From the director…
Welcome to Pipes & Wires #79.
This issue sees a real focus on competition and regulatory policy shifts in
Europe, and also examines some regulatory matters in Australia. So, a short
introduction this month, but hopefully some deep reading…
About Utility Consultants
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Competition policy
UK – OFGEM concludes its investigation
Introduction
Pipes
& Wires #70 discussed OFGEM’s investigations into allegations that ScottishPower and Scottish & Southern Energy
had abused a dominant position in an electricity market that arose because of a
transmission constraint. This article considers OFGEM’s findings which were released in
mid-January 2009.
Background
The basis of this matter is that
under some situations, electricity transmission from Scotland into England can
become constrained. OFGEM believed that both SP and S&SE took advantage of
this situation by increasing their prices. The legal position in this matter is
very clear … both Article
82 of the EC Treaty and Section
18 of the Competition Act 1998 prohibit a business holding a dominant
position in a market from abusing that position. OFGEM initiated its
investigation under s18.
The accusations
OFGEM’s accusation (which arose
from a formal complaint) was two-fold…
·
Capacity was withheld from the wholesale forward market.
·
That same capacity was used to supply balancing power to National
Grid at excessive prices.
For the avoidance of doubt, it is
emphasized that the holding of a dominant position is not an offense
(but rather it is the taking advantage of such a position that is an
offence).
OFGEM’s concerns & conclusions
OFGEM expressed concern over the
following two matters…
·
That both SP and S&SE’s output seemed much more expensive than
comparable generators at the time of the constraint.
·
That SP, S&SE or both may have behaved in a manner that
exacerbated or even caused the constraint.
However, in its letter of 19th
January 2009, OFGEM concluded that the likelihood of making an infringement
finding was low (although not negligible). OFGEM also concluded that pursuing
the matter would not be an efficient use of resources, especially given that
the matter would be likely to be addressed by the Transmission Access Review.
So in conclusion, OFGEM decided
to close the matter with no further action, whilst reserving the right to
re-open the matter “should circumstances warrant action”.
Belgium – limiting Electrabel’s market share
Introduction
Requiring merger concessions is a
very common instrument used to control levels of dominance in markets. This
article examines recent happenings pursuant to the Pax Electrica 2 agreement
between Electrabel and the
Belgian Government.
The background to Pax Electrica 2
Pax Electrica 2 is an agreement
between Electrabel and the Belgian Government under which part of the output of
Electrabel’s 6,000MW of Belgian nuclear capacity would be made available to
competing third parties. Under the Pax, Belgian energy company SPE (of which Gaz De
France owned 25.5%) would be given 535MW of power off-takes.
The reason for the Pax was the
concentration of ownership created by the merger of Suez and GDF. Suez subsidiary Electrabel had
a 64% share of the retail electricity market, but the complicating factor was
that a further 21% of the electricity market held by Luminus and Citypower were effectively
controlled by GDF. This would’ve led to the merged GDF Suez controlling about
85% of the electricity market.
Recent happenings
In December 2008 Electrabel
agreed to sell 1,700MW of Belgian generating capacity and power procurement
rights to E.On, giving E.On about 12% of the
Belgian electricity market. In return, E.On
agreed to sell 800MW of German generating capacity and a further 700MW of
German power procurement rights to Electrabel.
As an aside to the Electrabel
deal as part of its EU anti-trust settlement, E.On also agreed to sell 500MW of
capacity to German rival EnBW.
UK – policy issues behind the Brit Energy sale
Introduction
The cyclical booms and busts of British Energy have been a long-time
topic of Pipes & Wires. This article rounds out Electricité
De France’s (EDF) recent acquisition of Brit Energy by noting the European
Commission’s (EC) required concessions and considering some of the policy
issues involved.
The concessions
The EC, under the EU Merger
Regulations, has required the following concessions to be made…
·
EDF must sell its Sutton Bridge Power Station.
·
Brit Energy must sell its Eggborough Power Station.
·
The merged entity must sell specified minimum volumes into the
British wholesale electricity market.
·
The merged entity must sell a site at either Dungeness or Heysham
that would be suitable for building a nuclear power station.
·
The merged entity must terminate 1 of its 3 grid connection
agreements with NGC at Hinkley
Point.
The policy issues
As part of its examination of the
proposed sale, the EC concluded that although the merged entity would not have
an excessive market share, concerns would’ve arisen in 4 broad areas…
·
The combination of Brit Energy’s base-load plant and EDF’s
flexible plant could’ve created the potential for the merged entity to game the
market by withdrawing plant.
·
The balancing of EDF’s short position and Brit Energy’s long
position could’ve led the merged entity to sell to its own retail market rather
than through the wholesale pool.
·
Most of the suitable sites for building the next generation of
nuclear plants were at existing Brit Energy or EDF sites, which could limit the
ability of a third party to build the next nuclear plant.
·
The capacity connection rights to the grid that would be held by
the merged entity at Hinkley Point would be in excess of its planned capacity
expansion and could therefore exclude a competitor from connecting.
Brit Energy and EDF provided both
an initial and a revised package of concessions to the EC to mitigate its
concerns. The EC concluded that the revised concession package was sufficient,
and gave its approval subject to those concessions being implemented.
Some thoughts from the editor
Efficient operation
of markets is the guiding mantra of most, if not all, competition regulators,
and a key part of that is ensuring that no single player achieves positions of
market dominance. However, little obvious thought seems to have been given to effective
operation of markets, and that the long-term well-being of customers depends on
sufficient investment in new capacity. Pipes & Wires first examined this
issue back in August 2004 (funnily enough that issue also examined Brit
Energy’s tough times) and expressed the thought “what if the only parties
willing to invest are those that would be prohibited from investing due to
competition law”. As the UK faces an expected significant short-fall of
capacity perhaps the effectiveness of markets needs to be revisited.
Energy markets
Germany – regulating competitive assets
Introduction
Most of us accept the need for
regulating pipes & wires that are not subject to competition, but would almost
certainly question tariff regulation of such assets that are subject to market
disciplines. This article examines the recent decision by German gas
transmission operator Wingas
Transport to abandon the proposed 500km Süddeutsche Erdgasleitung (SEL)
pipeline across southern Germany because the federal energy regulator Bundesnetzagentur has
decided that the SEL’s tariffs would be set by regulation and not by market
forces.
The proposed SEL pipeline
The SEL was proposed to run
between the Lampertheim gas hub and Burghausen, which is becoming an
increasingly important trading and storage node for imported Russian gas. The
total investment was expected to be about €600m.
The regulatory framework
The underpinning regulatory
framework is the EU
Gas Directive (98/30/EC), which required member states to comply with the requirements
of the Directive no later than 1st July 2004. This was overtaken by Directive
2003/55/EC in June 2003, which in conjunction with Regulation 1755/2005,
provides for national regulators to fix transmission tariffs.
Wingas’ argument
Wingas’ argument is that the SEL
would be subject to competition, therefore its tariffs should be set by the
market, and not by regulation.
The Bund’s argument
In a media statement, the Bund
seemed puzzled by Wingas’ argument that such pipelines are uneconomic,
especially when it had recently granted a WACC of 9.29% which it claimed was an
attractive figure in the current climate. However this doesn’t appear to
address Wingas’ argument that a competitive asset shouldn’t have its tariffs
(and by implication, it’s WACC) set by regulation, no matter how apparently
attractive.
Energy policy
Sweden – re-thinking the nuclear phase-out
Introduction
Shifts (or even lurches) in
nuclear policy are no stranger to the pages of Pipes & Wires, especially as
many seem to be questioning the scientific basis of climate change and concern
mounts over declining security margins. Following on from Germany’s back-peddle
(discussed in Pipes
& Wires #77), Sweden’s announcement in early February 2009 that it
would allow replacement of existing reactors didn’t come as a great surprise.
Background
Sweden decided way back in 1980
that it would migrate away from nuclear power as a result of a referendum held
the previous year. This resulted in a two-fold decision…
·
There would be no further nuclear plants.
·
The phase-out of existing plant should be completed by 2010.
I guess for those of us who were still
in short pants back in 1980, it would be important to understand the hysteria that
was whipped up over Three
Mile Island (and again over Chernobyl in
1986). In 1997 the Government attempted to accelerate the closure of the 2
reactors at Barsebäck
to 1998 and 2001 respectively, but these were operated until 1999 and 2005.
However the Government’s decision of 1998 not to build any more hydro’s (to
protect water resources) was considered to have set the phase-out back to 2045.
The latest policy movements
The Government’s policy
announcement of 5th February 2009 said that it intended to construct
new nuclear plants as well as scrap the phase-out of existing plants to reduce
Sweden’s dependence on fossil fuels and reduce emissions.
This policy shift is expected to
create an interesting dynamic amongst policy makers as Sweden takes up the
rotating EU presidency in mid-2009 and oversees a major climate change forum.
It does need to be said that nuclear power may not be the answer to the
converging crises of emissions, fossil fuel dependence and dwindling security
margins, but at last we are now having the debate.
Regulatory
policy
Aus – the AER takes over from the ESC
Introduction
Pipes &
Wires first examined the consolidation of Australia’s 13 energy regulators
way back in March 2004. After almost 5 years of progress this article takes a
quick look at the hand-over from the Essential
Services Commission to the Australian
Energy Regulator that occurred on 1st January 2009.
Background
Readers may recall that one of
the Parer Review’s findings was that the Australian energy sector was
over-regulated which was causing barriers to new investment. One of the key
underlying issues was the multi-dimensional transformation of the traditional
boundaries of vertically disaggregated, state-owned utilities that operated in
only 1 state into consolidated, multi-state, private utilities having to deal
with multiple regulators.
The Victorian transition
At the very outset it was
recognised that the move from multiple regulators to a single regulator would
need to be a gradual process, and the Victorian hand-over represents another
step in that process.
The legal basis for the hand-over
is set out in the National Electricity (Victoria) Act 2005 which transferred
the administration of the economic regulatory framework for electricity distribution
from the ESC to the AER effective 1st January 2009. The ESC will
continue to administer the licenses for the 5 Victorian DNSP’s and the
regulation of the electricity retail businesses.
The AER rolls up its sleeves and gets stuck in
The AER has added the Victorian
distribution re-set on 1st January 2011 to its pile of stuff to do.
It is currently consulting on its preliminary Framework & Approaches views
and expects to release its final paper in May 2009. That will pave the way for
the 5 Victorian DNSP’s to submit their Proposals at the end of November 2009.
UK – update on 5th DPCR
Introduction
Pipes &
Wires has been closely following the policy level development of the 5th
electricity distribution price control in the UK. Following on from OFGEM’s thoughts in November 2008
(discussed in Pipes & Wires #77), this article examines OFGEM’s
Policy Paper that was released in December 2008.
Background
OFGEM’s November 2008 paper set
out a number of thoughts that signaled a shift in policy direction. The most
significant of these thoughts included…
·
Incentivising outcomes in excess of stated requirements.
·
Incentivising replacement of dumb assets with smart assets.
·
Mimicking the returns on equity that are available to the
competitive sectors.
Summary of the Policy Paper
The December 2008 Policy Paper
clearly sets out 3 key objectives for DPCR5…
·
Encouraging DNO’s to help tackle climate change.
·
Strengthen non-network aspects of customer service (such as call
centers and new connections).
·
Incentivising efficient, least-cost investment in reliable, secure
networks.
OFGEM believes that DPCR5 will
have been successful if firstly the regulatory settlement provides reasonable
rewards for meeting those objectives, and secondly if the DNO’s that perform
the highest against those objectives receive the greatest rewards. Key themes
of the December 2008 Policy Paper include…
·
How DNO’s can contribute to assisting the UK’s climate change
initiatives, as well as reducing their own carbon footprint.
·
Identifying aspects of customer service that could be strengthened
and developing existing mechanisms and new initiatives to encourage DNO’s to
respond to those initiatives.
·
A shift from measuring network cost performance by inputs to
measuring by outputs, including some new thoughts on cost incentives.
·
OFGEM’s thoughts on WACC, RAV, taxes, pensions and issues
affecting DNO’s financeability.
The next major step is expected
in May 2009 when OFGEM will publish its methodology document and initial
results.
Aus – reviewing the WACC
Introduction
Pipes
& Wires #75 examined the Australian
Energy Regulator’s planned review of the constituent components of the
much-loved and all-important WACC. This article examines the AER’s proposed conclusions
underlying a proposed reduction in nominal post-tax WACC from the current range
of between 9.32% and 9.56% to a lesser figure of 8.60%.
Background
The National Electricity Rules (NER)
provide for the AER to review the WACC parameters used in electricity
distribution and transmission determinations. Reviews may be conducted at 5
yearly intervals, with the first review being completed by 31st
March 2009. The AER set out a number of key issues that it wished to examine as
part of that review
The AER’s proposed conclusions
The AER’s proposed conclusions
include…
·
The nominal risk-free rate (Rf)
shall be based on a moving average annualised yield on Commonwealth Government
bonds having a maturity period that matches the term of the control period.
·
The time period during which the risk-free rate is to be
calculated shall be a period proposed by the TNSP or DNSP that is as close as
practically possible to the start of the control period , or some other period
specified by the AER if it does not agree with the period proposed.
·
The equity beta (βe)
shall be reduced from the current range of between 0.9 and 1.0 to a lesser
figure of 0.8.
·
The market risk premium (MRP) shall remain unchanged at 6.0%.
·
The ratio of debt to (debt + equity) shall remain unchanged at
0.6.
·
The benchmark credit rating shall increase from BBB+ to A-.
·
The assumed utilisation of imputation credits (γ) shall increase from 0.to a
greater figure of 0.65.
The AER expects to release its
final statement by 31st March 2009.
Applicability of the reviewed WACC parameters
The outcomes of this review will
apply only to determinations for which the proposal is submitted after 1st
March 2009 and before 1st April 2014, viz…
·
The outcome of the review will apply to the forthcoming SA,
Queensland, Tasmanian and Victorian distribution determinations.
·
The outcome of the review will not apply to the forthcoming
ACT and NSW distribution determinations or to the forthcoming NSW and Tasmanian
transmission determinations.
Disclaimer
Readers should read all relevant
AER publications in their entirety. Utility Consultants Ltd nor its shareholder
or directors shall be responsible for any action or failure to act based on
this article.
Portugal – promoting investment
Introduction
Recent regulatory policy has
given much attention to the need to promote new investment in pipes &
wires, especially around the simple fact that investors take their prompts from
the regulators view of WACC. Recent issues of Pipes & Wires have noted the
introduction of two-tier WACC’s in France and Germany to promote new investment
… this article follows on by noting a similar arrangement in Portugal.
Previous instances of two-tier WACC’s
The following two previous
instances of two-tier WACC’s have been identified…
·
In
early 2007, the Commission de Regulation de
l’Energie (CRE) allowed Gaz De France
(GDF) subsidiary GRTgaz to increase its
cost of capital by 300 basis points above the currently permitted 8.5% for 10
years to incentivise an additional €280m of CapEx to reduce constraints between
its northern, eastern and western balancing zones.
·
In
mid-2008, the Bundesnetzagentur
decreed a pre-tax cost of equity of 9.29% for new investments and 7.56% for
legacy investments in the German electricity distribution sector. The Bund has
deliberately introduced a two-tier cost of equity to incentivise new
investment, which is expected to be about €8.6b industry-wide over 3 years.
The proposed two-tier WACC in Portugal
The Portuguese energy regulator, Entidade Reguladora Dos Serviços
Energéticos (ERSE), has approved an increased WACC of 9.05%, up from 7.55%
for the current 3 year regulatory control period for new investments by
transmission grid operator Redes De Confiança
(REN), and will also allow new investments to be valued at standard cost
(instead of actual cost) on an ex-ante basis.
Presumably these incentives have
worked as REN recently announced that it would lift this coming year’s
investment level by about 60%.
Mergers,
acquisitions & take-overs
Holland – progress on the Nuon sale
Introduction
Structural regulation usually
always prompts ownership reshuffling. Against a back-drop of unbundling lines
& energy in Europe, this article considers the possible sale of Dutch
utility Nuon to Swedish utility Vattenfall. This follows its failure to
work out a merger with fellow Dutch utility Essent
and Essent’s subsequent acquisition by RWE.
Emerging details of the possible Nuon sale
Recent media reports indicate
that Vattenfall has a strong interest in Nuon, but the deal is far from
concluded. After missing out on Essent, Vattenfall seems keener than ever to
expand its horizons.
The strategic drivers
Moving from being a
vertically-integrated utility in a well-defined geographical area such as a
state or country to what seems to be a hodge-podge of activities across
multiple jurisdictions takes a bit of understanding. Certainly in the case of
the European utilities there seem to be four strategic drivers…
·
The requirement to unbundle lines & energy, which is driving
utilities from being “tall & narrow” to “wide and low”.
·
Merger concessions such as Pax Electrica 2 and the conditions on EDF’s acquisition of Brit Energy (both discussed in Pipes
& Wires #79) which often requires chunks of generation or power purchase
rights to be on-sold to third parties to prevent market dominance.
·
Privatisations, albeit moving more slowly these days, present
out-of-town players with the opportunity to enter new markets.
·
The opportunity to extract synergies by reshuffling portfolios of
assets.
Pipes & Wires will make
further comment on the Nuon sale if and when further details emerge.
CapEx – general interest stuff
Levels of service and their impact on CapEx
This presentation was made at the
Infrastructure CapEx Summit in November 2008. If you’d like a copy, pick here.
Upsizing – the other half of the hidden side of CapEx
This presentation was made at the
Electricity Engineer’s Association
conference in June 2008. If you’d like a copy, pick here.
Getting the CapEx right in the infrastructure sectors
This presentation was made at the
NZIGE Spring Technical Seminar in
September 2007. If you’d like a copy, pick here.
Renewals – (half) the hidden side of CapEx
This presentation was made at the
Electricity Networks Asset Management Summit in November 2007 on the broad
topic of asset renewals. If you’d like a copy, pick here.
PAS 55 – the emerging standard for asset management
To find out more about improving
your asset management activities through adopting the emerging global standard
for asset management PAS 55-1:2004 pick here
or call Phil on +64-7-8546541, or to request a Slide Show on implementing PAS
55-1 pick here.
Website promoting best practice CapEx
Utility
Consultants is pleased to announce the release of a specialist website
dedicated to promoting best practice CapEx policies, processes and planning in
the infrastructure sectors.
Assorted conference papers
Utility Consultants has recently
presented the following conference papers which are available upon request…
·
“Tariff
control of Pipes & Wires utilities – where is it heading??” – presented
at the NZIGE Spring Technical Seminar,
October 2006.
·
“Setting
service levels for utility networks” – presented at the Electricity Network
Asset Management Summit, November 2006.
Conferences & events
With an RMA overhaul, local body governance
reform, and increased funding for critical projects all in the pipeline, the
stark reality is that the national infrastructure landscape is set to evolve
rapidly under the new Government. The question is - how will you adapt to these changes?
Conferenz’s Fast-tracking National
Infrastructure Summit will outline
all of the changes and their likely effects on your organization…
· The
need for cross-industry co-ordination in infrastructure policy
· Planning
for the new fast-tracked RMA consultation process
· Prospects
for local body governance
· Defining
the criteria for “projects of critical national importance”
· Examining
different funding mechanisms - how will PPPs fit in under the new Government?
Make the investment
and get ahead of the curve. Register now by phoning Conferenz on (09) 912 3616,
Email register@conferenz.co.nz or Register Online at www.conferenz.co.nz
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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.
Utility Consultants Ltd accepts no liability
for action or inaction based on the contents of Pipes & Wires including any
loss, damage or exposure to offensive material from linking to any websites
contained herein.