to get more bang for the bucks, above and beyond compliance.

An effective regulatory capability can drive the organisation’s role in energy transition - by helping influence, adapt and evolve with change.

The regulatory function is at the centre of tackling energy transition - it can influence, adapt and evolve utilities’ transition agenda, and in doing so move away from being a largely compliance-led function to focussing more on strategic direction, customer outcomes and commercial returns to shareholders.

There is a need to reimagine the regulatory response and management capabilities beyond stakeholder engagements and impact assessments. These new capabilities must include the ability to influence reform outcomes at industry level, to derive the hidden costs and opportunities for customers and communities early on, and to confidently correlate the reform objectives to the organisation’s strategic directions and measures. This will help the organisations to plan ahead and rethink rule changes to their own benefit, thus giving them the confidence to take some timely no-regret actions.

For energy players looking to navigate the regulatory reforms in coming years, these are our observations on the shifts currently happening in the sector.

1. They proactively influence the direction of the reforms with a clear strategy in mind

From ...	To ...
Response to regulatory changes is based on risk assessment, compliance requirements and focussed on minimising change effort	Vision, customer and innovation strategy drives positioning in the market and the adoption of appropriate regulatory advocacy approach
For the networks, most effort is on a 5-yearly regulatory proposal with pressure on business stakeholders’ capacity and customer engagement. Impact assessment is conducted as part of a new policy and regulatory consultation process and as a regulatory change is committed to.	Utilities’ vision and strategy drives prioritisation and decision on advocacy strategy for each regulatory reform. This drives investment and resource allocation, with a clear linkage to not only revenue and tariff structure, but their brand, reputation and identity in the market.
There has been growth in strategic and tactical innovation projects in the industry driven by efforts of organisations such as ARENA, government grants, and emerging pilots to inform the direction of a new policy.	Involvement in trials and pilots is planned and aligned with selected policy advocacy approaches. This will be further formalised through the Regulatory Sandboxing function currently being established by AER (November 2021).
Thorough risk assessment on regulatory reforms is performed at strategic and operational levels, with focus on cost implication and disruptions.	Risk assessment on regulatory reforms needs to also consider the upside (opportunities) and the potential benefits. This needs to be done at the whole-of-business level.
Partnerships are formed to solve shared industry risks, such as the industry-wide Reform Delivery Committee established in December 2021 to enable implementation of the ESB Post-2025 market design.	Partnerships at industry level are elevated to change the system and accelerate energy transition. As an example, the Reform Delivery Committee should consider membership across the industry supply chain including OEM, technology vendors and delivery partners to foster greater innovation.

2. They have relentless focus on customer outcomes when adapting to regulatory changes

From ...	To ...
Preparing for regulatory submission or implementing a regulatory change is often a major one-off initiative relying on people and their past experience	Regulatory reforms are managed as portfolio of changes, data-driven, informed and measured by ongoing customer engagement activities
Regulatory reforms impacting multiple business units are sliced and diced, and individually delivered through multiple projects and initiatives. Some of these projects are delivered using contemporary methods (i.e. agile).	‘Product management’ is increasingly more suitable as a change implementation method as reforms become more complex and impact multiple business units. The ‘product management’ mindset focuses on the customer and business outcomes rather than the process, cross-functional in nature, and iterative value delivery to manage risk.
Customer, community and stakeholder engagement is predominantly for consultation on capital projects, new policy and to inform regulatory submission process. This is becoming more critical and used as a key criteria to justify regulatory proposals.	Customer and community engagement becomes a business-as-usual activity, critical to inform the overall strategy, to measure progress and validate customer benefits.
Market bodies prescribe the requirements for reporting and governance. For the networks, RIN reporting is a key regulatory monitoring mechanism against the determinations alongside other ad hoc reports. Retailers have more stringent reporting requirements at national and state level.	As much as possible, technology and data will automate compliance monitoring and reporting. This is to be supported with ongoing governance to track and benchmark between regulatory proposals, actual project execution and reporting; as well as ongoing Board engagement on key performance metrics.

3. They continually evolve their capabilities and measure success

From ...	To ...
Regulatory requirements have been traditionally specific to the nature of the utilities’ role within the industry value chain	Regulatory requirements are increasingly becoming more holistic across customer, safety and economic benefits, regardless the type of utility or the role in the energy value chain
Regulatory function typically employs those with skill sets in policy, economics, risk and stakeholder engagement.	With the scale and wider scope of reforms, policy and risk management skill sets need to be complemented with new-age skills such as digital, data, agile, customer-centricity and an innovation mindset, combined with strong knowledge in climate change and sustainability.
Culture of compliance has been embedded in utilities with a strong focus in areas such as customer protection and safety. This is typically seen as a cost to running the business.	Beyond a culture of compliance, regulatory lenses need to be embedded in strategy and used as a key lever to deliver the bottom line and create competitive advantage.
Post implementation review is often conducted at the completion of reform delivery initiatives at organisation level. There are some ad hoc reviews of reform effectiveness such as the review of the regulatory framework for metering services kicked off by AEMC in November 2021.	Australia is moving into a new territory with energy transition with new policies, new ways of serving and charging customers. As new reform is rolled out, the regulatory function needs to play a proactive role in collaborating with the industry and customers to assess the effectiveness of the rules.

A value-driven regulatory response capability can and will deliver sustainable business outcomes.

The changes to the regulatory function are based on our observations on the shifts happening around the world and the movements within the energy ecosystem in Australia. Some of the recent reforms and the way the industry tackled it also gives us evidence of what benefits are embedded in moving to a strategic, value-driven approach to regulatory responses, instead of a minimum viable compliance focus. Points in case are the Power of Choice and 5MS, where the costs ran into hundreds of millions and the benefits still arguably undetermined.

Some of the capability changes will not be easy as they require not just a change in the scope of what a typical regulatory function does, but also change in ways of working, acquisition of new skills and knowledge, as well as the need for further collaboration across a myriad of internal and external stakeholders such as customers, regulators, government, partners, and with the wider industry participants.

As organisations gradually shift their thinking and capabilities as discussed above, they will start delivering sustainable outcomes.

1. Cost efficiency. A clear plan and vision ahead of time and a predetermined, but agile approach to tackling a rule change will help utilities bring internal and external stakeholders together ahead of time, have a clear voice in the market and shape the program well in advance. When costs of compliance are viewed beyond the regulatory function and risk management, but in terms of long-term return and justified business advantages, investments and their benefits will follow. There will be:

Reduced remediation and compliance costs
Reduced regret rework
Avoided fines and penalty of compliance gaps
Faster and stakeholder-aligned response

2. Customer and stakeholder confidence. The strategic commercial lens to regulatory response advocates the involvement of customers and relevant external stakeholders early in the process. The consultations must be more than an information session and more a requirements gathering and accountability process. This will lead to:

Increased transparency
Increased customer trust
Increased confidence from the broader stakeholders including regulators, partners, and peers

3. Organisation resilience. Being focussed on future-proofing the organisation and its outcomes, and taking a whole-of-business approach to internal and external stakeholder engagement and program set up will ensure there is:

Increased agility in the businesses to apply changes
Organisation-wide collaboration and accountability for change
Faster decision making environment
Enhanced innovation outcomes

4. Effective energy transition. It might not be an exaggeration to say every rule change in the next 2-3 years is focussed in some form or another in driving change towards decarbonisation. The energy transition is here and taking a strategic view of opportunities of growth and innovation from these reforms will ensure organisations are able to take:

Well-justified investment decisions
Balanced view on risk and opportunity
Consideration on whole-of-system impact

As we open up more discussions on value-driven regulatory responses, there are some critical questions to ask as the energy sector navigates the big reforms ahead and as it tackles the most important problem in this generation.

Do we merely comply or move further to influence the regulatory outcomes?
Will we be compliance-led or lay a strategic and commercial lens to what we can do with a rule change?
Will regulations just be seen as a threat and inconvenience, or will we seek new innovation opportunities?
Will we be guided by the regulators or play a proactive role to drive the energy transition?