From the editor’s
desk…
Welcome
to Pipes & Wires #109. Hopefully everyone got a decent vacation over summer
(which proved to be rather wet and cool across most of New Zealand) before
getting back into it. This issue examines a heap of recent regulatory decisions
in New Zealand and Australia, and follows up on some merger activity in the US,
Europe and India. We also take a quick look at the phenomena of shale gas.
Utility
Consultants has also recently launched a new Face Book page, primarily as a
portal to the main website, but also to post topical comments. If you haven’t
already done so, could you please pick this link and then
hit the Like.
Energy
markets
Global – the promise of shale gas
Introduction
Every
so often something comes along that threatens to over-turn the delicate
geo-political balance of global oil and gas movements. So the recent media hype
about how shale gas could make the parts of the West self-sufficient merits
some investigation.
What exactly is shale gas ?
Shale
gas is simply natural gas trapped with shale formations. The reason shale gas
has become so prominent is that new methods of extraction such as horizontal
drilling and fracking have reduced the cost of extracting previously unviable
gas reserves.
What is fracking ?
Fracking,
or hydraulic
fracturing, is the process of pumping a mixture of about 90% water and 9.5%
sand under high pressure into rock formations known to contain gas. The sand
prises apart the naturally occurring narrow fissures in the rock, and holds
those fissures apart once the pressure has been removed.
Fracking
certainly isn’t a new process, as it has been used to assist or stimulate
convention oil and gas drilling for about 60 years. However it’s use as the
principal extraction method is quite recent.
Just how much shale gas is really there
?
It
would appear that there is heaps .... quite literally heaps !!! Current
estimates of global reserves are about 6,900,000 PJ (which would supply New
Zealand for about 35,000 years at current consumption rates). Certainly the
recent discoveries
of shale gas in north-west England have created a storm of interest that is
being likened to the discovery of North Sea gas in the 1960’s.
Impact on global natural gas markets
It
appears that shale gas has already started to ease natural gas prices in the
immediate term. In the long-term it might also be expected to significantly
alter geographical flows, and with it the balance of geopolitical power.
Mergers
& acquisitions
US
– the Duke – Progress merger stalls
Introduction
Pipes & Wires has been following the
proposed merger of Duke Power and Progress Energy to form the largest
electric utility in the US. The last time we examined this deal, the Federal Energy Regulatory Commission’s (FERC)
were concerned about diminished competition in the Carolina’s, and proposed a
number of concessions. Duke and Progress responded with a single proposed
concession to limit prices to cost plus 10% for 8 years.
This article examines the FERC’s response
to that proposed concession.
Background
to the deal
Duke
offered Progress’ shareholders 2.6125 Duke shares for each Progress share, as
well as Duke assuming $12.2b of Progress’ debt. If successful, the merged
companies would have about 56,000MW of generation and supply about 7,100,000
electric customers in North Carolina, South Carolina, Indiana, Kentucky, Ohio
and Florida (Pipes
& Wires #100, #102,
#105
and #106).
The
FERC’s response
In a rather surprising decision in December
2011, the FERC rejected Duke and Progress’ proposed 8 year margin cap claiming
that it “does not remedy the proposed adverse effects on competiton”.
Duke and Progress are now seeking to
address the FERC’s reiterated concern by identifying how virtual divestiture of
several hundred MW of peaking plant in the Carolina wholesale market might
work. Digging a bit deeper reveals the FERC’s expectation that any divestiture
would have to be of a more long-term nature, and not simply relinquishing
control of the day-ahead market.
The merger deadline has been pushed back to
early July 2012, however both Duke and Progress are confident that all
regulatory concerns can be addressed, and that the merger will be completed.
Pipes & Wires will continue to examine this deal as news emerges.
Germany
– buyers emerge for Open Grid Europe
Introduction
Pipes
& Wires #107 examined
E.On’s plans to divest its gas transmission business Open
Grid Europe. This article recaps a few details, and notes the emergence of
some possible buyers.
What
exactly is Open Grid Europe ?
Open Grid Europe (OGE) is a gas transmission
business comprising 11,500km
of high-pressure pipelines that sits within E.On’s subsidiary Ruhr
Gas. Annual gas throughput is about 75 billion cubic meters. OGE was
functionally separated from Ruhr Gas on 1st September 2009 to
provide independent system operator functions.
E.On’s
drivers for selling OGE
The more visible drivers for E.On’s planned
sale are...
·
Migrating
its capital away from pipes & wires and into either debt reduction or
unregulated energy services.
·
Complying
with the EU’s
Third Package (which requires separation of energy and lines).
·
A
planned sell down of about €15b of assets to reduce debt.
Perhaps a less visible driver is E.On’s jockeying
for position with rival RWE that recently sold its gas transmission
grid unit Thyssengas
GmbH.
The
buyer’s emerge
The buyers to emerge so far include...
·
Insurance
company Allianz’ private equity subsidiary Allianz Capital Partners, which has
teamed up with the Canadian Pension
Plan.
·
A
number of infrastructure funds including Macquarie, GS
Investment Partners and Borealis.
No doubt the appeal here is the predictable regulated returns.
·
Energy
utilities including GDF-Suez subsidiary GRTgaz,
Fluxys and possibly Gazprom. Presumably the backward and
forward integration possibilities are appealing.
It is expected that OGE could sell for
between €2.5b and €3b, which was towards the top end of Utility Consultants
estimate of €1.5b to €3b.
Pipes & Wires will closely follow this
deal as news emerges, and will also examine the wider context of reshuffling in
the European energy markets.
India
– British Gas looks to sell gas network in India
Introduction
It’s been a while since Pipes & Wires
has examined either British
Gas or India, so this article combines both by examining BG’s plans to
divest it 65% stake in India’s largest gas distribution utility.
A
bit about Gujarat Gas
Gujarat Gas supplies 325,000
connected customers throughout the Surat, Bharuch and Valsad districts of
Gujarat via 3,300km of mild steel and polyethylene pipelines. The pipeline
business is subject to the jurisdiction of the Petroleum & Natural Gas
Regulatory Board. Key financial information includes...
·
Annual
revenues of about 18.7b Rupees (US$355m).
·
After-tax
profits of about 250m Rupees.
·
Market
capitalisation of about 55b Rupees.
BG’s
planned sale
BG currently owns a 65.12% stake in Gujarat
Gas, which is valued at about 35b Rupees. It is understood that BG is seeking a
sale price of about 40b Rupees (about 16x NPAT) but underneath that it appears
that Gujarat may have an expected asset renewal forecast of about 5b Rupees. It
is also understood that some buyers have already withdrawn because the sale
price is too high
Possible buyers include several Indian
petroleum companies, suggesting some sort of forward integration strategy for their
gas supply businesses. It also appears that the wider investment community such
as infrastructure funds, insurance funds and European utilities are notably
absent.
BG’s
wider strategy
BG plans to focus on upstream activities
such as exploration and production. The sale of Gujarat Gas could mean the
beginning of many similar sales of BG’s pipeline businesses.
Regulatory policy
US – smart meters in the gun – again
!!!
Introduction
Far
from reducing global warming, smart meters seem to have raised the temperature
in many areas, and perhaps no more so than California. This article revisits Pacific Gas & Electric’s previous smart
meter difficulties and examines the latest events.
Re-capping the smart meter program
Just
to recap a few issues...
·
In the state of Maryland, the policy
makers were advocating smart meters but when Baltimore
Gas & Electric (BG&E) sought regulatory approval to recover the
costs, those
benefits suddenly became “largely
indirect, highly contingent and a long way off”.
·
In the state of Illinois, Governor Pat Quinn
recently rejected a Bill that would’ve allowed Commonwealth Edison to recover
the costs of rolling out 3,100,000 smart meters (despite both chambers of the
General Assembly passing the Bill).
·
In the state of California, PG&E’s
rolled out 5,500,000 smart meters. Something like 0.4% were incorrectly
installed, and only 0.00014% had inaccurately reported consumption data.
Despite these minute difficulties, the resulting firestorm went right to the
State Senate.
·
Concern arose over the health effects
of the “chirping” of meter data from the smart meters’ embedded mobile phone,
resulting in advocacy
group EMF Safety Network
proposing a moratorium on PG&E’s smart meter roll-out. By a vote of 4 to 1,
the California Public Utilities Commission
rejected EMF’s proposed moratorium.
·
Even more recently, data privacy and
security concerns have emerged. One of the concerns raised is that clever
burglars could capture unsecured meter Wi-Fi or HAN data and identify when home
owners were away on vacation by observing reductions in consumption.
The latest events
The
latest event in the saga is outrage over PG&E’s proposed fees to opt-out of the
smart meter program, which in an even more interesting twist received
approval from the CPUC. PG&E is proposing an up-front fee of $75 plus a
monthly fee of $10, or for low-income customers an up-front fee of $10 plus a
monthly fee of $5. Estimates are that up to 150,000 customers may opt-out.
What are the arguments ?
As
with most matters electric, the “for’s” tend to be well-defined and commercial
whilst the “against’s” tend to be emotional and vague. So the arguments are...
·
PG&E believes that an up-front fee
for replacing a newly installed smart meter with an analog meter is justified,
as well as a monthly fee for manual meter reading. Presumably there is also the
erosion of the much-touted benefits of smart metering, such as demand reduction.
·
Opponents are claiming that the mobile
phone signals are the cause of unending health difficulties, with one protester
yelling that it is a “crime against humanity” (although it is not clear whether
it is PG&E’s plan or the CPUC’s decision that is the crime).
Where to for smart meters ?
Will
difficulties such as those in California derail smart meters ? My guess is
probably no. Smart meters as a simple electric utility technology issue have
long since been overtaken (and indeed taken over) by the green movement as the
savior of the planet, and the political tipping point is now well behind us
with smart meter roll out targets firmly embedded in many statute books. The
rest is just the detail of implementation, and once again the poor old electric
utilities end up having to implement public policy objectives whilst being cast
as the face of evil.
Nationalisations
Japan – nationalising TEPCO ?
Introduction
For
many people the only face of the Tokyo Electric Power Company
(TEPCO) is the now shut-down Fukushima
nuclear station. This article examines the wider picture of TEPCO’s much
reduced market capitalisation and the planned Government and private sector
injections of 2,000b Yen (about US$26b).
What actually happened to TEPCO’s
finances ?
Following
the earthquake in March 2011, the Fukushima station was damaged and
subsequently closed down. The decommissioning, clean up and compensation costs,
as well as increased thermal fuel costs, are likely to exceed TEPCO’s assets,
so not surprising TEPCO’s market capitalisation went into free-fall, dropping
90% to stabilise at about 350b Yen.
What are the consequences of the
capital injection ?
Given
that the Government injection will be about 3x the remaining equity, odds are
that a de-facto nationalisation will occur (similar to what happened with British Energy a few years ago). TEPCO
executives are understood to be strongly fighting this, but it is not clear how
anything other than Government control will result.
The
long-term plan is to recapitalise TEPCO through price increases and resuming
nuclear generation (reducing the cost of thermal fuels), stabilise the
financial position by about 2017 and then re-privatise TEPCO in about 10 years.
So it would seem that nationlisation is a foregone conclusion ... Pipes &
Wires will comment further as news emerges.
Regulatory
decisions
Aus
– the revised Powerlink proposal
Introduction
Pipes
& Wires #103 introduced the revenue reset that will apply to
Queensland’s electricity transmission grid company, Powerlink, for the 5 year control
period starting on 1st July 2012. This article summarises
Powerlink’s Revised Proposal.
Key features of the revised proposal
Key
features of the Powerlink’s Revised Proposal include...
|
Parameter |
Proposal |
Draft Decision |
Revised Proposal |
Final Decision |
|
Total
OpEx |
$1,002m |
$920m |
$1,010.3m |
|
|
Total
CapEx |
$3,484m |
$2,360m |
$3,319m |
|
|
Opening
capital base |
$6,579m |
$6,576m |
$6,486m |
|
|
Rate
of return |
10.30% |
8.31% |
8.68% |
|
|
Revenue
requirement |
$5,954m |
$4,563m |
$5,004m |
|
Pipes & Wires coverage will continue as
the Final Decision emerges.
NZ
– determining the WACC for gas businesses
Introduction
Most of us have a keen appreciation that
the Weighted Average Cost of Capital (WACC) is a primary driver of investment.
This article examines the Commerce Commission’s recent Decision
#745 of the vanilla WACC that will apply to both gas distribution and
transmission businesses from 1st July 2012. Note that a separate
Determination applying to Maui Developments has also been prepared.
Legal
framework
The supporting legal framework for this
Determination is
·
For
Customised Price Paths (CPP’s), the WACC is set pursuant to clause 5.3.28 of
the Commerce
Act (Gas Distribution Services Input Methodologies) Determination 2010, and
clause 5.3.24 of the Commerce
Act (Gas Transmission Services Input Methodologies) Determination 2010.
·
For
Default Price Paths (DPP’s), the WACC is set pursuant to clause 4.1.7 of both
Decisions #711 and #712.
The
vanilla WACC’s that will apply
The vanilla WACC’s that will apply
(estimated as of 1st December 2011) are...
|
Application |
Duration |
Mid-point |
75th Percentile |
|
DPP |
5 years |
7.04% |
7.85% |
|
CPP |
3 years |
6.66% |
7.47% |
|
4 years |
6.83% |
7.64% |
|
|
5 years |
7.04% |
7.85% |
It should be noted that after Decision #745
was published, the Commission proposed
to defer the 1st July DPP commencement (and is consulting on
that proposal at the time of writing).
Aus
– the revised Aurora Energy proposal
Introduction
Aurora
Energy is in the process of having its allowable revenue for the 5 year
period beginning 1st July 2012 determined by the Australian Energy Regulator. To date, Aurora
has submitted its Proposal, and the AER has made its Draft Decision. This
article summarises the key features of Aurora’s recently submitted Revised Proposal.
Legal
framework
The broad regulatory framework is Chapter 6
of the National
Electricity Rules. These rules set out the issues that a distributor must
address in its Proposal, and the criteria against which the AER must assess the
Proposal.
Summary
of key parameters
Key parameters of the decision process to
date are...
|
Parameter |
Proposal |
Draft Decision |
Revised Proposal |
Final Decision |
|
CapEx |
$672.3m |
$535.8m |
$617.9m |
|
|
OpEx |
$340.1m |
$311.0m |
$356.5m |
|
|
Revenue |
$1,536.3m |
$1,305.4m |
$1,545.3m |
|
|
Opening RAB |
$1,484.9m |
$1,439.0m |
$1,474.6m |
|
|
Closing RAB |
$1,891.2m |
$1,740.7m |
$1,847.1m |
|
|
Nominal vanilla WACC |
10.33% |
8.08% |
9.97% |
|
Pipes & Wires will continue this
article once the Final Decision emerges.
Disclosure
of interest
Utility Consultants advised Aurora Energy
on parts of its Proposal.
Aus
– challenging the gas distribution decisions
Introduction
Pipes
& Wires #105 briefly examined Australian gas distribution companies
Envestra’s and Allgas’ applications to the Australian Competition Tribunal
(ACT) to have certain aspects of the Australian
Energy Regulator’s (AER) final decisions reviewed. This article recaps the
basis for seeking the review, and examines the Tribunal’s decision.
Basis
for seeking the review
Envestra and Allgas sought to have the
following aspects of the AER’s decisions reviewed....
|
Aspect of decision |
Envestra |
Allgas |
|
The methodology and the estimation of the
debt risk premium. |
l |
l |
|
The estimation of the market risk
premium. |
l |
|
|
The estimation of the forecast volume of
unaccounted for gas in regard to its SA network. |
l |
|
|
The forecast costs for Envestra’s network
management fee in regard to its SA network. |
l |
|
The
Tribunal’s decision
Key aspects of the Tribunal’s decision
include...
|
Company |
Aspect of decision |
Tribunal decision |
|
Allgas |
The
methodology and the estimation of the debt risk premium. |
That the AER’s proposed debt risk premium
be increased from 3.64% to 4.37%. |
|
Envestra |
The
methodology and the estimation of the debt risk premium. |
That the AER’s proposed debt risk premium
be increased from 3.81% to 4.67%. |
|
The
estimation of the market risk premium. |
That the AER’s decision be affirmed. |
|
|
The
estimation of the forecast volume of unaccounted for gas in regard to its SA
network. |
That the AER’s decision be affirmed. |
|
|
The forecast
costs for Envestra’s network management fee in regard to its SA network. |
That Envestra is entitled to recover the
network management fee. |
The net effects of the Tribunal’s decisions
are
as follows....
·
Allgas
will be able to recover an additional $11m for its Queensland network.
·
Envestra
will be able to recover an additional $10m for its Queensland network, and an
additional $71m for its South Australian network.
This marks the end of Pipes & Wires’
coverage of these 2 revenue resets.
A bit of light reading…
Wanted – old electricity history books
If
anyone has an old copy of the following books (or any similar books) they no
longer want I’d be happy to give them a good home…
·
White Diamonds North.
·
Northwards March The Pylons.
·
Two Per Mile.
·
Live Lines (the old ESAA journal).
·
The Engineering History Of Electric
Supply In New Zealand.
Conferences & training courses
The following
conferences and training courses are planned...
·
Fundamentals
of the NZ electricity industry – Wellington, 8th – 9th
May, 2012.
·
Fundamentals
of the NZ electricity industry – Auckland, 22nd – 23rd
May, 2012.
·
2nd
Infrastructure: Investment & Regulation Conference – Sydney, 31st
May – 1st June, 2012.
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Disclaimer
These articles
are of a general nature and are not intended as specific legal, consulting or
investment advice, and are correct at the time of writing. In particular Pipes
& Wires may make forward looking or speculative statements, projections or
estimates of such matters as industry structural changes, merger outcomes or
regulatory determinations.
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