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INDUSTRY 4.0: LIBERATING INNOVATION IN THE WATER SERVICE REF Ricerche - Laboratorio SPL
AUTHORS The Local Public Services Laboratory is an initiative for analysis and discussion that would bring together selected representatives of the corporate world, institutions, and finance to revive the debate on the future of local public services. Many issues permeate the Italian economic scene, such as the crisis in national and local public finances, the EU push toward competition, the reduction in family purchasing power, the relationship between administrators and the public, and protection of the environment. For experience, independence and quality in economic research, REF Ricerche is the “ideal venue� for conducting the debate on Local Public Services on an "economic rationality" basis and placing it in a broader context of compatibility and the country's macroeconomic trends. laboratorio@refricerche.it www.refricerche.it
ENERGIA MEDIA Energia Media is a communication and relations agency that operates primarily in the energy, utility and smart city, and smart land sectors. It develops communication strategies, facilitates relations, and prepares content and information. www.energiamedia.it All the images and photographs in this document were properly acquired from databases. If the author feels that copyright laws have been violated, we ask that he report it to this address: comunicazione@energiamedia.it March 2018
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INDUSTRY 4.0: LIBERATING INNOVATION IN THE WATER SERVICE REF Ricerche - Laboratorio SPL
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WATER SECTOR AND USE OF THE RESOURCE. INNOVATION AS THE DRIVING FORCE OF PROGRESS Industry 4.0, i.e. use of the most effective combinations of technologies to create an integrated, interconnected system, in which plant, personnel, and information systems interact and dialog among themselves to improve the quality of services and life of the public. We must be aware, therefore, that the cities and urban environments cannot be fully smart unless the local public services are placed at the centre of this development scheme. Local public services, in fact, are the prime carrier of this change. Today technological innovation and the Internet of Things (IoT) already find numerous connections and innumerable possible applications by utilities.
THE POTENTIAL FOR INNOVATION IN THE WATER SECTOR Among the local public services, the water service offers excellent potential for the application of innovations (1), because of a need for precise knowledge of the infrastructure and its modernization (2) and for gaining efficiency. Innovation processes require the technological renewal of the infrastructure and connection to the IT networks, enabling improved performance in service management. Examples include smart metering and smart grids. The knowledge and censusing of the infrastructure through investments in new technologies for measuring and mapping the state of the infrastructure is now an essential ingredient of an industrial development project for the sector, since it is the basis for planning investments and the preparation for rationalizing the infrastructure (3) and managing it efficiently. Then there is the important theme of developing innovative technologies and processes for the optimal use and protection of natural resources (from the efficient use of water resources in uptake and distribution, waste water treatment, and the reuse of treated water and sewage sludges). Important benefits can also be derived by implementing strategies of energy efficiency in plants and grids, promoting energy recovery where possible and
economically feasible, along with a reduction in emissions and a contribution to decarbonization. Since water is an energy-intensive service, where electric power expense represents 11-26% of production costs, there are broad margins for improvement, as well as room to introduce and test innovation, in terms of technologies to reduce plant energy consumption, to optimize the volumes of water transported, and to self-produce electric power in the aqueduct and treatment areas. Despite the great potential and the presence of technologies permitting quick recovery of investments (from a few months to five years) (4), however, there are still barriers hindering the adoption of good practices and technological innovation. The Internet of Things and Industry 4.0 revolution thus represent a prime opportunity for operating the water systems. A concrete commitment is required, however, with action to sustain innovation and remove the obstacles to change. The term "Industry 4.0" refers to what is called the fourth industrial revolution, a paradigm that calls for the combination of various technologies and the perfecting of production chains so as to transform them into an integrated, automated, interconnected system for the development of more intelligent products, services, and relations. The National Industry 4.0 Plan was presented in September 2016, proposing a set of instruments to favour and stimulate companies to invest in processes of technological and digital transformation in accordance with the Industry 4.0 logic. The plan was written more for the manufacturing industry than for local public services and its application to local public services, and water in particular, is more a statement of principles without giving companies the tools necessary to implement them. The spirit of incentive policies is typically to support investment programs with worthy purposes that would otherwise not be enacted. The premise for this instrument of industrial policy is to enable potential implementers to plan an additional program of investment consistent with the purposes and timetable indicated in the law. The incentives for the water industry, though worthy, might never serve their intended purpose. The problem is the link between planning activities and implementation of the guidelines. In the case of the water service, it is clear that each measure truly seeking to sustain innovation should include an upstream catalyst in the investment chain or in the planning mechanism, phases that involve the utilities and respective authorities. When the Industry 4.0 incentives were approved for 4
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2017, the water service managers had already planned them, preventing the utilities from benefitting fully from them. Let's not forget that in the infrastructural services actions extend over years, and a concrete commitment to support them must align with the complex governance of the investments. More in line with this vision is the bill presented to the Senate on 18 October 2017, prompted by the water emergency (5) of that year, and currently awaiting the start of Parliamentary deliberation, regarding "measures to favour the reconditioning of water infrastructure in the country and to incentivize water efficiency". On the one hand, this measure seeks to exploit the opportunities present in the instruments provided by the Government for Industry 4.0 by postponing and extending them to include action to improve water efficiency only for private interests: energy-intensive companies, SMEs, residences, and the farming sector. On the other hand, it has placed the reconditioning of the national water infrastructure in the center the political agenda, with the provision for a â‚Ź 50 million fund beginning in 2019 to spend through special action programs like the one taken to suspend EU infractions for treatment. One action not focused on the single emergency but with a broader vision is the recent control over technical quality, which the national regulator is about to launch in coming months and which seeks to set medium- and long-range objectives requiring new plans of action with effects in terms of improved knowledge of the grids and increased energy efficiency, among other things (6). Below, we attempt a partial review of the obstacles and barriers that still block the diffusion of innovation, in the hope that they can be eliminated.
THE BARRIERS TO INNOVATION The first point relates to the policy of Industry 4.0, and more than an actual obstacle to innovation it is an example of a lack of attention of policies devised to favour innovation to the specific features of a few sectors. As noted above, these policies should consider the long-range mechanisms on which the planning of actions in the water service are based. Another important aspect regards the waiting times the local public services must sustain in the implementation process. Unlike private manufacturing 5
companies, public companies are subject to codified procedures for procurement, typically cantered on requesting proposals for amounts greater than a certain threshold. As they are codified today, admission to super- and hyper-amortization is provided for investments made by 31 December 2017, or by 30 June 2018 if the seller accepted the order by 31 December 2017 and advances of at least 20 percent of the purchase cost were paid (7). For the water sector, the launch of an order for material serving for technological and digital transformation of processes, which coincides with the management decision to call for tenders, takes place several months before installation, with the possibility that the timetable will be prolonged due to claims and/or the time required to obtain the necessary authorizations. One can readily understand that this situation generates uncertainties about the possibility of accessing the incentives as they are currently codified. On this point, a more extensive interpretation by the Ministry for Economic Development would be desirable on application of Industry 4.0 incentives to the local public service companies. Greater attention that could come with phase two of the national plan, renamed "Company 4.0", which should no longer address just the manufacturing sector but also open to other sectors of the economy, taking into consideration their specific characteristics. Major, urgent need In our country, the problem of lending and the presence of adequate financial instruments is gaining recognition: since 2012 there has been a recovery of investments by the managers and a revival of interest in the water sector on the part of lenders (8). There are also EU funds dedicated to innovation development, such as the Horizon 2020 fund, accessed by the Veneto managers of Viveracqua, who with other European utilities have obtained financing for R&D projects on smart metering, and SMAT of Turin, which has obtained a large loan for installing the first European facility for the production of electric power from biogas with solid-oxide fuel cells without combustion and the emission of exhaust gases into the environment. One obstacle to innovation is the presence of information asymmetries such that the new technologies supporting modernization of the infrastructure are not always known. But despite the progress made, the need for investments remains enormous, and the risk is that without adequate 6
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investments and financial instruments the haste to implement concrete action to resolve emergencies will lead to conservative approaches based on widely-used mature technologies to the detriment of the diffusion of technologies that are new and less-known but more efficient and less costly. The urgent need for investments to upgrade the treatment system and extraordinary maintenance on water plants and systems must not prejudice the use of advanced technologies in those sectors. Also needed, along with the EU funds devoted to innovation development, like the Horizon 2020 fund mentioned earlier, and private lenders that focus special attention on the subject of innovation, are national financial instruments, facilitations and/or tax exemptions that are not extemporary but part of a medium/long-term national strategy to finance "qualified" investment of virtuous operators, interest-free, with repayment of the amount through the rates. Information asymmetries One obstacle to innovation is the presence of information asymmetries such that the new technologies supporting modernization of the infrastructure are not always known. The presence of a continuously-updated platform devoted to sector innovations might help resolve this problem in part, providing suppliers a showcase and utilities a panorama of innovative solutions available, with relative strengths and weaknesses for informed decisions. The block of rules on public contracts There are obstacles to investments and innovations present in the rules on public contracts, where there has been a major delay due to implementation of the new procurement code and its corrective (9) and where innovative products, especially if unpatented, do not seem adequately valued yet. Authorizations: lengthy delays and information hard to find Another important problem lies in authorizations and the delay in their issue. One example is investments that require environmental assessments or, in the case of energy efficiency, authorizations to use drinking water sources for energy production. In the first case, although single authorizations have been introduced in an attempt to simplify environmental administrative obligations, those authorizations may involve more than one of the parties concerned with its own 7
requests, prolonging the delays. The underlying problem lies in the lack of a modus operandi: the interpretation of how to handle applications left to individual entities results in experimentation, parcellation of applications, and territorial differentiation. This counterproductive situation may, in the case of some low-impact initiatives, require more time for obtaining necessary authorizations than for completing the initiative itself, discouraging suppliers and utilities. To avoid those situations, the Ministry for Economic Development could issue ministerial regulations indicating coded types of initiative below a certain threshold and prepare guidelines, procedures, and checklists for those cases valid throughout the country. Reality shows that when local government manages those initiatives, the entities responsible are less likely to find the know-how and legal authority for implementing those procedures. In the case of using sources of drinking water to produce energy, through technologies that permit the recovery of energy otherwise dispersed, there is a system of regional authorizations that function on the basis of differentiated criteria. This, along with the difficulty of finding and utilizing information on regional regulations, hinders the diffusion of innovative products in that area. Where it is the utility that requests authorization, the procedure is relatively simple, the process requiring only a few months, thanks to the presence of national legislation that would prevail over regional rules. However, the water utilities are unable to sustain all the investments necessary to modernize their infrastructure since they must assign priority to the greatest, more imminent problems, and perhaps energy efficiency slips to the end of the queue, without adequate incentives. When it is a supplier that files the request, regional legislation acts as a brake, since it calls for a different procedure for the issue of authorization than when the utility requests it, extending the waiting time by 18 months to 4-5 years, depending on the region involved. This dual track procedure discourages the modernization of the grids, even when private interests provide their resources and bear part of the risk (10). Few incentives in the rates for innovative investments Utilities are also hindered from innovation by the problem of how those investments and resulting income are recognized in the rates. On the one hand, some investments in innovation are not recognized and, on the other, in the case of production/self-production of electric power, or where efficiency is "passthrough", the company may have no interest in making an innovative investment. 8
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Based on current rules for cost recognition, any measure to contain the amount of energy utilized (uptake, pumping, potabilization, etc.) results in a reduction of costs recognized in rates, and no direct form of incentive or recognition reflects those results, which require a dedicated effort on the part of the utility. It would be better if the regulation provided a regulatory incentive immediately available in favour of innovative investments to achieve energy efficiency, such as a profitsharing formula. The ideal would be an incentive based on the volume of energy consumed rather than on its cost, considering the recovery of energy deriving from self-production (recovery of energy from sewage sludge, the use of drinking-water sources for energy production). The resulting amount of energy cost savings, at current rates, might be divided between the utility and rate reductions (11). In terms of rate policy and, even more, of technical quality, one might also consider mechanisms to accelerate the reduction of water leakage through a merit system that considers not only the cubic meters saved (12) but also the efficiency, introducing, for example, an indicator of volume saved parameterized to the investments made to achieve that saving, so as to encourage the use of efficient technologies. A step forward was made on this matter with the regulation of technical quality, soon to be enacted, which implicitly acts as a stimulus to innovation: its implementation will generate a greater demand for technologies and information systems to achieve planned objectives. This is an important aspect, which will involve complexity and require commitment, but which will mark the way toward an industrial renewal of the integrated water service, with better system quality and maturity. This contribution demonstrates that technological innovation is inseparably linked to improved operating efficiency. This topic will dominate the agenda of the next regulatory period, where instruments capable of promoting it will be found. It would be desirable, in this sense, if utilities could retain the efficiency they recover for a time if reinvested. This could therefore become an explicit obligation of self-financing, which might even be offered as a guarantee to lenders. This would be a further stimulus to make viable investments in innovative technologies, which are the basis of industrial and modern operation of the integrated water service.
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NOTES 1. The waste cycle and public lighting also offer room for innovation, while it may be said that electric power and gas have achieved an industrial degree of efficiency and innovation. 2. For more information, see the 2017 Annual Report on the state of services and the “Memorandum for a fact-finding study on the water emergency and the measures necessary to deal with it” by the Authority for Electric Power, Gas and the Water System. 3. Consider, for example, the integration of the municipal grids of the same area and revamping of the plants as the area served increases. 4. Barry, J. A. (2007). Watergy: energy and water efficiency The municipal water supply and wastewater treatment. cost- effective savings of water and energy. Alliance to Save Energy, Washington, DC. 5. For more information, see Contribution no. 86, “Cambiamento climatico e nuovi inquinanti: urge una strategia idrica nazionale” (Climate change and new pollutants: a national water strategy is urgent), August 2017. 6. See Contribution no. 90, "Qualità tecnica: un percorso robusto e fattibile" (Technical quality: a robust, feasible program), November 2017. 7. Article1 (8) and (9) on the 2017 Italian Budget Law no. 232/2016. 8. See Position Paper no. 1, "Regole chiare e ‘governo’ del settore: investire nell’acqua, investire in sviluppo" (Clear Rules and ‘Governance’ of the sector: invest in water, invest in development), November 2015, Contribution no. 79, "Finanziamenti al servizio idrico: arrivano le garanzie del “Piano Juncker” (Lending to the water service: the guarantees of the "Juncker Plan" arriving), April 2017 and Contribution no. 83, "Idrico e finanza: bond e mini bond per raddoppiare gli investimenti" (Water and finance: bonds and mini-bonds to double investments), June 2017. 9. See Contribution no. 75, "Nuovo codice degli appalti: per i bandi dell’idrico il tracollo sfiora il 40%" (New procurement code: for tenders on water the decline approaches 40%), January 2017 10. Directly or indirectly through an ESCo or a bank. It is difficult for a start-up or an innovative SME to act in that sense, considering that they must have a solid financial structure and ready access to the market, conditions that are unlikely. Recovery of the investment through payment of a rate is not always possible. 11. A different form of incentive for energy efficiency efforts appears in the final position statement of the Regulatory Authority for Energy, Networks and Environment (ARERA) concerning technical quality. 12. Meaning the lower volume with volume distributed being equal.
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