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Opex is what it costs to keep a utility running from day to day, and in Abu Dhabi the regulator decides how much of it customers pay for. It covers staff salaries, repairs and maintenance, customer service, IT systems and the other activities that keep water, wastewater and electricity networks working. It is less visible than capital investment, but it is what keeps the service running.
The regulator sets each company's operating cost allowance at the level it judges efficient and necessary, and uses that allowance to calculate the Maximum Allowed Revenue (MAR) the company may recover. The aim is to let companies recover prudent costs without passing unnecessary ones to consumers. This follows the logic of price cap regulation, which Joskow (2008) shows creates efficiency incentives in electricity networks by linking allowed revenue to external benchmarks and performance rather than to the company's own spending. The method for setting the allowance has changed considerably over the past two decades.
The record for the four network companies shows the same pattern in every one of them. The four are Al Ain Distribution Company (AADC), Abu Dhabi Distribution Company (ADDC), Abu Dhabi Transmission and Despatch Company (TRANSCO) and Abu Dhabi Sewerage Services Company (ADSSC).
Figure 1: Opex projections for network companies, 1999 to 2021 (2016 prices). Each company's actual or forecast opex against its price control allowance, with the start of PC5 in 2014 and RC1 in 2018 marked. Company figures for 2015 to 2021 and allowances for 2017 to 2021 are taken from the regulator's tables; earlier values are read from the published chart and are approximate.
Source: Regulation and Supervision Bureau, RC1 final proposals, November 2017, page 86.
Across all four companies, actual or forecast costs generally ran above the price control allowances, particularly during and after PC5. The step change around 2009 reflects the restructuring of the sector and the separation of price controls, while the flattening of allowances in RC1 shows a deliberate tightening of operating budgets under the new regime.
Added up across the network companies, the picture is the same: companies forecast more than the regulator allows, and actual spending usually lands between the two.
Figure 2: RC1 final opex projections, comparison on aggregate level, 1999 to 2021 (2018 prices). Actual opex, companies' forecasts, price control allowances and the RC1 draft and final proposals for all network companies together. RC1 final proposals are the regulator's figures; other values are read from the published chart and are approximate.
Source: Regulation and Supervision Bureau, RC1 final proposals, November 2017, page 88.
The RC1 final proposals were cut sharply below both the companies' forecasts and the allowances of the previous control, showing the regulator enforcing tighter discipline in 2018 to 2021.
In effect, the structure imitates the pressure of a competitive market. Companies must work inside the cost envelope the regulator defines. If they overspend, they usually bear the loss; if they underspend, they may keep part of the saving. That gives a direct incentive to manage costs without cutting service quality.
These incentives can also have unintended effects. If they are not monitored closely, they can encourage companies to defer maintenance or reduce customer service to stay within budget, which can damage long-term service quality. Regulators therefore need to pair financial discipline with performance monitoring, so that cost efficiency is not achieved at the expense of reliability or customer satisfaction.
It has moved in steps, each price control adding structure to the last. Since the first price control, PC1, the regulator has used an "RPI-X" form of control, which caps the total revenue allowed in each year of the control period and so covers opex as well. RPI stands for the retail price index and X for an adjustment the regulator sets.
In PC1 the inflation term was a composite index, 80 percent United Arab Emirates consumer price index (CPI) and 20 percent United States CPI, reflecting the split between costs incurred locally and those sourced internationally. The X factor was intended for profiling revenue over the control period rather than for enforcing efficiency. Over time, allowances changed not only with inflation but also as the method for assessing efficient costs changed.
Between control periods, changes in approach produced step changes in allowed opex. Within a control period, annual adjustments varied by sector, reflecting differences in how cost drivers and demand growth were treated for water, wastewater and electricity.
Figure 3: Opex allowances for each utility sector, 1999 to 2026 (2023 prices). Allowed opex by year and price control period for electricity distribution and transmission, water, recycled water and wastewater. Values are read from the published chart and are approximate.
Source: MCC Economics, from the price control decisions of the Department of Energy.
From each company's own past accounts, with no benchmarking and no efficiency assumption. Allowances were based mainly on historical data, particularly the 1997 and 1998 income statements. Where that data was not enough, as with the Abu Dhabi Water and Electricity Company (ADWEC), the regulator used other sources, including company budgets, recent spending and benchmarks from Northern Ireland Electricity.
This first approach gave little assurance that costs were efficient. It had no structured link to demand and no mechanism for continuous improvement, and those gaps shaped the reforms that followed.
The regulator adopted a base year and held opex flat at that level in real terms. Under a base-year model, 2001 became the reference year, and allowances were projected on the basis that opex would stay at its 2001 level in real terms, on the assumption that efficiency gains would offset the effect of demand growth.
Cost increases from outside routine operations, such as restructuring or a sharp rise in demand, were not included automatically. They were set aside for review at the next price control, for retrospective consideration.
For the first time, the regulator applied a common set of parameters to all network licensees: one base year, 2001, shared CPI assumptions and standard cost classifications. That made allowances more transparent and comparable, and began a more systematic approach built on comparability, predictability and evidence.
Table 1: Operating expenditure allowances in PC2, final proposals (AED million, 2003 prices). The allowance for each company and business, held flat in real terms across 2003 to 2005. ADWEC's figure includes capital expenditure.
Source: Regulation and Supervision Bureau, 2002 Price Control Review final proposals, November 2002, page 8.
By writing a demand scaler and an annual efficiency cut directly into the allowance. The 2004 cost base was the starting point for projections. Allowances were raised with forecast demand, by 0.75 percent for every 1 percent increase in projected service volume, and reduced by 5 percent a year for assumed productivity gains from better procurement, automation or operations.
The efficiency assumption sat inside the cost allowance itself rather than in the X factor, which in Abu Dhabi remained a tool for profiling revenue. The approach mirrors elements of United Kingdom electricity distribution price controls, where fixed annual efficiency factors are applied within CPI-X frameworks; Jamasb and Pollitt (2007) describe how such productivity assumptions have been used in United Kingdom regulation.
The method set a clearer baseline for expected performance and made treatment more consistent across licensees. It moved the regulator away from allowing costs as incurred and toward model-based projections of what efficient operation should cost.
The fixed ratios, such as 0.75 percent more cost for each 1 percent more demand, raised questions for some observers. They standardise projections, but can look mechanistic or arbitrary unless they are backed by empirical evidence, and some stakeholders have cautioned that added complexity can hide assumptions rather than clarify them.
Table 2: Opex projections for PC3, draft proposals (AED million, 2006 prices). Projected opex by company and business under the PC3 formula, excluding depreciation. ADWEC's figures include capital expenditure.
Source: Regulation and Supervision Bureau, 2005 Price Controls Review draft proposals, July 2005, page 7.
The final proposals of November 2005, which the publication does not reproduce, kept the same formula and raised the 2006 total to AED 1,037.445 million, from AED 956.463 million in the draft, after adding allowances for water pumping and new responsibilities.
The base year. PC4 kept the PC3 structure, but instead of relying on a single year's spending it set each company's base opex as the simple average of 2008 actual opex and 2009 projected opex, both in 2010 prices. The base was then adjusted as before: 0.75 percent more opex for each 1 percent more demand, and 5 percent less each year in real terms.
Averaging two years captured cost trends from the previous control while keeping the new allowances anchored in efficiency assumptions. It smoothed year-to-year swings without relaxing the expectation of prudent cost management.
Table 3: PC4 opex projections, final proposals (AED million, 2010 prices). Allowed opex by company and business, rising from AED 2,077.84 million in 2010 to AED 2,190.40 million in 2013.
Source: Regulation and Supervision Bureau, 2009 Price Controls Review final proposals, November 2009, page 6.
Figure 4: PC4 opex projections, final proposal, 1999 to 2013 (2010 prices). Actual opex, earlier price control projections, and the companies' forecasts, draft proposals and final proposals for 2010 to 2013. Final proposals are the regulator's figures; other values are read from the published chart and are approximate.
Source: Regulation and Supervision Bureau, 2009 Price Controls Review final proposals, November 2009, page 6.
Because the companies' responsibilities grew. Average annual allowances in PC5 were well above the previous control, driven by inflation and by a reassessment of what the utilities were required to do. The final proposals set allowances about AED 820 million a year above the draft proposals, in 2012 prices.
The increase paid for new commitments in areas such as training, Emiratisation, tariff reform, health and safety compliance and business planning. It also covered the extra energy needed for more complex water pumping as the networks grew in scale and reach.
Table 4: PC5 opex projections, final proposals (AED million, 2014 prices). Allowed opex by company and business, averaging AED 3,386 million a year over 2014 to 2017.
The final allowance sat well above the draft proposals but still below the companies' own latest forecasts, and actual opex continued to run above the regulator's cost envelope.
Figure 5: PC5 final opex projections, 1999 to 2017 (2014 prices). Actual opex, the price control allowance, the companies' latest forecast, and the PC5 draft and final proposals. PC5 final proposals are the regulator's figures; other values are read from the published chart and are approximate.
Although allowances rose, the regulator stayed conservative. The final values were consistently lower than the companies' forecasts, keeping to the principle that opex should reflect an efficient, not an aspirational, level of spending.
It is a consultant's method that runs a top-down projection and a bottom-up efficiency benchmark side by side, then blends them. The move from PC5 to RC1 refined Abu Dhabi's approach: Deloitte's seven-step method built on the PC5 framework by combining top-down projections of cost trends with bottom-up benchmarking of efficient costs, to reconcile high-level trends with operational realities across the utilities.
This is an application of yardstick competition, as described by Shleifer (1985): comparing costs across similar firms to set efficient allowances and sharpen managers' incentives in a regulated monopoly.
Figure 6: Consultant's seven-step methodology to RC1 opex projections. The two tracks, top-down and bottom-up, that start from current controllable costs and meet in a proposed and then a reasonable cost path.
Source: Regulation and Supervision Bureau, RC1 final proposals, November 2017, page 69, from Deloitte's draft report of January 2017.
The sequence starts with current costs, adds demand forecasts, adjusts for efficiency, and arrives at a blended cost path that reflects both broad trends and company-specific factors. Figure 7 shows how that produces the reasonable cost path for RC1: a path between the companies' own projections and the more conservative efficient benchmark.
Figure 7: Consultant's approach to RC1 opex projections. How the top-down and bottom-up projections combine into the proposed cost path across the RC1 period. For illustration only and not drawn to scale.
Source: Regulation and Supervision Bureau, RC1 final proposals, November 2017, page 69, from Deloitte's final report of June 2017.
Together, the two figures show how RC1 brought more consistency, transparency and analytical rigour than earlier cycles. The model is still sensitive to its inputs, such as demand and inflation, but its repeatable structure has given Abu Dhabi a consistent framework for efficiency-focused regulation.
By starting from audited 2016 costs and combining benchmarking with a line-by-line review. RC1 marked a shift toward a more analytical and conditional approach, with a hybrid of top-down benchmarking and bottom-up evaluation of company forecasts.
The starting point was the companies' audited 2016 opex, in 2018 prices, adjusted to include provisional allowances for Emiratisation, direct staff training and major developments, and savings from operational changes. Some costs were excluded, such as the regulator's licence fees and certain pumping and metering costs.
Table 5: RC1 opex projections, final proposals (AED million, 2018 prices). Allowed opex by company and business, falling from AED 3,325 million in 2018 to AED 3,184 million in 2021.
Source: Regulation and Supervision Bureau, RC1 final proposals, November 2017, page 6.
The regulator's own comparison shows how far this was below what the companies asked for. In 2016 prices, the consultant's projections of AED 3.1 to 3.2 billion a year were lower than the companies' forecasts of AED 4.0 to 4.3 billion by about AED 1 billion, or 24 percent, on average, partly because the companies' projections included no efficiency savings.
It is a capped fund for initiatives whose benefits cannot yet be proved, which companies recover only after the Department of Energy approves the evidence. RC2 runs from 2023 to 2026. The Transformation Allowance covers costs where the need had been identified at a high level but the benefits could not yet be shown. These costs were left out of the RC2 baseline allowances. Instead, a ceiling was set for each company over the control period, totalling AED 2,401 million in 2021 prices across all licensees.
Table 6: Uncertain costs over RC2 (AED million, 2021 prices). The ceiling on Transformation Allowance costs for each company by year.
Source: Department of Energy, RC2 final decision, June 2023, page 77.
Only defined programmes could be submitted: certain health initiatives, operational, financial and strategic improvements, and the promotion of customer satisfaction, among others, plus some company-specific costs. Those included operational continuity for ADDC, AMD and operation and maintenance for AADC, and customer billing and reverse osmosis polishing plants for ADSSC.
To recover these costs, a company must submit a detailed proposal to the Department of Energy during RC2 showing expected benefits, customer impact, project plans, milestones, deliverables, key performance indicators and a cost breakdown. Approval depends on that evidence, and approved costs are reimbursed after the event through an annual opex adjustment.
The mechanism lets the regulator approve uncertain initiatives as evidence arrives, but it also creates planning uncertainty for the utilities, because recovery depends on future approvals.
The RC2 baseline allowances followed the same pattern as before: higher than the previous control, lower than the companies wanted. The Department of Energy's final allowances were 20 percent above the draft proposals, about 14 percent or AED 700 million a year below the companies' forecasts, and 11 percent above RC1 levels.
Figure 8: RC2 average annual opex projections, final decision comparison (2021 prices). For each company, the RC2 final allowance against its 2021 actual opex, its RC1 allowance for 2022, its own forecast and the RC2 draft proposals. Company forecasts are the average of the 2023 to 2026 values in the decision's Table 4.1.
Source: Department of Energy, RC2 final decision, June 2023, pages 61 to 77.
The RC2 final allowances came in below every company's own forecast, which reinforces the regulator's focus on disciplined, evidence-based allowances. They were higher than the previous control but more conservative than the licensees projected. By combining this with the Transformation Allowance, RC2 balanced control set in advance with the fact that utilities work in a changing environment, without giving up the efficiency discipline that protects consumers.
Partly regulatory discipline and partly company optimism, but some industry experts argue the allowances may also be too tight. Throughout the history of opex regulation in Abu Dhabi, utilities have forecast higher operating costs than the regulator allowed. The gap is often read as a sign of regulatory discipline or company inefficiency. In practice, essential but hard-to-predict costs, such as urgent maintenance or innovation pilots, may be left out of the baseline, which could leave companies underfunded in important areas.
The gap has led the Department of Energy to refine its tools for assessing forecasts, identifying outliers and comparing companies, as Figures 1, 2 and 8 show. Licensees have in turn improved their own forecasting and cost justification. The move from historical averages to evidence-based benchmarking has pushed utilities to strengthen their data, build clearer business cases and analyse cost drivers more rigorously.
The conditional elements introduced in RC1 and made standard in RC2 allow engagement and adjustment during the control period while keeping the focus on efficiency and accountability.
Utilities also operate in a wider economic and policy environment. Inflation shocks, fuel price swings and new government mandates can all move opex in ways that are hard to predict or to fit inside a fixed allowance. The framework has some adaptive mechanisms, but vigilance is needed so that rigid rules do not penalise efficient operators facing external pressures.
A much smaller one than in most price controls. Elsewhere X is usually an annual efficiency factor. In Abu Dhabi it has mostly been set to zero, and the efficiency challenge has been applied directly in the allowance models instead, through annual real cuts, demand scalers, baseline reductions or conditional mechanisms. The exception is RC1, which applied small non-zero X factors for the electricity businesses, and even there the aim was to smooth revenue over time rather than to impose ongoing productivity savings.
It has moved through four phases: historic-cost baselines, formula-driven efficiency cuts, consultant-led benchmarking, and most recently conditional allowances that depend on evidence of value delivered. Table 7 sets out that progression control by control, showing how the method and the efficiency assumptions became more structured and demanding.
Table 7: Summary of how each price control's opex methodology changed over time. The method and the efficiency challenge in each control from PC1 to RC2. Compiled by MCC Economics from the price control documents linked in each row.
Source: Department of Energy, price control documents 1999 to 2023.
Each step built on the last. The result serves three purposes. It keeps tariffs affordable, because companies cannot pass rising costs through unchecked. It strengthens incentives for efficiency, because companies must plan, justify and deliver cost reductions. And it gives a more stable platform for long-term investment, because allowances are more predictable and based on evidence.
Abu Dhabi's opex regulation has matured into a framework that is both disciplined and adaptive. Allowances are set below what companies forecast, the efficiency challenge is written into the allowance rather than the X factor, and uncertain costs are paid only when their benefits are shown. Opex is only one part of the revenue equation, though. Capital expenditure, the cost of capital and targeted incentive mechanisms matter as much in shaping the price control, and MCC Economics' next articles look at how they interact with opex to balance efficiency, affordability and reliability.
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