From the
editor’s desk…
Welcome
to Pipes & Wires #128. This issue examines a few regulatory decisions in
New Zealand. A quick jump to Europe notes the approval of a new nuclear station
at Hinkley Point, the emerging consequences of Germany’s renewable energy
policy and the final revenue determination for Network Rail. We then jump to
the United States to examine the emerging tariff battle for rooftop solar and
progress on Boulder’s attempts to buy Xcel’s electric business. We then
conclude this issue with some analysis of retail price decreases in South
Australia and some possible future scenarios for Aurora’s retail business.
New Zealand
NZ – determining the WACC for Powerco’s
gas pipes
Introduction
The
Commerce Commission recently released its weighted average cost of capital (WACC) decision that will apply to Powerco’s gas
distribution business for the 5 year period commencing on 1st
October 2013. This article examines the key features of that decision, and
compares the decision to previous WACC decisions. Interested parties should
refer to the complete decision document.
Legal framework
The
WACC is compiled pursuant to clauses 2.4.1 to 2.4.7 of the Commerce Act (Gas Distribution Services Input Methodologies)
Determination 2012, which is itself made pursuant to Part 4 of the Commerce
Act 1986.
The recent WACC decision
The
Commission has determined the following WACC parameters…
|
Parameter |
Value |
|
Risk-free
rate (5 years) |
4.20% |
|
Debt
premium (5 years) |
1.80% |
|
Equity
beta |
0.79 |
|
Debt
issuance costs (5 years) |
0.35% |
|
Leverage |
44% |
|
Cost
of debt (5 year) |
6.35% |
|
Cost
of equity (5 years) |
8.55% |
|
Midpoint
vanilla WACC |
7.58% |
|
75th percentile vanilla
WACC |
8.39% |
Previous WACC decisions
Some
of the Commissions’ previous WACC decisions are as follows.
|
WACC
decision applies to |
Approx
date |
Mid-point
WACC |
75th
percentile WACC |
|
All
CPP applications before 30/9/14 |
September
2013 |
Vanilla
from 6.26% to 6.69% |
Vanilla
from 6.97% to 7.41% |
|
Transpower |
July
2013 |
|
Vanilla
6.85% , post-tax 6.17% |
|
Vector
gas distribution, GasNet |
July
2013 |
|
Vanilla
7.65%, post-tax 6.97% |
|
Auckland
& Christchurch airports |
July
2013 |
|
Vanilla
8.00%, post-tax 7.75% |
|
All
electricity distribution |
April
2013 |
|
Vanilla
6.83%, post-tax 6.14% |
|
Maui
pipeline (gas transmission) |
February
2013 |
|
Vanilla
7.46%, post-tax 6.80% |
|
All
gas distribution and gas transmission DPP’s |
December
2012 |
|
Vanilla
6.63% |
|
Vector,
GasNet CPP’s |
December
2012 |
Vanilla
6.39% (5 years) |
|
|
Powerco
gas distribution |
October
2012 |
Vanilla
6.83%, post-tax 6.12% |
|
NZ – adjusting Transpower’s maximum
allowable revenue
Introduction
Transpower’s maximum allowable revenue
(MAR) is set by the Commerce Commission. The Commission recently announced that it
was reducing Transpower’s MAR for the
year ending 31st March 2015. This article examines the key
components of that reduction.
Background
The background to
this decision included recommending to the Minister that Transpower should be
subject to an Individual
Price-Quality regulation (as described in s53ZC of the Act), and setting out the Maximum
Allowable Revenues (MAR) and quality targets. These are examined in Pipes
& Wires #90, #97 and #98.
The Commission’s
Decision NZCC 19 amends Section 3.3.1(c) of the previous Decision #714 by
reducing the MAR from $959.7m to $934.3m.
Key
components of the revenue reduction
The key components of the revenue reduction
are…
· Over
recovery of revenue due to a lower than forecast RAB for the year ending 31st
March 2013.
· Additional
CapEx forecast for the year ending 31st March 2015.
Transpower assessed the net effect to
$25.1m which the Commission supported.
NZ – final decision for Orion’s CPP
Just a bit of a heads up that the Commerce Commission
expects to publish its final decision on Orion’s CPP application on Friday 29th
November 2013.
Pipes & wires will examine that decision in the next issue.
UK
and Europe
UK – Hinkley Point C gets the go ahead
Introduction
The
saga of Britain’s planned new nuclear stations continues, this time on a more
positive note with the government’s recent approval for a consortium led by EDF Energy to build a new station adjacent to the
existing Hinkley Point B. This article recaps the drama to date
and examines the expected features of Hinkley Point C.
Background
In
order to offset the UK’s declining generation capacity, Tony Blair’s government
proposed a fleet of 10 new nuclear stations. In mid-November 2009 Secretary of State for Energy, Ed Milliband, announced possible sites, which included Hinkley Point in
Somerset (which was proposed by EDF).
Following
Milliband’s announcement, the whole proposal was beset by a multitude of
complex issues including price certainty, threats of credit downgrades and the
parent companies’ financial struggles so approval for 1 station is something of
a triumph.
Pipes & Wires #124 continued the story by examining the
loan guarantee (which is about where this article picks up the story).
Key features of Hinkley Point C
Key
features of Hinkley Point C include…
· The land was sold by the original owner
in 1994 for what was expected to be a windfarm.
· Two third generation pressurized water
reactors, each of 1,600MW capacity.
· The location is the Somerset coast,
looking towards South Wales.
· An expected cost of £16b.
· A strike price of £92.50 per MWh, which
will fall to £89.50 per MWh if EDF Energy proceeds with its second planned
station at Sizewell.
Pipes
& Wires will continue to examine progress as EDF Energy’s plans unfold.
Germany – the consequences of
renewables emerge
Introduction
An increasing number of eminent officials
and politicians are questioning the emerging consequences of Germany’s headlong
charge into renewables. This article picks up on a couple of themes from a recent
media interview with EU
Energy Commissioner Gunther Oettinger.
Key
aspects of Oettinger’s interview
Oettinger’s headline comment is that
Germany’s de-industrialisation has already begun, wherein traditional
smoke-stack industries are migrating out of Germany or simply closing down due
to increasing electricity prices and declining security of electricity supply.
It appears that the cost of Germany’s green energy revolution will be about
€175b by 2020, with much of this likely to fall on domestic electricity
consumers.
The real
issues
Reading around this subject, the real
issues appear to be…
· Escalating
end-user electricity prices arising from the high feed-in tariffs paid to wind
and solar generators.
· Declining
security of supply as levels of intermittent generation exceed the grids
ability to buffer the intermittent generation.
· A
consequent decline in Germany’s economic competitiveness, exacerbated by the
decline in US electricity prices as more shale gas becomes available.
· A
reluctance of the European energy market operators to pay the full economic
cost of standby generation.
· The
thorny issue of using carbon tax revenues to compensate smoke-stack industries
for high electricity prices (which firstly undermines one of the EU’s founding
principles of no state aid, and secondly just seems to be a money go round).
Where
might energy policy go ?
My observation is that the extreme green
view that has characterised Germany’s energy policy for the last 12 years or so
is now starting to separate into two quite divergent camps…
· A practical
recognition that increasing electricity prices and declining security of supply
are leading to job losses and financial ruin which is quite clearly politically
unsustainable, especially in the industrial heartlands.
· A
continuation of the idealistic view, albeit with a somewhat dampened rhetoric
that still reflects a determination to make renewable energy work regardless of
the cost.
My guess is that as Germany’s economy
softens, the idealism will have to increasingly give way to practical political
sustainability.
UK – the Final Determination for Network
Rail
Introduction
Pipes & Wires #124 examined the Office of Rail
Regulation’s (ORR) CP5 Draft Determination for the 5 year period starting on 1st
April 2014. This article examines the Final Determination.
Key features of the Final Determination
A
propose-respond approach has been used (similar to the Australian electricity
and gas revenue controls). The key features of Network Rail’s Strategic
Business Plan, the ORR Draft Determination and the ORR’s Final Determination
are set out below…
|
Description |
Strategic
Business Plan |
Draft
Determination |
Final
Determination |
|
Total
spend |
£40.095b |
£37.869b |
£38.293b |
|
Total
spend excluding enhancements |
£27,706b |
£25,630b |
£25.475b |
|
Support,
O&M, renewals |
£23,293b |
£21,385b |
£24.416b |
|
Major
project spend |
£12,388b |
£11,600b |
£12.818b |
|
Nett
revenue requirement |
£29,227b |
£27,428b |
£27.465b |
|
Nett
debt to RAB |
68.8% |
68.2% |
69.8% |
|
Core
support efficiency gains |
12.3% |
20% |
19.7% |
|
Renewal
efficiency gains |
15.7% |
20.1% |
17% |
This
pretty much concludes Pipes & Wires coverage of Britain’s rail pricing
decisions for the next couple of years.
North America
US – the battle for rooftop solar
Introduction
Precisely who
pays how much to connect solar panels and feed electricity back into the grid
has always been a thorny issue, but of late it threatens to erupt into a
firestorm in California. This article tries to uncover what the real issue is
and present what is hopefully a pragmatic view of things.
What is the real issue ?
It appears that
the real issue is that those who connect solar panels want to continue
to pay their electric bill on the same net metering basis that the legacy grid
has operated on. This has 2 major implications …
· An electric grid has certain costs which are both
high (due to the capital involved) and almost totally fixed, however most
jurisdictions insist that electric companies recover those fixed costs on a
variable basis. Hence the variable charges used to recover those fixed costs
embodies an estimate of nett variable units (kWh), which obviously reduces if
electricity is fed back into the grid. Depending on the precise mix of fixed
costs, variable charges and injected generation, many solar panel owners will
be paying less than the true economic costs of connection or possibly even
being paid to connect. Perhaps a useful analogy is “I rode the bus to work and
then half way home again, so I should only pay for the net distance travelled,
not the whole journey”.
· Solar generation obviously fluctuates as clouds
move in front of the sun, which obviously requires other grid-connected
generation to quickly start and then just as quickly stop. That quick-start
generation has to be paid for, and whilst it is clear that solar panel owners
are not paying for it the real rub is that many of them can’t see why they
should. Perhaps a useful analogy is “I like to cycle to work on fine days, but
when it is raining I expect to ride the bus but only pay the usual bus fare,
not all the standing costs”.
Some possible solutions
Perhaps the
answer is a “solar connection tariff” that embodies the following…
· A fixed monthly charge to reflect the true economic
cost of operating and maintaining the grid regardless of kWh throughput. An
alternative approach would be to replace all net meters with directional meters
and charge a higher rate for injected electricity that is based on full
recovery of the true economic costs (but the fixed charge would be simpler).
· A fixed monthly charge to reflect the standing
costs of the quick-start generation that is necessary to meet demand as solar
generation fluctuates. This could be on the basis that a solar panel rated at
so many kW requires so many kW of standby generation with its associated costs.
Interestingly
enough, Georgia Power’s proposed solar connection fee of about $25 per month is
already encountering criticism as part of the rate case before the Georgia Public
Service Commission.
Getting it to work in practice
So how might we
get this to work in practice ? After all, regulators and policy makers
continually expound the virtues of economically efficient pricing and cost
reflective tariffs, but we have this seemingly ever widening gulf between
theory and practice. So it would seem that the real hurdle here is firstly encouraging
policy makers and regulators to understand what the true economic cost of an
electric grid is and the importance of correctly recovering that cost over the
long term, and then secondly those bodies having the courage to not simply give
in to customer demands.
US – update on the Boulder muni
Introduction
Pipes & Wires #119 introduced the City of Boulder’s plan to
municipalise Xcel Energy’s electricity distribution business as a result of
widespread dissatisfaction. This article examines recent moves.
Background
The
City of Boulder began researching alternative supply arrangements in 2005, and
commissioned a report which concluded that the City could feasibly purchase Xcel’s distribution assets and keep tariffs
comparable to Xcel’s. These plans were shelved in 2008 when
Xcel selected Boulder for its SmartGridCity program.
The
City has a stated suite of energy goals, which include reducing CO2
emissions, providing customers with a greater say about their energy and
promoting social justice. It’s not totally clear what the City’s precise
concerns are but a quick read of some topical media suggests that the City
simply wants more renewable energy. After negotiations for the City to partner
with Xcel to build a wind farm broke down in July 2011 the City decided to put muni’ing back on the voter ballot. The City planned a vote on the issue
in April 2012, and the expectation was that the vote will be in favor of
purchasing Xcel’s distribution business and running it
as a Muni.
The
City of Boulder then planned the Ballot 2C vote for April 2013. Ballot 2C would
authorise the City to form a Muni and issue bonds to fund the purchase of
Xcel’s distribution assets providing that the Muni’s tariffs would be no
greater than Xcel’s at the time the Muni starts. In August 2013 the City voted
6 to 3 in favor of forming a Muni, and additionally gave voters the opportunity
to set an upper limit on key costs of $214m and gave the City the power
to file a condemnation lawsuit if negotiations breakdown. The process would
center around appraising Xcel’s distribution system and then negotiating to buy
it, which several commentators claim is likely to result in the condemnation
lawsuit being triggered.
Latest events
In late October
2013 voters were asked to consider 2 ballot questions…
· The “Yes on 310” question, backed by Xcel Energy
which aimed to limit the debt that the City could take on to form the Muni.
· The “2E” question, backed by the City.
The final
election results revealed 66.5% support for “2E” but only 31.1 support for “Yes
on 310”, which supporters of the Muni claim as a double victory and evidence of
increased support since 2011.
Examining the thinking behind the recent ballot
victories
Some comments in
the popular media suggest that a strong environmental push is behind the Muni
movement, perhaps with a hint of economic self-determination. Surprisingly
enough, one of the pro-Muni groups also hopes that Xcel and Boulder can work
together cooperatively in the future.
The editor comments
A couple of
salient comments come to mind…
· One way or another a capital charge will be
embedded in the Muni’s cost structure to reflect the debt taken on by the City.
This will either be recovered from Boulder’s electric customers, or recovered
from those very same people as citizens of Boulder.
· The Muni will lack the scale of a large electric
company such as Xcel.
· If Boulder does go down its stated path of more
renewable energy, it may well find that its costs increase and power flows on
its network fluctuate. Xcel may be able to provide renewable buffering, but I’m
sure that it will be at a cost.
· A commercial interface will be inserted between
Xcel and the Muni, which always comes with an associated risk-reward profile.
The pro-Muni wish for Xcel and the Muni to cooperate may eventuate, but that
cooperation is likely to come at a risk-adjusted cost.
Next steps
There is still a
few steps to go, one of which is actually purchasing the assets from Xcel. A
limit of $214m has been placed on that purchase cost, so it will be interesting
to see what emerges. I’ve got a funny feeling that the citizens of Boulder will
discover the truth of the saying “be careful what you wish for”.
Australia
SA – energy prices fall as deregulation
starts
Introduction
Pipes & Wires #118 noted the removal of retail
electricity price controls in South Australia. This article examines the recent
decreases in electricity prices in the capital city of Adelaide.
Background
Victoria
and South Australia have already deregulated their retail electricity markets. Tasmania
will enter Full Retail Contestability (FRC) on 1st January 2014 and Queensland
plans for a regionally phased introduction of retail competition in 2015 (refer
to Pipes & Wires #124) The New South Wales government is still considering
the matter.
The price decreases
Data
from the Australian Bureau of Statistics indicated that electricity prices
decreased in Adelaide by 2.7% over the past 12 months, whilst the nation-wide
average price increased by 6.1%
So does competition work ?
It
would appear that retail electricity prices do drop as markets are deregulated,
presumably in a one-off sense as retailers scramble to gain market share by
re-shaping their energy products and prices. However the emerging picture is
also one of an upward shuffle over time as other supply chain costs increase
and overtake the one-off benefits of deregulation.
Tas – will a stand-alone energy retailer
be viable ?
Introduction
Pipes & Wires #121 noted that Tasmania will enter Full
Retail Contestability (FRC) on 1st January 2014, whilst Pipes & Wires #127 examined the abandoning of the sale of
Aurora Energy’s existing retail customer base
ostensibly because the expected sale price was too low. This article considers
the next logical step of having to figure out whether a stand-alone energy
retail will be viable.
Background
There
are 3 key elements of structural change occurring in the Tasmanian electricity
industry…
· Amalgamation of Aurora’s distribution
business with the transmission grid business Transend to form a vertically
integrated T&D company call TasNetworks.
· Amalgamation of Aurora’s generation
with Hydro Tasmania.
· The intended sale of the energy retail
business to an external party, which was abandoned a few months ago.
Considering the viability of the retail
business
The
viability of any business depends on the long-term sustainability of its profit
margins, and electricity retail businesses characteristically have fairly low
margins. Consider the following…
· The sale process was abandoned because
the expected sale price was too low. That would strongly imply that the margins
were low. Unless underlying costs can be significantly reduced, margins will
decline as prices decline.
· Retail prices have been observed to
decrease when contestability starts as competing retailers reduce their prices
and offer more innovative energy products. Moreover, Tasmania’s Energy Minister
Bryan Green has publically stated that “power prices will fall by over 5% from
January 1 next year while maintaining the flexibility to sell the business in
the future”.
If
margins are already low enough to gazzump the sale process, presumably price
decreases of “over 5%” will further reduce margins. Hence it’s not clear why
the retail business would be more saleable in the future. Time will obviously
tell…
General stuff
Consulting services that may be of
interest to clients
Utility
Consultants wide expertise extends well beyond the above projects ... if you
need energy network advice chances are Utility Consultants has done work in
that area. Here’s a sample of work done for clients over the last few years
that demonstrate the breadth of skills, insight and experience that is
available....
· Prepared an independent engineer’s
report to justify proposed alternative asset lives.
· Advised an electricity business on the
regulatory implications of bringing externally contracted field services back
in-house.
· Identified economic and regulatory
arguments to support inclusion of transmission interconnection charge risk into
network tariffs.
· Advised lines businesses on a
regulator’s proposed treatment of CapEx and OpEx.
· Advised an international investor on
gas distribution policy and regulatory trends.
· Identified national energy policy
implications for lines businesses.
· Assisted a lines business to identify
the burden of proof implied by regulatory determinations.
· Suggested amendments to a gas
transmission AMP to strengthen the economic arguments.
· Identified electricity network
investment characteristics as part of an acquisition study.
· Developed an AM framework for a gas
distribution business to link AM to regulatory requirements.
· Identified OpEx – CapEx tradeoffs for an electricity lines
business.
· Performed various substation growth and
reinforcement assessments.
· Performed network physical and business
risk studies.
· Compiled disaster recovery and business
continuity plans.
Pick
here to download a profile of recent
projects, or here to contact Phil.
Guide to NZ electricity laws
I’ve
compiled a “wall chart” setting out the relationship between various past and
present electricity Acts, Regulations, Codes etc in sort of a chronological
progression. To request your free copy, pick here. It looks really cool printed in color
as an A2 or A1 size.
A bit of light-hearted humor
What
if price control had been around in the 1920’s and 1930’s ? A collection of
photo’s with humorous captions looks at some of the salient features of price
control. Pick here to download.
Conferences & training courses
The following
conferences and training courses are planned...
· European Wholesale Energy
Markets – London, 3rd
– 4th December 2013.
· Fundamentals of Renewable
Energy – Sydney, 10th – 12th
December 2013.
· Myanmar Oil & Gas Summit – Yangon, 27th
– 28th January 2014.
· Kazakhstan Oil & Gas Summit – Almaty, 27th
– 28th February 2014.
· Third annual Downstream Energy Sector conference – Auckland, 5th
– 6th March 2014.
· East Africa Oil & Gas Summit – Dar Es
Salaam, 27th – 28th March 2014.
· Fundamentals of the NZ
electricity industry – Wellington, 1st – 2nd
April 2014.
· Fundamentals of the NZ
electricity industry – Auckland, 6th – 7th
May 2014.
· European Wholesale Energy
Markets – London, 11th – 12th
June 2014.
Utility
Consultants takes no responsibility for the content of individual courses or
conferences, nor for any administrative or travel arrangements.
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…
· Wonders Of World
Engineering (published 1937) – in particular editions 1 to 27.
· Distribution Of Electricity (WT Henley,
the cable manufacturer)
· Northwards March The Pylons.
· Two Per Mile.
· Live Lines (the old ESAA journal).
· The Engineering History Of Electric
Supply In New Zealand.
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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. These articles also summarise lengthy documents, and it is important that
readers refer to those documents in forming opinions or taking action.
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Consultants Ltd accepts no liability for action or inaction based on the
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