MarIus

3.1.1 An outline of unbundling

The idea of 'unbundling' the management, legal corporate status and even ownership of the energy network is a core element of the EU's energy legislation. Most of the ex-incumbent electricity and gas companies were typically vertically integrated, which can create difficulties for liberalizing these markets:

[t]hey have an inherent interest in retaining their customers, market share, and thus profitability. When competition is introduced, the ex-monopolists hold a 100% market share. Thus, any gain in market share by new competitors means a loss in market share by the ex-incumbent. It is perfectly natural that the ex-incumbent will endeavour to prevent any loss of market share. Where the ex-incumbent owns the network, it has a natural incentive to make third party access to it as difficult as possible.(1)C. Jones (gen. ed.), EU Energy Law – Volume I: The Internal Energy Market (Leuven: Claeys & Casteels, 3rd edn., 2010), 10.

In essence,(2)For details, see Johnston & Block, ch. 3. unbundling seeks to:

• introduce competition where possible within the system, including through trade from other countries, thus enhancing the system's responsiveness to changes (on matters such as input costs, etc.);

• reduce incentives to cross-subsidise up- or downstream business using profits garnered from control over natural monopoly assets in transmission and distribution (as illustrated by Diagram 1, above) or otherwise favour such other parts of the business (e.g. via sharing market-sensitive information): this should also encourage the network operator to focus on its own issues and performance, rather than being run to serve the interests of associated up- or downstream parts of a vertically integrated business;

• encourage investment and innovation across the system;

• ease the supervisory tasks entrusted to the National Regulatory Authority ('NRA'), concerning issues like tariffs, market monitoring and transparency;

• enable - if this were thought desirable by the relevant Member State - privatisation of (elements of) the energy supply system.

Alongside these potential benefits, unbundling in general, and ownership unbundling in particular, also impose various costs upon system operators, users and customers; for some, these costs may well outweigh the benefits to be gained from unbundling.(3)See, e.g., M. Mulder, V. Shestalova and M. Lijesen, ‘Vertical separation of the energydistribution industry’ (CPB No 84, 2005) and B. Baarsma et al, ‘Divide and Rule. The Economic and Legal Implications of the Proposed Ownership Unbundling of Distribution and Supply Companies in the Dutch Electricity Sector’ (2007) 35 Energy Policy 1785. These costs may include:

• one-off transaction costs on asset sales and/or structural reorganisation;

• replacing internal processes with a series of contracts (time delays, ongoing transaction costs);

• the need for regulation of natural monopoly assets, which itself imposes costs on society or at least users of the system;

• more generally, unbundling models stopping short of full ownership unbundling require policing the limits of such other approaches, which imposes further regulatory oversight costs, and compliance costs on the part of the undertaking;

• the loss of (easy?) government ability to achieve policy goals through the energy system.

There are also arguments for moving beyond functional and legal separation to require the full ownership unbundling of the transmission system operator, which essentially reside in improving or enhancing various elements of the benefits outlined above.(4)See, further, M. Pollitt, ‘The Arguments For and Against Ownership Unbundling of Energy Transmission Networks’ (2008) 36 Energy Policy 704.

Under the current EU legislative framework, Member States are required to use of one three basic models for Transmission System Operators:

(1) the ownership unbundling model (which is the basic principle and the default model(5)See, e.g., the Third IEM Directives, recitals 11 (Elec.) and 8 (Gas). from the EU Commission's perspective), was first introduced in Article 9 of the Third Electricity and Gas IEM Directives, and is now included in Article 43 of Electricity Directive (EU) 2019/944 with respect to the electricity sector. This requires complete separation of the ownership of the transmission business from other levels up- and/or downstream (generation, distribution, supply, etc.);

(2) the independent system operator (ISO), provided for by Articles 44 and 45 of the (EU) 2019/944 (previously Articles 13 and 14 of Electricity Directive 2009/72/EC) and Articles 14 and 15 of the Gas Directive 2009/73/EC. Ownership of the network can still be held by the vertically integrated entity, but the transmission network must itself be managed by an independent system operator, which must be entirely separate from the vertically integrated company and which is to perform all network operator functions; or

(3) the independent transmission operator (ITO), detailed in Articles 46 to 51 of the Electricity Directive (EU) 2019/944 (previously Articles 17 to 23 of the Electricity Directive 2009/72/EC) and Articles 17 to 23 of the Gas Directive 2009/73/EC. Here-under, separation of the transmission activities must be achieved through the establishment of an ITO, which must be responsible for the maintenance, development, and operation of the networks, even though those networks remain the property of the vertically integrated company.

Once a Member State has adopted the first model, under the Directives it is not permitted to 'regress' back to a weaker unbundling model in future. It should be emphasised that these Directives provide a significant amount of detail concerning the national rules which will be required to govern the ISO and, in particular, the ITO models, in an attempt to ensure that these options "provide the same guarantees regarding independence of action of the network in question and the same level of incentives on the network to invest in new infrastructure that may benefit competitors".(6)Commission, ‘Proposal for the Third Package Directives’, COM(2007) 195 (19 September 2007). The concomitant of providing these alternatives is that the NRA will have a significant role to play in ensuring the respect of these detailed rules by the transmission system operator:(7)For detailed discussion, see Johnston & Block, paras. 3.32-3.94. from a fundamental rights perspective, this is significant, in that it may render the NRA the appropriate defendant if any of its regulatory activity is found to be disproportionate in its effects upon that operator.

The reason for providing some detail concerning unbundling is that its goals and detailed regulation will prove crucial in any analysis of the fundamental rights implications of EU or national rules which establish or further extend the unbundling principles: prima facie, rules which strongly control the enjoyment of property (i.e. the transmission business) held by a company, even to the extent of requiring that property to be sold and specifying certain key characteristics of those allowed to buy it, amount to a restriction upon rights to free enjoyment of property and possessions under Article 1 of the First Protocol to the ECHR and/ or Article 17(1) of the Charter.

The flowchart reproduced in Diagram 2 (above) tries to locate the relevance of such fundamental rights arguments within the EU law firmament, noting the potential impact of fundamental rights upon the EU's law-making process and competence as well as their relevance to national implementation of EU law and national level law-making, where EU fundamental rights law may operate as a constraint upon national competence and autonomy.(8)This was developed from A. Johnston, ‘Ownership Unbundling: Prolegomenon to a Legal Analysis’, ch, 23 in M. Bulterman, L. Hancher, A. McDonnell & H. Sevenster (eds.), Views of European Law from the Mountain – Liber Amicorum Piet Jan Slot (Alphen aan den Rijn: Kluwer Law Intetnational, 2009).

3.1.2 Ownership unbundling and fundamental rights

Despite the relative paucity of case law to date, the issue remains one of real significance: strong views have been expressed(9)See, e.g.: J-C Pielow, G Brunekreeft, and E Ehlers, ‘Legal and Economic Aspects of Ownership Unbundling in the EU’ (2009) 2(2) Journal of World Energy Law & Business (see the comment in reply by K. Talus & A. Johnston, (2009) 2(20 Journal of World Energy Law & Business 149); and E. Ehlers, Electricity and Gas Supply Network unbundling in Germany, Great Britain and The Netherlands and the Law of the European Union: A Comparison (Antwerp: Intersentia, 2010). that the far-reaching implications of unbundling in general, and ownership unbundling in particular, require strong and cogent justifications if the intrusion upon property rights is to be found proportionate. Praduroux and Talus, on the other hand, have concluded that there does not appear to be a conflict between fundamental rights and general principles of EU law on the one hand and ownership unbundling on the other hand.(10)S. Praduroux and K. Talus, ‘The third legislative package and ownership unbundling in the light of the European fundamental rights discourse’ (2008) 9 Competition and Regulation in Network Industries 3-28. The key fundamental right in question is likely to be the right to property laid down in Article 1 of the First Protocol to the ECHR (and the corresponding terms of Article 17 of the EU's Charter of Fundamental Rights). In short, provided the transmission assets are sold off, thus ensuring that their current owners receive some compensation in return for their inability any longer to own such assets, it seems that this should amply satisfy the proportionality requirements imposed by the ECHR under this provision.(11)It can be noted that the rationale underlying the fundamental rights analysis under the ECHR (mirrored in many national systems) is very similar to the basis upon which claims to recover stranded costs have been developed and subsequently analysed under EC law in the State aids field. See Commission Communication relating to the methodology for analysing State aid linked to stranded costs (26 July 2001), which document is available on the internet at: https://ec.europa.eu/competition/state_aid/legislation/stranded_costs_en.pdf. See further the brief article by B. Allibert, ‘A methodology for analysing State aid linked to stranded costs, and first cases’, (2001) Competition Policy Newsletter, Number 3, October 2001, pp. 25-27, discussing the Decisions taken by the Commission on the applications by Austria, Spain and the Netherlands. A brief discussion is required to justify this assertion, which is based upon the broader case law under the ECHR, given that the issue has yet to be addressed directly under EU (fundamental rights) law.(12)The same structure of discussion could also apply to rules mandating third party access (TPA) to energy networks at the transmission and distribution levels, although we are not aware that it has been utilised in practice.

3.1.3 Ownership unbundling and Article 345 TFEU

The Grand Chamber judgment of the Court in Netherlands v. Essent is the only case where the Court of Justice has dealt with a privatisation ban related to the sale of shares in electricity and gas DSO organisations under Article 345 TFEU governing national systems of ownership rights.(26)Joined cases C-105/12 to C-107/12, ECLI:EU:C:2013:677. The Court found that the privatisation ban fell within the scope of Article 345 TFEU, but that the prohibition nevertheless constituted a restriction on the free movement of capital pursuant to Article 63 TFEU. The judgment is, however, more ambiguous concerning the potential influence of the principle in Article 345 TFEU on considering legitimate justification grounds.(27)K. Haraldsdottir, ‘The nature of neutrality in EU law: Article 345 TFEU’ (2020) 45(1) E.L. Rev. 2020 3-24. Haraldsdottir argues that the role of the neutrality principle enshrined in Article 345 TFEU must be viewed in relation to the specific merits of each case, where the application of the principle may depend on the social function or strategic importance of the property at issue.(28)Ibid. Based on this reasoning, the decision in Netherlands v. Essent may also be seen as not contradicting the reasoning of the EFTA Court in Hjemfall, where the Court noted that Norway could pursue a system of public ownership for its hydropower resources, provided the objective is pursued in a non-discriminatory and proportionate manner, with reference to the equivalent provision to Article 345 TFEU in Article 125 EEA.(29)Case E-02/06, EFTA Surveillance Autority v. Norway (judgment of 26 June 2007). Finally, it is notable that the CJEU judgment in Netherlands v. Essent did not refer even once to fundamental rights protection in general, the ECHR, EU or national fundamental rights law, focusing instead solely upon Article 345 TFEU and the free movement of capital under EU law.