The AER’S tough love

The Australian Energy Regulator has taken a tougher-than-expected stance and ordered energy networks around the country to slash revenues by about 30 per cent. The need to change, which the regulator said was “driven by consumers and fuelled by new technologies”, is expected to reduce household bills by up to 13 per cent. In this new environment, benchmarking will be key – a blow for network owners, particularly in NSW.

The ruling will mean lower electricity prices, lower dividends to the government and a lower price when the New South Wales government sells its power companies.

Australian Energy Regulator (ENA) chief Paula Conboy released her final decisions on network funding for NSW and ACT electricity distribution and transmission businesses, as well as Tasmania’s transmission network on April 30. The regulator also proposed decisions for Queensland and South Australian electricity distribution businesses, drawing heated debate from government, management, unions and industry groups.

From July 1, transmission and distribution companies will be allowed to recover between 12 and 32 per cent less revenue than they had asked for – cutting the average residential power bill by $197 next financial year.

The proposed total funding reductions of around $6.5 billion across affected network businesses equate to more than $100 million per month.

Ms Conboy said the distribution businesses in NSW and the ACT were not operating as efficiently as other networks, and their owners, not consumers, should pay for that.

“Consumers have a right to a safe and reliable electricity service, but consumers should not pay more than necessary,” she said.

The final determination imposes cuts to revenues of 33 per cent for Ausgrid, 31 per cent for regional provider Essential Energy, 28 per cent for Endeavour Energy, 25 per cent for TransGrid, and 32 per cent for the ACT’s electricity network operator ActewAGL.

“The demand for electricity has fallen and is expected to remain reasonably flat over the 2015 to 2020 regulatory control period. This puts less strain on the network and requires less investment to provide a reliable supply of energy. This preliminary determination reduces the spending proposal to ensure that only prudent and efficient costs are recovered from consumers,” AER board member Jim Cox said.

“The AER has not accepted the revenue allowances proposed by SA Power Networks. In part, this is due to our decision to apply a lower rate of return and corporate tax allowance, consistent with our rate of return guideline and recent market trends.”

The news has major repercussions for the energy industry. Listed utility Spark Infrastructure, for example, experienced a 2c fall in share price to $2 on the back of the news.

It’s also a major blow to the New South Wales’ privatisation program, with Premier Mike Baird counting on billions in sale proceeds and debt reductions to help fund major infrastructure investment.

The NSW government budget to be handed down in June now faces an $1.8 billion hole as a result of reduced dividends from its state-owned firms.

Networks NSW said the lower revenue will force thousands of job cuts and could threaten safety.

Networks NSW head Vince Graham said the retrospective nature of the ruling – from July last year – meant $870 million less revenue this financial year. It could also lead to more than 2500 job losses, according to Mr Graham, who said he would hold the AER responsible.

“I intend to hold their feet to the fire,” Mr Graham said, acknowledging the ruling endangered bushfire vegetation management and occupational health and safety requirements, and made no provision for redundancy payments.

NSW Energy Minister Anthony Roberts complained of the speed of the cuts and refused to rule out an appeal. The government campaigned a month ago that private ownership would lead to lower prices.

Queensland-owned networks Ergon and Energex are expected to cut revenues by about 25 per cent. In another draft decision, SA Power Network would have to reduce revenue by 32 per cent compared to the company’s proposal. The network is privately owned and was therefore not expected to be as affected by the new benchmarking process, as reported by the Financial Review.

Similar cuts to NSW will affect ACT power utility ActewAGL.

“We are confident we have provided these businesses with a sufficient amount of revenue to efficiently run these businesses safely and reliably,” Ms Conboy said.

Industry, however, is not as confident.

Networks deliver lower charges – but caution needed: ENA

Australian electricity customers are benefiting as network cost-saving initiatives, lower financing costs and reduced demand pressures flow through in regulatory decisions, according to the Energy Networks Association (ENA).

ENA chief executive officer John Bradley said lower charges across networks would provide significant benefits to small and large customers.

“It’s important to get the balance right or we run the risk of higher catch-up spending and greater price volatility for customers in future,” he said.

“The regulatory regime has just been overhauled to provide a clear voice for consumers – yet in many cases, these decisions ignore customer research. In some cases, the decisions may mean service or cost impacts. which the AER has not consulted customers about.”

Mr Bradley said networks were passing through significant cost saving opportunities but some funding cuts could put at risk safety, reliability and the long-term efficiency of the network.

“When network charges were last set, it was a perfect storm for high cost outcomes due to the impacts of the GFC on capital markets, the replacement of ageing infrastructure and forecast growth in demand,” he said.

“Today, network businesses are delivering savings from reduced financing costs, business efficiency programs, changes in demand growth and the removal of inefficient planning standards in some states.”

Mr Bradley said sustainable network cost reductions were good news for Australian energy customers and would stimulate economic growth, but the AER must also look at the customer service impacts of its decisions.

“These decisions reduce operating funding to a level not seen in 10 years in some NSW and ACT businesses. Major cuts to operating expenditure across distribution networks will potentially take money directly away from important areas like bushfire risk mitigation, vegetation management, responses to outages and inspections and maintenance,” he said.

“The AER has locked in a decision to cut operating funding in NSW and ACT by $1.8 billion or 24 per cent over the next five years, without clearly demonstrating that adverse impacts on safety, maintenance and outage response times can be avoided.

“In SA, the AER’s proposed amendments ignore customer research supporting better vegetation management and bushfire risk mitigation measures in line with Victoria’s response to the Black Saturday fires.”

The ENA is concerned the decision in NSW, ACT and Queensland could force reductions in available field and support staff; impacting the capacity to respond to outages, and undertake efficient maintenance programs.

“Every network business strongly supports the use of economic benchmarking as a tool by regulators, provided the analysis is rigorous and used with caution,” Mr Bradley said.

“We remain concerned about how it has been used in the NSW and ACT distribution determinations, as the primary mechanism for setting business critical operating expenses.

“Recent storm and flooding events in NSW demonstrates the essential role of experienced operational staff in managing extreme events with more than 1600 workers deployed into the field to clean up after the storms. At the height of the event, 225,000 homes and businesses were without power, with some customers in the most affected areas losing supply for over seven days.”

One small step for electricity users: EUAA

The peak industry body for Australia’s energy users has branded the determinations by the Australian Energy Regulator (AER) as a small, but necessary, development,

“It’s a small step in the right direction, but given the massive cost increases of electricity in recent years, large energy users and consumers are looking for something akin to a giant leap,” EUAA
CEO Phil Barresi said.

“The AER appears to have taken a conservative approach to its own methodology. We believe current network prices are between 70 to150 per cent over what they should be. Even so, most networks were proposing CPI increases or the next five years and the AER has applied reductions to these proposals of between just five to 28 per cent.”

The EUAA’s submissions recommended further cuts of around 20 per cent, based on the current rules. Had these recommendations been accepted, Mr Barresi said prices would be 25 to 50 per cent lower than the networks’ proposals and around 20 per cent below the AER’s draft decisions.

“In the NSW decision, the AER has inappropriately added highly conservative adjustments that have significantly increased the networks target operating expenditure levels,” he said.

“Those adjustments are inconsistent with the AER’s obligations under the National Electricity Law (NEL) and the National Electricity Rules (NER), and will deliver major windfall profits. We are concerned that while demand is flat, there is still too much fat for the networks.”

The EUAA is also wary the generous treatment accorded the NSW networks will now be used as precedent for the final determinations that will be made for networks in Queensland and SA.

ActewAGL service standards impacted
The 36 per cent cut in operating allowance will be a massive hit to multi-utility ActewAGL, with CEO Michael Costello saying the draft decision is bad for ActewAGL and Canberra.

“Our view is that the business needs about $74 million per year to provide a safe, secure and reliable electricity supply. The AER’s draft decision only provided for $44 million per year and the final decision affords us a meagre increase to $48 million per year, a shortfall of $26 million per year,” Mr Costello said.

“This 36 per cent cut in our operating allowance will be a massive hit. In addition, the AER decision is to be backdated to July 1, 2014, and there will be major restructuring costs to implement. However, the AER has not taken into account any of these costs so the effective cut to our operating expenditure is much greater than 36 per cent.

“To operate within the AER’s final decision, a total of about 83 positions will be made redundant.”

For ActewAGL customers, the decision is expected to result in a reduction of $1.97 per week for a typical Canberra household that uses 7000kWh of electricity per annum. About $1 of this reduction is due to the operating expenditure cuts, with Mr Costello saying it’s a small saving compared to the major impact the cuts will have on the reliability and security of the ACT electricity distribution network.

“Of huge concern to us is the impact it will have on reliability in terms of the number and duration of power outages. The recent storms in NSW highlight when an emergency event such as this occurs you need every available resource on the ground working to get the power back on,” he said.

Spark slams steep cuts

Listed utility Spark Infrastructure has called for the AER to reconsider the way it ordered cuts to the revenue electricity transmission and distribution businesses can recover.

The AER’s decision will mean SA Power Networks, 49 per cent owned by Spark, will get $1.5 billion less in revenue in the next five years than it was seeking.

SA Power Networks had been seeking $4.74 billion, but has been allowed just $3.21 billion.

Managing director Rick Francis said the methods used by the AER to assess returns were flawed because they relied on historically low bond rates and would not deliver commercially acceptable returns on equity to private owners.

“Spark infrastructure urges the AER to fundamentally reconsider the way it calculates returns and in particular the reliance on current bond yields as a proxy for long term risk-free rate,” he said, told The Australian.

Unions warn consumers have been condemned to poorer services

The Electrical Trade Union (ETU) and United Services Union, which represent workers at the electricity network companies, said the cuts would lead to substantial reductions to service delivery, maintenance and emergency response times.

The group said neither the AER nor the NSW Government had any legal power to force private energy retailers to pass price reductions on to consumers after retail electricity pricing was deregulated by the Baird Government in July 2014.

ETU secretary Steve Butler said there was no doubt the response to the major storm event in April, which cut power to a quarter of a million homes in parts of NSW, would have been substantially slower if these cuts had already been
in place.

USU energy manager Scott McNamara said while the cuts could result in up to 4000 job cuts across NSW, unions were working with the NSW Government to
find alternatives.

“The AER determination is about the revenue network companies can recover from their ‘regulated asset base’ and is not connected to employee numbers. The AER determination does not limit the amount of income these businesses can generate from other sources, including in area’s such as contestable work,” Mr McNamara said.

“There are many alternatives to mass sackings, and we will not allow management to use the AER determination as an excuse to get rid of thousands of workers ahead of the NSW Government’s planned privatisation.”

Mr McNamara said the AER had to be honest with consumers, and admit they were powerless to ensure any cuts flowed through to power bills.

A win for Tasmanians: TasNetworks

Tasmanian transmission charges are set to fall after the Australian Energy Regulator released its 2014-19 Revenue Determination for TasNetworks.

Of the 10 energy network determinations made across Australia, TasNetworks’ was the only one where the AER has supported the business’ revised revenue proposal.

The AER’s decision fully accepts TasNetworks’ revised revenue proposal.

As a result, customers directly-connected to the transmission network, including major industrial customers, will see reductions to transmission charges again in 2015-16, on top of the reductions already passed through this financial year.

The transmission revenue reductions also flow through to residential and business customers connected to the ‘poles and wires’ distribution network.

“This transmission decision is a ground-breaking and unprecedented result and an excellent outcome for all our customers,” TasNetworks CEO Lance Balcombe said.

“It supports TasNetworks’ desired outcomes of lower, predictable and sustainable pricing for our customers.

“This determination shows we are a customer focused business. We will continue to set ourselves challenging targets and take practical steps to deliver lower prices for all Tasmanian electricity users. We have done this through prudent network investment and proposals to further drive efficiency into the future.”

TasNetworks’ transmission revenue proposal included significant reductions in capital expenditure, operating expenditure and the rate of return, and provided that TasNetworks would permanently forgo a $37 million under-recovery of transmission charges.

Discussion from Energy Network Australia’s event – Energy Transformed: Pathways and Connections

“I’m looking forward to the AER more openly discussing with the industry its benchmarking model. It does have some significant issues, namely the basis of preparing data. The AER is correct in saying it has audited data, but the difficulty is each of those businesses have presented their data on a different basis of preparation.

Capitalisation policy is a massive point of difference, as is data on vegetation management. When you look at a benchmarking model, and whatever is going on inside the model, it requires significant post model adjustments – any logical person would sit back and question about its usefulness and what can drawn from it. We’ve encouraged the AER to have the productivity commission have a good look at the model – which has been denied. Industry, consumers and business are entitled to have confidence in our benchmarking models and, at the moment, it’s not there.”
– Vince Graham, Networks NSW CEO

“Benchmarking has always been there in the regulatory frameworks, but it’s now about moving it to a new level. We’re seeing glaring errors in data from transmission companies. The AER is not going through a validation process to make sure they are making like-for-like comparisons. But we do need to recognise benchmarking will be a part of the process going forward.”
– Merrin York, Powerlink QLD CEO

“I don‘t think the revenue cap is a bad thing for a short period of time. We’re incentivised to optimise the assets we have. It is very network specific, so we’re encouraging customers, where we can, to look into a range of technology, and are working with them. On customer engagement: we know it’s important. At the end of the day, the lower we can get our costs and the more relevant we are to customers, the longer we are going to be around.”
– Tim Rourke, CEO, CitiPower and Powercor