Application by ActewAGL Distribution
[2017] ACompT 2
•17 October 2017
AUSTRALIAN COMPETITION TRIBUNAL
Application by ActewAGL Distribution [2017] ACompT 2
Review from: Australian Energy Regulator Final Decision: United Energy Distribution determination 2016 to 2020
Australian Energy Regulator Final Decision: ActewAGL Distribution Access Arrangement 2016 to 2021
Australian Energy Regulator Final Decision: Jemena Distribution Determination 2016 to 2020
File numbers:
ACT 3 of 2016
ACT 6 of 2016
ACT 7 of 2016
Tribunal:
ROBERTSON J (DEPUTY PRESIDENT)
MR RF SHOGREN (MEMBER)
DR DR ABRAHAM (MEMBER)
Date of Determination:
17 October 2017
Catchwords:
ENERGY AND RESOURCES – applications for review of distribution determinations by the Australian Energy Regulator (AER) – grounds raised by ActewAGL under National Gas Law and National Gas Rules – grounds raised by other applicants under National Electricity Law and National Electricity Rules
ENERGY AND RESOURCES – topics for review – return on debt (transition): AER’s decision to reject the relevant applicants’ proposed trailing average approach (with no period of transition) to estimating the return on debt for use in the determination of the allowed rate of return for the 2015/16 year and the 2016-21 access arrangement period (together, 2015-21 period), and to instead determine the relevant applicants’ return on debt using approach that involved a form of transition from the previous “on-the-day” approach to the trailing average approach
ENERGY AND RESOURCES – topics for review – value of imputation credits (gamma): AER’s decision to reject the relevant applicants’ proposed value of imputation credits of 0.25 for use in the estimation of the cost of corporate income tax, and instead to determine that the value of imputation credits ought to be 0.4
ENERGY AND RESOURCES – topics for review – forecast inflation: AER’s decision to reject ActewAGL’s proposal to adopt a breakeven method estimate of inflation for the 2015-21 period of 1.96 per cent, and to instead determine that forecast inflation ought to be 2.18 per cent
ENERGY AND RESOURCES – topics for review – advanced metering infrastructure rollout: the AER’s decision the subject of the Victorian Minister’s intervention
Legislation:
National Electricity Law
National Electricity (Victoria) Act 2005
National Gas Law
National Gas (ACT) Act 2008
National Electricity Rules
National Gas Rules
Cases cited:
Application by ATCO Gas Australia Pty Ltd [2016] ACompT 10
Application by Energex Limited (Gamma) (No 5) [2011] ACompT 9
Application by EnergyAustralia [2009] ACompT 8
Applications by Public Interest Advocacy Centre Ltd and Ausgrid [2016] ACompT 1
Application by SA Power Networks [2016] ACompT 11
Australian Energy Regulator v Australian Competition Tribunal (No 2) [2017] FCAFC 79; 345 ALR 1
Minister for Immigration and Citizenship v SZIAI [2009] HCA 39; 259 ALR 429
Dates of hearing:
14-18, 21-25 November 2016
Date of last submissions:
21 July 2017
Dates of Community Consultation:
6 and 7 October 2016
Registry:
Victoria
Category:
Catchwords
Number of paragraphs:
556
Counsel for United Energy:
Mr C Moore SC with Ms C Dermody and Mr D Farrands
Solicitor for United Energy:
Johnson Winter & Slattery
Counsel for ActewAGL Distribution:
Mr A McClelland QC with Mr L Merrick
Solicitor for ActewAGL:
DLA Piper
Counsel for Jemena:
Mr C Moore SC with Ms C Dermody
Solicitor for Jemena:
Gilbert + Tobin
Counsel for the Australian Energy Regulator:
Mr MH O’Bryan QC with Ms KL Walker QC, Mr J Arnott and Mr T Clarke
Solicitor for the Australian Energy Regulator:
Australian Government Solicitor
Counsel for the Minister for Energy, Environment and Climate Change for the State of Victoria in ACT 3 and ACT 7, Intervener:
Mr SR Horgan QC with Mr GR McCormick
Solicitor for the Minister for Energy, Environment and Climate Change for the State of Victoria in ACT 3 and ACT 7, Intervener:
Allens
IN THE AUSTRALIAN COMPETITION TRIBUNAL
ACT 3 of 2016
RE: IN THE MATTER OF APPLICATION UNDER SECTION 71B OF THE NATIONAL ELECTRICITY LAW FOR A REVIEW OF DISTRIBUTION DETERMINATIONS MADE BY THE AUSTRALIAN ENERGY REGULATOR IN RELATION TO UNITED ENERGY DISTRIBUTION PTY LTD PURSUANT TO RULE 6.11 OF THE NATIONAL ELECTRICITY RULES
By: UNITED ENERGY DISTRIBUTION PTY LIMITED (ABN 70 064 651 029)
Applicant
tribunal:
ROBERTSON J (DEPUTY PRESIDENT)
mr rf shogren (member)
dr dr abraham (member)DATE OF determination:
17 October 2017
THE TRIBUNAL DETERMINES THAT:
1.The reviewable regulatory decision, being the Final Decision: United Energy distribution determination 2016 to 2020, is affirmed.
THE TRIBUNAL NOTES: the AER’s error in calculation identified at [376] of its reasons herein and, in accordance with [377] of those reasons, leaves it to the AER to determine the appropriate response to its error.
IN THE AUSTRALIAN COMPETITION TRIBUNAL
ACT 6 of 2016
RE: IN THE MATTER OF APPLICATION UNDER SECTION 245 OF THE NATIONAL GAS LAW FOR A REVIEW OF A FULL ACCESS ARRANGEMENT DECISION MADE BY THE AUSTRALIAN ENERGY REGULATOR IN RELATION TO ACTEWAGL DISTRIBUTION PURSUANT TO RULE 64 OF THE NATIONAL GAS RULES
By: ACTEWAGL DISTRIBUTION (ABN 76 670 568 688)
Applicant
tribunal:
ROBERTSON J (DEPUTY PRESIDENT)
mr rf shogren (member)
dr dr abraham (member)DATE OF determination:
17 October 2017
THE TRIBUNAL DETERMINES THAT:
1.The reviewable regulatory decision, being the Final Decision: ActewAGL Distribution Access Arrangement 2016 to 2021, is affirmed.
THE TRIBUNAL NOTES: the AER’s error in calculation identified at [376] of its reasons herein and, in accordance with [377] of those reasons, leaves it to the AER to determine the appropriate response to its error.
IN THE AUSTRALIAN COMPETITION TRIBUNAL
ACT 7 of 2016
RE: IN THE MATTER OF APPLICATION UNDER SECTION 71B OF THE NATIONAL ELECTRICITY LAW FOR A REVIEW OF DISTRIBUTION DETERMINATIONS MADE BY THE AUSTRALIAN ENERGY REGULATOR IN RELATION TO JEMENA ELECTRICITY NETWORKS (VIC) LTD PURSUANT TO RULE 6.11 OF THE NATIONAL ELECTRICITY RULES
By: JEMENA ELECTRICITY NETWORKS (VIC) LTD (ABN 82 064 651 083)
Applicant
tribunal:
ROBERTSON J (DEPUTY PRESIDENT)
mr rf shogren (member)
dr dr abraham (member)DATE OF determination:
17 October 2017
THE TRIBUNAL DETERMINES THAT:
1.The reviewable regulatory decision, being the Final Decision: Jemena distribution determination 2016 to 2020, is affirmed.
THE TRIBUNAL NOTES: the AER’s error in calculation identified at [376] of its reasons herein and, in accordance with [377] of those reasons, leaves it to the AER to determine the appropriate response to its error.
REASONS FOR DETERMINATION
THE TRIBUNAL:
INTRODUCTION
[1]
THE STATUTORY STRUCTURE
[10]
CONSULTATION BY THE TRIBUNAL
[19]
SUMMARY OF THE APPLICANTS’ GROUNDS
[29]
Return on debt
[32]
Gamma
[46]
Forecast inflation
[47]
Materially preferable designated NGO decision requirement
[57]
RETURN ON DEBT
[59]
Debt Transition
[59]
Regulatory framework
[64]
What the AER decided
[75]
The submissions to the Tribunal
[89]
The Full Court’s decision
[93]
The Tribunal’s analysis
[97]
Claim 1: The immediate implementation of the trailing average approach would contribute to the achievement of the ARORO
[126]
Claim 2: The AER was in error in considering that its transition to a full trailing average (TTA) could contribute to the ARORO
[147]
Claim 3: The AER could only decide to impose a transition under Rule 87(11)(d) and was not in fact empowered to do so by that Rule.
[191]
Claim 4: The AER’s decision miscarries because of a failure to foreshadow its change of reasoning
[192]
Conclusion
[195]
GAMMA
[196]
Introduction
[196]
What the AER decided
[216]
The errors claimed by the applicant parties to have been made by the AER
[236]
The applicants’ submissions
[240]
The AER’s submissions
[261]
The Full Court’s decision
[278]
The Tribunal’s analysis
[299]
FORECAST INFLATION
[377]
Introduction
[377]
The statutory framework in respect of forecast inflation
[377]
What the AER decided
[377]
The errors claimed by ActewAGL to have been made by the AER
[497]
The applicant’s submissions
[497]
The AER’s submissions
[497]
The Tribunal’s analysis
[497]
ADVANCED METERING INFRASTRUCTURE (AMI)
[497]
What the AER decided
[501]
The submissions to the Tribunal
[504]
The Tribunal’s analysis
[537]
CONCLUSION AND DETERMINATION
[556]
INTRODUCTION
On 16 June 2016, ActewAGL Distribution (ActewAGL) lodged with the Australian Competition Tribunal (the Tribunal) an application for leave to apply for review and an application for review of the final decision by the Australian Energy Regulator (AER) entitled Final Decision - ActewAGL Distribution Access Arrangement 2016 to 2021 for the access arrangement period comprising 1 July 2016 to 30 June 2021. The Final Decision was published on 26 May 2016, together with the access arrangement for the ACT, Queanbeyan and Palerang gas distribution network 1 July 2016 - 30 June 2021.
On 16 June 2016, United Energy Distribution Pty Limited (United Energy) lodged with the Tribunal an application for leave to apply to the Tribunal for review of a reviewable regulatory decision and an application for review of a reviewable regulatory decision of the AER being the Distribution Determination entitled Final Decision - United Energy distribution determination 2016 to 2020.
On 16 June 2016 each of Jemena Electricity Networks (Vic) Ltd (Jemena), CitiPower Pty Ltd (CitiPower), Powercor Australia Ltd (Powercor) and AusNet Electricity Services Pty Ltd (AusNet) filed their applications.
On 26 August 2016, the Tribunal granted these applicants leave to apply for a review of these decisions of the AER published on 26 May 2016 in respect of each of the grounds for review set out in their applications.
By notice dated the same day, the Minister for Energy, Environment and Climate Change for the State of Victoria (the Minister) intervened in the Victorian matters, ACT 3, 4, 5, 7 and 8 of 2016 (see in particular [6(iv)] and [6(vi)] below).
The matters raised were in summary as follows:
(i)return on debt (transition): the AER’s decision to reject the relevant applicants’ (ActewAGL and Jemena) proposed trailing average approach (with no period of transition) to estimating the return on debt for use in the determination of the allowed rate of return for the 2015/16 year and the 2016-21 access arrangement period (together, 2015-21 period), and to instead determine the relevant applicants’ return on debt using an approach that involved a form of transition from the previous 'on-the-day' approach to the trailing average approach;
(ii)value of imputation credits (gamma): the AER’s decision to reject the relevant applicants’ (ultimately only ActewAGL and Jemena) proposed value of imputation credits of 0.25 for use in the estimation of the cost of corporate income tax, and to instead determine that the value of imputation credits ought to be 0.4;
(iii)forecast inflation: the AER’s decision to reject ActewAGL’s proposal to adopt a breakeven method estimate of inflation for the 2015-21 period of 1.96 per cent, and to instead determine that forecast inflation ought to be 2.18 per cent (United Energy withdrew this ground of its application);
(iv)advanced metering infrastructure (AMI) rollout: the AER’s decision the subject of the Minister’s intervention in the Tribunal and affecting all applicants except ActewAGL;
(v)labour price growth rates: the AER’s decision the subject of an application to the Tribunal by only CitiPower and Powercor;
(vi)corporate overhead expenses: the AER’s decision the subject of the Minister’s intervention in the Tribunal and affecting only CitiPower and Powercor;
(vii)return on debt (BVAL curve): the AER’s decision the subject of an application to the Tribunal only by AusNet; and
(viii)forecasting opex/self-insurance: the AER’s decision the subject of an application to the Tribunal only by AusNet.
The grounds raised by ActewAGL were under the National Gas Law (NGL) and National Gas Rules (NGR). The grounds raised by the other applicants were under of the National Electricity Law (NEL) and under the National Electricity Rules (NER). Where the laws and rules governing electricity and gas networks are effectively the same we have dealt with them together, with reference where relevant to variations or additions under the corresponding Law or Rules.
For convenience, the Tribunal is giving today three sets of reasons structured so that issues common to more than one applicant are dealt with together. For example, the discussion of the return on debt grounds in this decision provides the basis for the conclusions on that issue in relation to Jemena. There were also common submissions in relation to the value of imputation credits (gamma).
In summary, these reasons deal with the issues in [6(i)]-[6(iv)] above, that is, all except the following: [6(v)] labour price growth rates and [6(vi)] corporate overheads, where the reasons are to be found in the separate CitiPower and Powercor decisions given today: Applications by CitiPower Pty Ltd and Powercor Australia Ltd [2017] ACompT 4; and [6(vii)] return on debt (BVAL curve) and [6(viii)] self-insurance, where the reasons are to be found in the separate AusNet decision also given today: Application by AusNet Electricity Services Pty Ltd [2017] ACompT 3.
THE STATUTORY STRUCTURE
The grounds for review are set out in s 246(1) of the NGL and the “materially preferable designated NGO decision” requirement is set out in s 259(4a). The grounds for review have recently been considered by a Full Court of the Federal Court in Australian Energy Regulator v Australian Competition Tribunal (No 2) [2017] FCAFC 79; 345 ALR 1.
Under s 246(1) of the NGL, an application under s 245(1) may be made only on one or more of the following grounds:
(a)the AER made an error of fact in its findings of facts, and that error of fact was material to the making of the decision;
(b)the AER made more than one error of fact in its findings of facts, and those errors of fact, in combination, were material to the making of the decision;
(c)the exercise of the AER’s discretion was incorrect, having regard to all the circumstances;
(d)the AER’s decision was unreasonable, having regard to all the circumstances.
Section 259(4a) provided as follows:
In a case where the decision is a designated reviewable regulatory decision, the Tribunal may only make a determination –
(a) to vary the designated reviewable regulatory decision under subsection (2)(b); or
(b) to set aside the designated reviewable regulatory decision and remit the matter back to the AER under subsection (2)(c),
if –
(c) the Tribunal is satisfied that to do so will, or is likely to, result in a decision that is materially preferable to the designated reviewable regulatory decision in making a contribution to the achievement of the national gas objective (a materially preferable designated NGO decision) (and if the Tribunal is not so satisfied the Tribunal must affirm the decision); and
(d) in the case of a determination to vary the designated reviewable regulatory decision – the Tribunal is satisfied that to do so will not require the Tribunal to undertake an assessment of such complexity that the preferable course of action would be to set aside the decision and remit the matter to the AER to make the decision again.
(Original emphasis.)
Section 244 defined “materially preferable designated NGO decision” by reference to s 259(4a)(c).
Sections 249(4b), (4c) and (5) should also be reproduced, as follows:
(4b)In connection with the operation of subsection (4a) (and without limiting any other matter that may be relevant under this Law) –
(a) The Tribunal must consider how the constituent components of the designated reviewable regulatory decision interrelate with each other and with the matters raised as a ground for review;
(b) without limiting paragraph (a), the Tribunal must take into account the revenue and pricing principles (in the same manner in which the AER is to take into account these principles under section 28); and
(c) the Tribunal must, in assessing the extent of contribution to the achievement of the national gas objective, consider the designated reviewable regulatory decision as a whole; and
(d) the following matters must not, in themselves, determine the question about whether a materially preferable designated NGO decision exists:
(i)the establishment of a ground for review under section 246(1);
(ii)consequences for, or impacts on, the average annual regulated revenue of a covered pipeline service provider;
(iii)that the amount that is specified in or derived from the designated reviewable regulatory decision exceeds the amount specified in section 249(2).
(4c)If the Tribunal makes a determination under subsection (2)(b) or (c), the Tribunal must specify in its determination –
(a) the manner in which it has taken into account the interrelationship between the constituent components of the designated reviewable regulatory decision and how they relate to the matters raised as a ground for review as contemplated by subsection (4b)(a); and
(b) in the case of a determination to vary the designated reviewable regulatory decision – the reasons why it is proceeding to make the variation in view of the requirements of subsection (4a)(d).
(5)A determination by the Tribunal affirming, varying or setting aside the reviewable regulatory decision is, for the purposes of this Law (other than this Part), to be taken to be a decision of the original decision maker.
The “national gas objective” is defined in s 2(1) to mean the objective set out in s 23, which provides as follows:
National gas objective
The objective of this Law is to promote efficient investment in, and efficient operation and use of, natural gas services for the long term interests of consumers of natural gas with respect to price, quality, safety, reliability and security of supply of natural gas.
Section 249(2) states that the amount that is specified in or derived from the decision exceeds the lessor of $5,000,000 or 2 per cent of the average annual regulated revenue of the covered pipeline service provider.
Time limits on applicants were imposed as follows: by s 247, an application under s 245 in respect of a reviewable regulatory decision of the present kind must be made no later than 15 business days after the reviewable regulatory decision is published in accordance with the NGL or the NGR.
The provisions of the NGR centrally relevant to the AER’s decision were as follows:
Division 3 Building block approach
76 Total revenue
Total revenue is to be determined for each regulatory year of the access arrangement period using the building block approach in which the building blocks are:
(a)a return on the projected capital base for the year (See Divisions 4 and 5); and
(b)depreciation on the projected capital base for the year (See Division 6); and
(c)the estimated cost of corporate income tax for the year (See Division 5A); and
(d)increments or decrements for the year resulting from the operation of an incentive mechanism to encourage gains in efficiency (See Division 9); and
(e)a forecast of operating expenditure for the year (See Division 7).
…
Division 5 Rate of return
87 Rate of return
(1)Subject to rule 82(3), the return on the projected capital base for each regulatory year of the access arrangement period is to be calculated by applying a rate of return that is determined in accordance with this rule 87 (the allowed rate of return).
(2)The allowed rate of return is to be determined such that it achieves the allowed rate of return objective.
(3)The allowed rate of return objective is that the rate of return for a service provider is to be commensurate with the efficient financing costs of a benchmark efficient entity with a similar degree of risk as that which applies to the service provider in respect of the provision of reference services (the allowed rate of return objective).
(4)Subject to subrule (2), the allowed rate of return for a regulatory year is to be:
(a)a weighted average of the return on equity for the access arrangement period in which that regulatory year occurs (as estimated under subrule (6)) and the return on debt for that regulatory year (as estimated under subrule (8)); and
(b)determined on a nominal vanilla basis that is consistent with the estimate of the value of imputation credits referred to in rule 87A.
(5) In determining the allowed rate of return, regard must be had to:
(a)relevant estimation methods, financial models, market data and other evidence;
(b)the desirability of using an approach that leads to the consistent application of any estimates of financial parameters that are relevant to the estimates of, and that are common to, the return on equity and the return on debt; and
(c)any interrelationships between estimates of financial parameters that are relevant to the estimates of the return on equity and the return on debt.
Return on equity
(6) The return on equity for an access arrangement period is to be estimated such that it contributes to the achievement of the allowed rate of return objective.
(7) In estimating the return on equity under subrule (6), regard must be had to the prevailing conditions in the market for equity funds.
Return on debt
(8) The return on debt for a regulatory year is to be estimated such that it contributes to the achievement of the allowed rate of return objective.
(9) The return on debt may be estimated using a methodology which results in either:
(a) the return on debt for each regulatory year in the access arrangement period being the same; or
(b) the return on debt (and consequently the allowed rate of return) being, or potentially being, different for different regulatory years in the access arrangement period.
(10) Subject to subrule (8), the methodology adopted to estimate the return on debt may, without limitation, be designed to result in the return on debt reflecting:
(a) the return that would be required by debt investors in a benchmark efficient entity if it raised debt at the time or shortly before the time when the AER's decision on the access arrangement for that access arrangement period is made;
(b) the average return that would have been required by debt investors in a benchmark efficient entity if it raised debt over an historical period prior to the commencement of a regulatory year in the access arrangement period; or
(c) some combination of the returns referred to in subrules (a) and (b).
(11) In estimating the return on debt under subrule (8), regard must be had to the following factors:
(a) the desirability of minimising any difference between the return on debt and the return on debt of a benchmark efficient entity referred to in the allowed rate of return objective;
(b) the interrelationship between the return on equity and the return on debt;
(c) the incentives that the return on debt may provide in relation to capital expenditure over the access arrangement period, including as to the timing of any capital expenditure; and
(d) any impacts (including in relation to the costs of servicing debt across access arrangement periods) on a benchmark efficient entity referred to in the allowed rate of return objective that could arise as a result of changing the methodology that is used to estimate the return on debt from one access arrangement period to the next.
(12) If the return on debt is to be estimated using a methodology of the type referred to in subrule (9)(b) then a resulting change to the service provider's total revenue must be effected through the automatic application of a formula that is specified in the decision on the access arrangement for that access arrangement period.
Rate of return guidelines
(13) The AER must, in accordance with the rate of return consultative procedure, make and publish guidelines (the rate of return guidelines).
(14) The rate of return guidelines must set out:
(a) the methodologies that the AER proposes to use in estimating the allowed rate of return, including how those methodologies are proposed to result in the determination of a return on equity and a return on debt in a way that is consistent with the allowed rate of return objective; and
(b) the estimation methods, financial models, market data and other evidence the AER proposes to take into account in estimating the return on equity, the return on debt and the value of imputation credits referred to in rule 87A.
(15) There must be rate of return guidelines in force at all times after the date on which the AER first publishes the rate of return guidelines under these rules.
(16) The AER must, in accordance with the rate of return consultative procedure, review the rate of return guidelines:
(a) at intervals not exceeding three years, with the first interval starting from the date that the first rate of return guidelines are published under these rules; and
(b) at the same time as it reviews the Rate of Return Guidelines under clauses 6.5.2 and 6A.6.2 of the National Electricity Rules.
(17) The AER may, from time to time and in accordance with the rate of return consultative procedure, amend or replace the rate of return guidelines.
(18) The rate of return guidelines are not mandatory (and so do not bind the AER or anyone else) but, if the AER makes a decision in relation to the rate of return (including in an access arrangement draft decision or an access arrangement final decision) that is not in accordance with them, the AER must state, in its reasons for the decision, the reasons for departing from the guidelines.
(19) If the rate of return guidelines indicate that there may be a change of regulatory approach by the decision maker in future decisions, the guidelines should also (if practicable) indicate how transitional issues are to be dealt with.
Division 5A
87A Estimated cost of corporate income tax
(1)The estimated cost of corporate income tax of a service provider for each regulatory year of an access arrangement period (ETCt) is to be estimated in accordance with the following formula:
ETCt = (ETIt × rt) (1 – γ)
Where
ETIt is an estimate of the taxable income for that regulatory year that would be earned by a benchmark efficient entity as a result of the provision of reference services if such an entity, rather than the service provider, operated the business of the service provider;
rt is the expected statutory income tax rate for that regulatory year as determined by the AER; and
γ is the value of imputation credits.
…
Division 6 Depreciation
88 Depreciation schedule
(1)The depreciation schedule sets out the basis on which the pipeline assets constituting the capital base are to be depreciated for the purpose of determining a reference tariff.
(2)The depreciation schedule may consist of a number of separate schedules, each relating to a particular asset or class of assets.
89 Depreciation criteria
(1) The depreciation schedule should be designed:
(a)so that reference tariffs will vary, over time, in a way that promotes efficient growth in the market for reference services; and
(b)so that each asset or group of assets is depreciated over the economic life of that asset or group of assets; and
(c)so as to allow, as far as reasonably practicable, for adjustment reflecting changes in the expected economic life of a particular asset, or a particular group of assets; and
(d)so that (subject to the rules about capital redundancy), an asset is depreciated only once (ie that the amount by which the asset is depreciated over its economic life does not exceed the value of the asset at the time of its inclusion in the capital base (adjusted, if the accounting method approved by the AER permits, for inflation)); and
(e)so as to allow for the service provider's reasonable needs for cash flow to meet financing, non-capital and other costs.
(2)Compliance with subrule (1)(a) may involve deferral of a substantial proportion of the depreciation, particularly where:
(a) the present market for pipeline services is relatively immature; and
(b)the reference tariffs have been calculated on the assumption of significant market growth; and
(c)the pipeline has been designed and constructed so as to accommodate future growth in demand.
(3) The AER’s discretion under this rule is limited.
Note:
See rule 40(2).
90Calculation of depreciation for rolling forward capital base from one access arrangement period to the next
(1)A full access arrangement must contain provisions governing the calculation of depreciation for establishing the opening capital base for the next access arrangement period after the one to which the access arrangement currently relates.
(2)The provisions must resolve whether depreciation of the capital base is to be based on forecast or actual capital expenditure.
CONSULTATION BY THE TRIBUNAL
The consultation process referred to in s 261(1)(b) of the NGL and s 71R(1)(b) of the NEL is an additional step which the Tribunal must take and, ideally, accommodate within the target time prescribed by s 260 of the NGL and s 71Q of the NEL. The Tribunal, having given leave to the applicants to apply for review, sought information from the AER as to groups or persons who might have an interest in the Tribunal’s review under s 261(1)(b) of the NGL and s 71R(1)(b) of the NEL.
The Tribunal then invited each of those groups or persons to indicate:
·whether they wished to consult with the Tribunal in relation to the Final Decisions;
·the nature of their proposed participation; and
·how the consultation might best be carried out.
Having determined a protocol for the consultation, the Tribunal issued a Consultation Agenda under which it provided for those who wished to speak to the Tribunal, either personally or on behalf of an organisation, to do so.
The Tribunal conducted the first consultation session on 6 October 2016 at the Federal Court of Australia in Melbourne. At that time, the Tribunal heard submissions by Ms R Sinclair, the Chief Executive Officer of Energy Consumers Australia Ltd (ECA), Ms T Jelenic for the Public Interest Advocacy Centre (PIAC) and Ms R Held for the Consumer Utilities Advocacy Centre (CUAC).
The ECA is an organisation formed by the COAG Energy Ministers Council as part of the energy market reform package of 2012. Its oral submissions were addressed first to the new limited merits review process itself; secondly, to the increased focus in that process on the long-term interests of consumers; and thirdly, to the need for the Tribunal’s decision to be a holistic, materially preferable decision focused on the long-term interests of consumers. The ECA also noted the revenue impacts which totalled $365.3 million, of which 60 per cent was said to be collected from residential and small business consumers. It was submitted that consumers did not think that the price increases that those revenue increases would lead to were in their long-term interests. The ECA had conducted an energy consumer sentiment survey in July 2016 and the survey showed that customers valued reliability and competition in the energy sector but were not at all happy with the value for money they were getting from energy services and they did not think that the sector had their interests at heart. The core question, it was submitted, was whether the businesses had truly considered the long-term interests of their customers in putting forward the revised proposals and now in seeking the Tribunal’s review of the AER decisions with respect to the matters raised. It was submitted that the long-term interests of consumers must be the Tribunal’s paramount consideration in determining that a materially preferable decision exists. Emphasis was placed on the terms of s 71P of the NEL. It was submitted that the long-term interests of consumers were not delivered by any one factor in isolation but rather required balancing of those factors. The preference for one outcome over another was to be determined with reference to the whole outcome and not the individual components of it and materiality was to be determined with reference to the national electricity and gas objectives and nothing else.
PIAC addressed in particular s 71R(1)(b) of the NEL, concerning statutory consultation requirements. PIAC sought to support and strengthen the Tribunal’s role in promoting consumer participation by, first, emphasising that s 71R(1)(b) represented an important precondition to the Tribunal’s powers of review and should be construed broadly. Secondly, PIAC drew the Tribunal’s attention to the difficulties faced by consumers in providing useful comment at a time before the parties’ submissions had been lodged and within restrictive time and page limits. Thirdly, PIAC addressed the need for the Tribunal to give adequate consideration to consumer submissions in its final decision. PIAC referred to the national electricity objective in s 7 of the NEL as guiding all decision-making by the AER and the Tribunal, being framed in terms of the long-term interests of consumers. PIAC also referred to s 71P(2)(a). PIAC also relied on its written submissions.
The CUAC’s submissions and supplementary submissions were directed to whether CitiPower and Powercor’s proposed growth rates for 2016 represented efficient costs of achieving the opex and capex objectives for the purpose of rr 6.5.6(c) and 6.5.7(c) of the NER. The Tribunal addresses this matter fully in Applications by CitiPower Pty Ltd and Powercor Australia Ltd [2017] ACompT 4.
The Tribunal conducted a second consultation session on 11 October 2016 at the Federal Court of Australia in Canberra. The only registered speakers at the Canberra consultation withdrew before the start of proceedings. Consequently, opportunity was provided for those who had not registered to participate to make submissions to the Tribunal. One person took that opportunity. It has not been necessary for the Tribunal to revisit those issues in the course of forming its decisions.
In order to address concerns about the brevity of time allocated to user and consumer groups and their inability to respond to the written submissions and replies of the applicants, on 18 October 2016 the Tribunal made a direction giving leave to the user and consumer groups to lodge written submissions by 10 November 2016 in relation to the written submissions lodged by the parties. This leave was taken up.
In addition to the organisations already referred to, the Tribunal received and considered written submissions from the St Vincent de Paul Society; the Consumer Action Law Centre; the Ethnic Communities’ Council of NSW Inc; UnitingCare Australia; the Queensland Electricity Users Network; and the New South Wales Irrigators’ Council and Cotton Australia.
SUMMARY OF APPLICANTS’ GROUNDS
ActewAGL summarised its grounds as follows.
ActewAGL submitted that Pt 8 of the NGR governed the AER’s decisions about whether to approve access arrangements by service providers.
It submitted that r 76 of the NGR adopted a building block approach to the determination of total revenue to be derived from access arrangements. The building blocks relevant to the present grounds of review were: r 76(a) (return on debt); r 76(b) (forecast inflation); and r 76(c) (gamma). We have set these out at [18] above.
Return on debt
Specifically in relation to return on debt, ActewAGL submitted, in summary as follows.
The issue was whether the historical trailing average (HTA) approach should be applied immediately to estimate the return on debt (which both ActewAGL and Jemena proposed) or whether, as the AER decided, the trailing average approach should be phased in over a decade (the transition to trailing average (TTA)).
ActewAGL argued that the AER’s decision was predicated on a misconstruction of r 87 of the NGR, equivalent to s 6.5.2 of the NER. The AER’s construction embodied a so-called zero net present value (NPV) criterion over the ‘life of the Regulatory Asset Base (RAB)’; interpreted ‘efficient financing costs’ as relating solely to ‘prevailing’ interest rates (but did not require that those rates be prevailing at any particular time); and did not require any consideration of the financing practices of the benchmark efficient entity (BEE).
ActewAGL contended that those concepts could not be reconciled to the text of r 87 of the NGR. Rather, it appeared that the AER had reached what it considered to be the ‘right’ outcome, and then had sought to fit that conclusion into that rule, something ActewAGL argued was not a proper basis for statutory construction.
Similarly, Jemena argued the NPV = 0 criterion in the AER’s Final Decision was incorrect. It had no explicit basis in r 6.5.2 and could not override the requirements of that rule. Jemena also argued that the AER’s application of the condition did not reflect a proper NPV = 0 analysis in any event, because the AER’s approach confused the RAB with debt instruments, and because the on-the-day approach only ever produced a random mismatch with the actual cost of debt, and this random mismatch did not produce some consistent value over time.
Further, ActewAGL argued that the AER’s financial theory (ie, that the trailing average approach should only be adopted if there was a transition that preserved “revenue neutrality” over the “life of the RAB” with the on-the-day approach) depended on its conclusion that the on-the-day approach necessarily satisfied the allowed rate of return objective (ARORO). That conclusion was untenable. Accordingly, the theoretical premise of the AER’s decision (even leaving aside its construction issues) was flawed.
ActewAGL contended that the phrase “efficient financing costs” in r 87(3) of the NGR, equivalent of r 6.5.2(c) of the NER, related to all matters that bore upon the financing costs that the BEE, acting efficiently, would incur during the regulatory period, including its efficient financing practices. It argued this construction was consistent with extrinsic material, the text of the clause of the NGL, and the decisions in Applications by Public Interest Advocacy Centre Ltd and Ausgrid [2016] ACompT 1 (Ausgrid) and Application by EnergyAustralia [2009] ACompT 8 (EnergyAustralia).
Jemena also argued that efficient financing costs are actual costs incurred by the benchmark business under its debt instruments (facilities and bonds) and, because the business had contractual commitments to pay interest under those instruments, there was a component of future debt costs which was historically predetermined. Consequently, Jemena argued the AER’s construction of the term “efficient financing costs” as the prevailing cost of debt (at the time of making the distribution determination, or alternatively, at any one particular point in time) was incorrect. Rather, the term “efficient financing costs” in the allowed rate of return objective was a reference to costs that a benchmark service provider would incur adopting efficient financing and risk management practices, including practices that might be expected in the absence of regulation, that is, the costs facing an efficient business. Jemena contended the AER’s construction was therefore inconsistent with the adoption of a trailing average approach, which was not a prevailing cost approach.
Jemena further argued that, because interest rates payable on existing debt instruments held by the benchmark business were not at the prevailing rate for new debt, the prevailing rate could not sensibly be applied as a measure for the entire cost of debt and did not represent the efficient financing costs of that business. Alternatively, and unlike both the on-the-day approach and the AER’s transition approach, the trailing average approach calculated the efficient financing costs of a benchmark business for Jemena.
ActewAGL had no debt. Therefore, it argued, the change in debt methodology to the trailing average approach had no ‘impact’ on it for the purposes of r 87(11)(d), the NGR equivalent of r 6.5.2(k)(4) of the NER. Given that it was common ground that a BEE would hold a staggered portfolio of debt, and finance (or refinance) 10 per cent of that portfolio each year, the trailing average approach should therefore be applied without a transition.
Similarly, although Jemena did have debt, it did not have hedge contracts. In addition to arguing that neither the on-the-day approach nor the AER’s transition produced a measure of the efficient financing costs of a BEE in its position, Jemena contended that r 6.5.2(k)(4) provided a transition for businesses that had changed their position in an irrecoverable way on the basis of the previous regulatory regime (such as by entering into hedge contracts). Jemena was not such a business, consequently, it argued, the AER’s transition was not in accordance with r 6.5.2 of the NER.
ActewAGL argued the issues raised by the AER about the proper construction of s 71 of the NEL/s 246 of the NGL regarding the nature of the grounds claimed by the applicants did not arise because the AER had misconstrued the NGR equivalent of r 6.5.2 and had therefore exercised its discretion incorrectly.
Jemena further argued that the other reasons provided by the AER for a transition (the avoidance of perceived bias and measurement difficulties of the trailing average approach) were not valid reasons for a failure to apply the ARORO.
Jemena also argued that the AER’s change in reasoning was not foreshadowed to the service providers, in contravention of r 11.60.4(k) of the NER and s 16(1)(b) of the NEL.
Gamma
In respect of this ground, ActewAGL relied upon submissions at that time advanced jointly on behalf of all network applicants. However, by letter dated 21 July 2017, all applicants other than ActewAGL and Jemena abandoned their grounds of review in respect of gamma. ActewAGL and Jemena contended for a value of 0.25 for gamma rather than the value of 0.4 applied by the AER. We set out their submissions on this topic at [240]-[260] below.
Forecast inflation
Specifically in relation to forecast inflation, ActewAGL submitted, in summary as follows.
A forecast of inflation was a component of the depreciation building block in r 76(b) of the NGR.
Forecast inflation on the capital base must be deducted from the depreciation allowance in each regulatory year to avoid “double counting” of inflation (given that the return on capital building block was calculated by reference to the inflation adjusted capital base).
ActewAGL proposed a forecast of inflation of 2.19 per cent (later updated to 1.96 per cent) based on the Breakeven Forecasting Methodology, which provided a market-based estimate of inflation.
The AER was required to accept ActewAGL’s forecast of inflation (and the methodology used to create it) unless the AER was positively satisfied that ActewAGL’s forecast: (a) was not arrived at on a reasonable basis; and (b) did not represent the best forecast available.
In the Final Decision, the AER imposed a forecast of inflation of 2.18 per cent based on the AER’s Forecasting Methodology, which relied on RBA forecasts for the first three years of the 2015-21 period, and then the mid-point of the RBA’s long-term inflation target range for a further seven years.
There was expert evidence before the AER that Australia had been experiencing very low inflation, and in prevailing low interest rate conditions, the RBA had little capacity to use monetary policy to lift inflation.
ActewAGL submitted that the AER did not attempt a meaningful analysis of these issues. Rather, the AER assumed that its Forecasting Methodology should be adopted unless persuaded otherwise. Further, the AER concluded that any change to its forecasting methodology should only occur after industry wide consultation outside of the decision-making procedures in the NGR.
ActewAGL submitted that the AER misconceived its statutory task by making a decision otherwise than in accordance with the NGR. The issues raised by the AER about the proper construction of the grounds in s 71 of the NEL/s 246 of the NGL did not arise. On any view, the AER had exercised its discretion incorrectly.
ActewAGL submitted it was not precluded from pursuing its grounds of review in relation to forecast inflation under r 60 of the NGR.
Materially preferable designated NGO decision requirement
As to the “materially preferable designated NGO decision requirement” in s 259 of the NGL, ActewAGL submitted:
(1)a decision that was made according to law was properly construed as being a “materially preferable designated NGO decision” when compared to a purported decision that was not in accordance with law; that was to be contrasted with a decision that was “preferable”, in the sense that, if there were a range of decisions that were correct in law, the decision that was ultimately achieved was the best that could have been made;
(2)the term “likely” in s 259(4a)(c) meant that there was a real chance or possibility, rather than that it was “more likely than not”, that varying or remitting the decision will result in a materially preferable designated NGO decision;
(3)there was no requirement for the Tribunal to engage in “crystal ball gazing”, whereby it must consider the decision as made by the AER, and compare that with a counterfactual in which a different decision was made by the AER on remittal with a different result, in order to determine whether the requirement was met. Rather, a simple comparative exercise was called for, whereby the grant of relief was compared with the existing regulatory decision;
(4)if its return on debt and forecast inflation grounds were made out, then the AER had made a decision about ActewAGL’s allowable revenue on a basis that was not authorised by the NGR. A decision that did not apply the NGR, and which the AER was not authorised to make, was incapable of furthering the NGO. A decision which did apply the NGR, on the other hand, was more likely to further the NGO, and was therefore likely to be materially preferable to a decision which did not. Accordingly, either a remitted or varied decision, which resulted in a decision being made in accordance with law, will necessarily be materially preferable;
(5)the AER’s errors otherwise resulted in the Final Decision not furthering the NGO, in that the Final Decision did not apply the building block methodology in the NGR in accordance with its terms, and therefore did not allow ActewAGL a reasonable opportunity to recover its efficient costs of providing services pursuant to the access arrangement. The AER had not asserted (nor was ActewAGL aware of) any offsetting interrelationships or generosities in the Final Decision. Thus, there would likely be material adverse consequences for the long-term interests of consumers absent error correction.
The Tribunal turns now to consider in more detail the submissions of the parties in respect of each of these subject matters.
RETURN ON DEBT
Debt Transition
The principal issue here is whether the historical trailing average (HTA) approach to estimating the return on debt for use in the determination of the allowed rate of return for the 2015-16 year and the 2016-21 access arrangement period (together, 2015-21 period) should be applied immediately (which ActewAGL and Jemena proposed in their Revised Access Arrangement Proposal and Revised Regulatory Proposal, respectively) or whether there should be a transition to the trailing average (TTA) approach, with the HTA phased in from the previous on-the-day approach over a decade (which the AER decided in both cases). Both of those applicants had originally proposed a hybrid transition.
It was common ground between the parties that the HTA approach would assume that the BEE holds a staggered portfolio of fixed rate debt and refinances 10 per cent of that debt each year at prevailing 10-year interest rates. The interest rate used to calculate the allowance for debt in each regulatory year under that approach is a simple average of the current and previous nine years’ prevailing interest rates.
The TTA approach is a transition from the previous on-the-day approach that fixed the interest rate used to calculate the allowance for debt at the rate prevailing at, or close to, the start of each regulatory period for the whole of that period (currently five years). The transition lasts ten years, so that the prevailing/on-the-day rate applies in the first year of the new regulatory period; a weighted average of 90 per cent of the initial on-the-day rate and 10 per cent of the second-year prevailing rate applies in the second year; a weighted average of 80 per cent of the on-the-day rate and 10 per cent of each of the second-year and third-year prevailing rate applies in the third year; and so on until the tenth year when the rate applying in that year is a simple average of the current and previous nine years’ prevailing interest rates, as would apply with the HTA approach. This may be called a “fully-implemented” HTA.
Both TTA and HTA approaches “roll in” 10 per cent of the new prevailing rate at the beginning of each regulatory year. Consequently, the practical difference between the TTA and HTA approaches is that the TTA approach substitutes the interest rate prevailing at the beginning of the first regulatory period for all the historical rates prior to that time that would have been averaged into the HTA approach.
The AER’s imposition of a transition to the HTA approach is essentially the same issue as was raised in relation to debt by the parties in Ausgrid and, more narrowly focussed on only the debt risk premium (DRP) component of debt costs, in Application by SA Power Networks [2016] ACompT 11 (SAPN). In Ausgrid the Tribunal’s focus was on the rationale for transition, particularly the proper definition of the BEE and interpretation of r 6.5.2(k)(4) of the NER (equivalent to r 87(11)(d) of the NGR). The Tribunal in that matter concluded that the AER had misinterpreted the definition of a BEE as a regulated entity with hedged debt that required transition to the HTA approach. The AER subsequently adopted a different rationale for applying the TTA approach in the recent determinations for SA Power Networks, ActewAGL and Jemena, relying on an implied requirement of the NEO and revenue and pricing principles (RPP) to ensure a “zero NPV” condition was satisfied “over the life of the RAB”. That is, over time, the net present value of the allowance for the return on capital would just cover the cost of the regulated asset base. This rationale was contested in SAPN, but was accepted by the Tribunal in that matter. Since then, the Full Court has decided an application for judicial review of the Tribunal’s Ausgrid decision, as discussed in what follows.
Regulatory framework
This issue was raised by ActewAGL under the NGL and Jemena under the NEL. As we have noted, there are substantial parallels in the relevant provisions of both the NGL and the NGR and the NEL and the NER. The discussion to follow refers to both sets of provisions where necessary.
The framework governing the cost of capital is set out in r 87 of the NGR; the return on debt specifically is dealt with in rr 87(8) to (12). These rules are the result of substantial recent revision, as explained in the AEMC’s Rule Determination: National Electricity Amendment (Economic Regulation of Network Service Providers) Rule 2012; National Gas Amendment (Price and Revenue Regulation of Gas Services) Rule 2012, 29 November 2012 (2012 Rule Amendments).
Rule 87(1) of the NGR requires a calculation of the allowed rate of return in accordance with the terms of r 87 itself. Rules 87(2) and (3) are the main provisions. We have set them out at [18] above.
Prior to the 2012 Rule Amendments, the revenue allowance for the cost of debt was explicitly set as the sum of measures of the risk-free rate and the DRP, the sources for both of which were specified in some detail. The effect was to apply, at the beginning of a regulatory period, an estimate of the long-run cost of debt based on interest rates prevailing during a period close to the start of the regulatory period.
Market interest rates constantly change with economic conditions, so the prevailing rate (for instance, for suitably rated (BBB+), long-term (10-year) debt) at the start of a regulatory period is unlikely to be the rate that will apply to new debt over the course of that period. In the lead-up to the 2012 Rule Amendments governing the costs of capital, the AEMC noted concerns that the then mandated on-the-day approach encouraged risk management practices by service providers that would not occur in the absence of such regulation. It considered that the then current approach may lead to various mismatches between the regulatory estimate allowed by the regulator and the actual interest rate exposures of those service providers that employ debt management practices that are not closely aligned with the benchmark assumptions.
The 2012 Rule Amendments addressed this by giving the AER the discretion to choose between the on-the-day approach, an HTA approach, or some combination of these two approaches. It described the rule as setting out at a very broad level the characteristics of these three approaches to estimating the return on debt that could reasonably be contemplated by a regulator. The AEMC intended that the regulator could adopt more than one approach to estimating the return on debt, having regard to different risk characteristics of benchmark efficient service providers. The regulatory revenue allowance for debt is now required to be estimated so as to contribute to the ARORO (NGR r 87(8), NER s 6.5.2(h)), that is, to provide a service provider with a rate of return commensurate with the efficient financing costs of a benchmark efficient entity with a similar degree of risk as the service provider in respect of the provision of standard control services.
Under the new rules, if the AER estimates the return on debt using a methodology that results in different or potentially different rates in each regulatory year (r 87(9)(b)), the AER’s choice of method must be “effected through the automatic application of a formula” specified in the AER’s final decision at the start of the regulatory period.
As summarised in the AEMC 2012 Rule Amendments, at page 8:
2.4.3 Rate of return
The final rule introduces a new framework for determining the rate of return. It provides that the allowed rate of return for a NSP must meet an objective related to the efficient financing costs of a benchmark efficient NSP with a similar degree of risk as that which applies to the NSP subject to the decision. The final rule provides the regulator with sufficient discretion on the methodology for estimating the required return on equity and debt components but also requires the consideration of a range of estimation methods, financial models, market data and other information so that the best estimate of the rate of return can be obtained overall that achieves the allowed rate of return objective.
The final rule also provides for the allowed rate of return to reflect changing circumstances so that the application of the framework should result in the best overall estimate of the rate of return in any case that is commensurate with efficient financing costs. This should ensure sufficient funds are attracted for network investment, while minimising costs for electricity consumers.
The 2012 Rule Amendments did not alter the task for the AER: to set an allowance for the cost of capital that was the product of the projected capital base (the RAB in the case of the NER) and a weighted average of the returns on equity and debt (r 87(4)(a)). Nor did they change the previously understood cost concepts - that the returns on equity and debt were estimates of the long-run returns on those components of capital costs. As noted by the AEMC in the quote at [71] above, the new rules “introduce a new framework”, granting the AER “discretion on the methodology for estimating the required rate of return”, but not changing the underlying cost concept, summarised by the AER as: “the economic understanding that the cost of capital (equity and debt) is a forward-looking opportunity cost”.
Besides the requirement (r 87(2)) for the overall rate of return on capital to achieve the ARORO (defined in r 87(3) that the rate of return is commensurate with the efficient financing costs of a BEE with a similar degree of risk), under r 87(5) the AER is required to have regard to:
(a)relevant estimation methods, financial models, market data and other evidence;
(b)the desirability of using an approach that leads to the consistent application of any estimates of financial parameters that are relevant to the estimates of, and that are common to, the return on equity and the return on debt; and
(c)any interrelationships between estimates of financial parameters that are relevant to the estimates of the return on equity and the return on debt.
The AER is also required (r 87(11)) to have regard to:
(a)the desirability of minimising any difference between the return on debt and the return on debt of a benchmark efficient entity referred to in the allowed rate of return objective;
(b)the interrelationship between the return on equity and the return on debt;
(c)the incentives that the return on debt may provide in relation to capital expenditure over the access arrangement period, including as to the timing of any capital expenditure; and
(d)any impacts (including in relation to the costs of servicing debt across access arrangement periods) on a benchmark efficient entity referred to in the allowed rate of return objective that could arise as a result of changing the methodology that is used to estimate the return on debt from one access arrangement period to the next.
What the AER decided
The AER decided in the Final Decisions that it would not depart from the return on debt methodology that it had proposed in Chapter 6 of its December 2013 Better Regulation Rate of Return Guideline (RoR Guideline) and its Draft Decision for ActewAGL and Preliminary Decision for Jemena. At page 10 of Attachment 3 of the Jemena Final Decision the AER said, with an equivalent statement in the ActewAGL Final Decision (omitting footnotes):
We are satisfied that the allowed rate of return … we determined achieves the allowed rate of return objective (ARORO). That is, we are satisfied that this allowed rate of return is commensurate with the efficient financing costs of a benchmark efficient entity with a similar degree of risk as that which applies to Jemena Electricity Networks (JEN) in providing standard control services.
and later at pp 11-12 of attachment 3:
Consistent with our preliminary decision, we agree there should be a transition from the on-the-day approach to the trailing averaging approach to estimating the return on debt. However, we disagree with the hybrid form of transition proposed in JEN's (initial) regulatory proposal.
In its revised proposal, JEN departed from its initial position to apply a transition to the trailing averaging approach at all. It now proposes to not apply a transition (that is, to immediately move to a trailing average approach). We disagree with JEN on this and a number of other components of the rate of return.
and further at p 13:
This gradual transition will occur through updating 10 per cent of the entire return on debt each year to reflect prevailing market conditions in that year (a full transition). This approach is consistent with the approached we proposed in the Guideline and adopted in the preliminary decision.
Discussing the ARORO, the AER said, at pages 17 and 18 (omitting footnotes):
We are to determine the allowed rate of return such that it achieves the ARORO. The objective is:
…that the rate of return for a distribution network service provider is to be commensurate with the efficient financing costs of a benchmark efficient entity with a similar degree of risk as that which applies to the distribution network service provider in respect of the provision of standard control services.
The regulatory regime is an ex-ante (forward looking) regime. As such, we consider a rate of return that meets the ARORO must provide ex-ante compensation for efficient financing costs. This return would give a benchmark efficient entity a reasonable opportunity to recover at least its efficient financing costs. This is a zero net present value (NPV) investment condition, which can be described as follows:
The zero NPV investment criterion has two important properties. First, a zero NPV investment means that the ex-ante expectation is that over the life of the investment the expected cash flow from the investment meets all the operating expenditure and corporate taxes, repays the capital invested and there is just enough cash flow left over to cover investors’ required return on the capital invested. Second, by definition a zero NPV investment is expected to generate no economic rents. Thus, ex-ante no economic rents are expected to be extracted as a consequence of market power. The incentive for investment is just right, encouraging neither too much investment, nor too little.
Under our regulatory framework, a benchmark efficient entity’s assets are captured in its RAB. The return on capital building block allows a benchmark efficient entity to finance (through debt and equity) investment in its network. Because investments usually carry a degree of risk, to satisfy the zero NPV condition the allowed rate of return must be sufficient to compensate a benchmark efficient entity's debt and equity investors for the risk of their investment.
The AER went on to discuss, at pages 18-19, efficient financing costs:
A key concept in the ARORO is ‘efficient financing costs’. Because the market for capital finance is competitive, a benchmark efficient entity is expected to face competitive prices in the market for funds. Therefore, we consider efficient financing costs are reflected in the prevailing market cost of capital (or WACC) for an investment with a similar degree of risk as that which applies to a service provider in respect of the provision of regulated services.
…
We consider employing a rate of return that is commensurate with the prevailing market cost of capital (or WACC) is consistent with the zero NPV investment condition (see above). We also consider economic efficiency more generally is advanced by employing a rate of return that reflects rates in the market for capital finance. Similarly, Partington and Satchell interpret efficient financing costs as the opportunity cost of capital, which is a market rate of return for assets with a given level of risk.
At page 24, the AER said the following regarding the benchmark efficient entity (omitting a footnote):
We consider a benchmark efficient entity with a similar degree of risk as that which applies to the service provider in the provision of its regulated services would be ‘a pure play, regulated energy network business operating within Australia’ acting efficiently. To understand this position, it is essential to understand the relationship and distinction between risk and expected returns. All else being equal, we consider an unregulated monopoly will have higher risk and higher expected returns than a regulated monopoly. This is because regulation:
Ÿmitigates monopolies from being able to extract monopoly rents, thereby constraining potential profits
Ÿincreases the certainty of the revenue stream, thereby reducing risk.
For clarity, regulation reduces both risks that are compensated through the rate of return (for example, demand risk) and risks that would not be compensated through the rate of return (for example, by allowing cost pass throughs for unsystematic risks such as industry-specific tax changes or geographic-specific natural disasters). We only focus on risks that are compensated through the rate of return (compensable risks).
In what it makes clear is a later addition to its thinking, the AER said at page 3-279, within Appendix H, which deals in detail with the return on debt approach (omitting footnotes):
It is important to note that a debate has now arisen, since the submission of proposals in the matters under consideration, as to whether a benchmark efficient entity would be unregulated. In their recent revised proposals, service providers submitted that a benchmark efficient entity with a similar degree of risk in respect of the provision of regulated services must be an unregulated business. This followed the Tribunal hearing in an application for review of revenue determinations by Networks NSW, and ActewAGL which resulted in the Tribunal recently forming the view that a benchmark efficient entity referred to in the ARORO is likely not a regulated entity.
and further at page 3-280:
Nevertheless, even if a benchmark efficient entity was necessarily unregulated, we do not consider this would affect our conclusions. Our approach to the cost of debt would be applicable to an unregulated firm if it had a similar degree of risk to the service provider in providing regulated services. Further, irrespective of whether a firm is regulated or not, efficient financing costs reflect the current (or prevailing) forward looking costs observed in capital markets.
The AER referred to the 2012 Rule Amendments in support of its imposition of a transition as follows in Appendix H, at pages 3-290 to 3-291 (footnotes omitted):
We note that when undertaking the rule change in 2012 the AEMC added in clause 6.5.3(k)(4) that states (emphasis added):
(k) In estimating the return on debt under paragraph (h), regard must be had to the following factors…
(4) any impacts (including in relation to the costs of servicing debt across regulatory control periods) on a benchmark efficient entity referred to in the allowed rate of return objective that could arise as a result of changing the methodology that is used to estimate the return on debt from one regulatory control period to the next.
This clause is explicit in requiring us to have regard to any impacts on a benchmark efficient entity that could arise as a result of a change of methodology. This would include having regard to any material changes in the present value of a benchmark efficient entity's regulated revenue purely due to changing the debt estimation methodology. If such changes increased a benchmark efficient entity's value, then this would benefit its equity holders at the expense of consumers. Conversely, if such changes decreased a benchmark efficient entity's value, then this would cost its equity holders but provide a short term financial benefit to consumers (which may not be a long-term benefit to the extent this results in underinvestment). As such, this methodological change may also have a material negative impact on the confidence in the predictability of the regulatory regime. We consider the AEMC’s guidance on the intent of this clause is consistent with our approach (emphasis added):
The purpose of the fourth factor is for the regulator to have regard to impacts of changes in the methodology for estimating the return on debt from one regulatory control period to another. Consideration should be given to the potential for consumers and service providers to face a significant and unexpected change in costs or prices that may have negative effects on confidence in the predictability of the regulatory arrangements.
The AER added:
We have taken this factor into account and consider our transitional approach is consistent with the intent of this factor. Nevertheless, we consider that irrespective of this factor, our transition approach meets the requirements of the ARORO, NEO/NGO and RPPs.
With this background, the AER argued in broad terms as follows.
It considered that the on-the-day approach could contribute to the ARORO and was therefore open to it. In particular, the present value of a benchmark efficient entity’s allowed revenues would be sufficient to compensate it for its efficient financing costs.
The trailing average approach, once fully implemented in the manner it proposed, would similarly compensate a benchmark efficient entity for its efficient financing costs. Compared to the on-the day approach, a trailing average approach would lead to less volatile cash flows (a smoother price path over the long run, across regulatory periods); would in the view of some stakeholders reduce service providers’ risk; and receive broad stakeholder support. Thus the AER favoured moving from the on-the-day approach to the trailing average approach. The question was how to implement the change.
The AER’s method of phasing in the trailing average approach would contribute to the ARORO because it would be approximately revenue neutral in the sense that it would not change the benchmark efficient entity’s present value. These conclusions about the three methodologies – on-the-day, fully implemented trailing average, and phased-in trailing average - were supported by a mathematical analysis of present value calculations.
By contrast, the AER argued, the applicants’ proposed methodology would over-compensate them. The allowed return on debt would be greater than the benchmark efficient entity’s efficient financing costs. This was because the current market cost of debt was considerably below the average market cost of debt over the past nine years. Implementing the trailing average approach immediately would effectively treat the applicants as if they now faced a cost of debt considerably higher than in fact they do face. It would thus not produce a rate of return that would be commensurate with achievement of the ARORO.
If, instead, the trend of interest rates had been up rather than down, immediate implementation of the trailing average approach would cause under-compensation of the benchmark efficient entity, contrary to the ARORO.
Allowing service providers to choose a methodology according to whether known historical data favours them potentially biases regulatory outcomes.
The submissions to the Tribunal
ActewAGL’s grounds for review were set out at [103]-[118] of its application for review, and Jemena’s grounds were set out at [68]-[82] of its application. The grounds covered essentially the same issues. As was the case throughout the hearing, counsel were asked to provide short written outlines of their oral submissions prior to making them. The two applicants’ outlines covered the same territory, but differed in the way they were expressed. The two applicants did not rely on a common set of submissions. Given the length of the elaboration of grounds for review in the applications, and the overlap in arguments made, the Tribunal has considered it best consider the grounds for review by reference to a melding of the outlines of oral submissions.
Jemena’s attack on the AER’s decision had a number of elements, as follows:
·The “efficient financing costs of a benchmark efficient entity with a similar degree of risk as that which applies to [Jemena]” (r 6.5.2(c)) are actual costs incurred by the benchmark business under its debt instruments (facilities and bonds). The business has contractual commitments to pay interest under those instruments. This business would hold a staggered portfolio of fixed rate debt. The trailing average approach calculates the efficient financing costs of a benchmark business for Jemena.
·The AER’s construction of “efficient financing costs” is that they are prevailing costs.
·The interest rates payable on existing debt instruments held by the benchmark business are not at the prevailing rate for new debt in 2016. Only new debt taken out by the business in 2016 is at the prevailing rate. Therefore, the prevailing rate cannot sensibly be applied as a measure for the entire cost of debt.
·Whilst the on-the-day approach was required under the previous rules, the rules were amended and now give primacy to the allowed rate of return objective.
·The “on-the-day” approach (which is continued by the AER’s transition, in decreasing weights over 10 years) is neither the prevailing cost of debt nor a measure of the “efficient financing costs” of Jemena. The on-the-day approach is only an appropriate measure for a business that finances (e.g. a new entrant) or refinances all of its debt requirements at the commencement of the regulatory control period. That is not Jemena, or an appropriate benchmark for Jemena. The on-the-day approach and the AER’s transition do not calculate the “efficient financing costs of a benchmark efficient entity” in the case of Jemena. Thus the AER’s transition is not in accordance with clause 6.5.2 of the NER.
·The AER’s new “NPV = 0” approach from its Final Decision is not found in r 6.5.2 and cannot override the requirements of r 6.5.2. In any case, the analysis is incorrect. For both the on-the-day approach and the transition to a trailing average, it applies an interest rate that does not represent the efficient financing costs of an existing business. Moreover, the notion of revenue neutrality is meaningless in relation to debt costs. It makes no sense to speak of debt costs over the life of assets.
·Rule 6.5.3(k)(4) provides a transition for businesses that have changed their position in an irrecoverable way on the basis of the previous regulatory regime such as by entering into hedge contracts. Jemena is not such a firm.
·Other reasons given by the AER for a transition – avoidance of bias and measurement difficulties – are not valid reasons to fail to apply the ARORO.
·The AER’s change of reasoning was not foreshadowed to the service providers in contravention of r 11.60(k) of the NER and s 16(1)(b) of the NEL.
In a similar vein but with some variations, ActewAGL submitted, in summary, as follows.
·The AER’s decision is predicated on a misconstruction of r 6.5.2 of the NER. The AER’s construction: embodies a so-called ‘NPV = 0’ criterion over the “life of the RAB”; interprets “efficient financing costs” as relating solely to “prevailing” interest rates (but does not require that those rates be prevailing at any particular time); and does not require any consideration of the financing practices of the BEE.
·Those concepts cannot be reconciled to the text of r 6.5.2. Rather, it appears that the AER has reached what it considered to be the ‘right’ outcome, and then had sought to fit that conclusion into r 6.5.2. That is not a proper basis for statutory construction.
·Further, the AER’s financial theory (ie, that the trailing average approach should only be adopted if there is a transition that preserves “revenue neutrality” over the “life of the RAB” with the on-the-day approach) depends on its conclusion that the on-the-day approach necessarily satisfies the ARORO. That conclusion is untenable. Accordingly, the theoretical premise of the AER’s decision (even leaving aside its construction issues) is flawed.
·ActewAGL contended that the phrase “efficient financing costs” in r 6.5.2(c) related to all matters that bear upon the financing costs that the BEE, acting efficiently, would incur during the regulatory period, including its efficient financing practices. This construction is consistent with the extrinsic material, the text of r 6.5.2 of the NER, and the Ausgrid and EnergyAustralia Decisions.
·ActewAGL has no debt. Therefore, the change in debt methodology to the trailing average approach has no “impact” on it for the purposes of r 6.5.2(k)(4) of the NER. Given that it is common ground that a BEE would hold a staggered portfolio of debt, and finance (or refinance) 10 per cent of that portfolio each year, the trailing average approach should therefore be applied without a transition.
·Given that it was common ground that the trailing average methodology was most likely to represent the debt portfolio of a business in a competitive market, then, consistently with the conclusions expressed by the Tribunal in Ausgrid, the efficient financing costs of ActewAGL for the purposes of r 87(3) of the NGR ought to have been determined on that basis. That is to say, ActewAGL should have been allowed a return on debt based on the trailing average approach without a transition.
The AER submitted:
·The meaning of the rules governing the allowed rate of return in the NER and the NGR is informed by the finance and economic principles that underpin the rules, and the extrinsic materials that explain the ‘problems’ sought to be overcome by the previous rules and the purposes of the amended rules.
·In its Final Decisions, the AER decided that:
(a)either the on-the-day approach or the trailing average approach, consistently applied, would contribute to the achievement of the allowed rate of return objective;
(b)switching immediately from an on-the-day approach to a trailing average approach would be unlikely to be revenue-neutral;
(c)in the current market circumstances, an immediate adoption of a trailing average would lead to an excess positive return in favour of the service provider relative to the efficient return in the market.
·The on-the-day approach to estimate the return on debt is consistent with the allowed rate of return objective, as it reflects the prevailing cost of capital.
·The term “efficient financing costs” in the allowed rate of return objective encompasses both return on equity and return on debt. The words “financing costs” therefore refer to the cost of capital. ‘Efficient’ should be given its full meaning consistent with the NEO.
·The AER did not err in concluding that an immediate change from an on-the-day approach to a trailing average approach would lead to an excess positive return in favour of the service provider relative to the efficient return in the market.
·The AER did not err in concluding that NER r 6.5.2(k)(4) permitted it have regard to the potential for consumers and service providers to face a significant and unexpected change in costs or prices resulting from a change in the methodology of estimating the cost of debt.
·The AER did not err in having regard to the potential for regulatory bias and historical data issues that arise from immediately adopting a trailing average approach.
·No error arises by reason that the Final Decisions explained the AER’s reasons in greater depth than the Preliminary Decisions, including by reference to the underlying economic principles.
·Even if the AER’s decision involved error, the Tribunal should affirm the decision because the alternative would not result in a materially preferable NEO decision.
The Full Court’s decision
As mentioned above, after the hearing by the Tribunal in the present proceedings, the Full Court’s decision on its judicial review of the Tribunal’s Ausgrid decision was handed down, on 24 May 2017. That decision is Australian Energy Regulator v Australian Competition Tribunal (No 2). The participants in this Tribunal’s reviews were given the opportunity to make further submissions.
ActewAGL relevantly made the following submissions in respect of the Full Court’s decision.
ŸFirst, the Court concluded that the required benchmarking for the purposes of cl 6.5.2(c) extends to the debt management practices of the BEE. In particular:
a) at [531]-[533], in the context of discussing the 2012 Rule Amendments, the Court implicitly accepted that the purpose underlying cl 6.5.2 was to provide an incentive for service providers to adopt efficient financing practices, and that to that end, ‘the required benchmarking is with respect to the efficiency of financing and risk management practices that are to be expected according to the disciplines of a workably competitive market’; and
b) at [571] the Court concluded that: cl 6.5.2(c) is an ‘efficiency yardstick’ of the costs that would be incurred in a workably competitive market; that considered against that yardstick, ‘the service provider’s debt management practices will either be efficient or inefficient’; and that for the purposes of considering whether an ‘impact’ of the kind referred to in cl 6.5.2(k)(4) exists, it is relevant to consider whether the service provider has ‘already implemented a debt structure that satisfies a required aspect of the intended benchmark efficiency’ in cl 6.5.2(c) (that ‘required aspect’ being the service provider’s debt management practices) [emphasis added].
ŸThe effect of these conclusions is that the expression ‘efficient financing costs’ in cl 6.5.2(c) is not (as the AER now contends) confined solely to interest rates.
ŸSecondly, the Court concluded that the service provider’s actual debt management practices are relevant to considering whether an ‘impact’ of the kind referred to in cl 6.5.2(k)(4) exists that should be taken into account when transitioning from one methodology for estimating return on debt to another. In particular:
a) at [557]-[560], the Court acknowledged that the AEMC’s purpose in promulgating the 2012 Rule Amendments (including cl 6.5.2(k)(4)) was to address the debt management practices that service providers had entered into in reliance on previous methodologies for estimating return on debt deployed by the AER;
b) at [571], as discussed above, the Court reasoned, when considering whether an ‘impact’ of the kind contemplated by cl 6.5.2(k)(4) exists, it is relevant to consider whether the particular service provider's actual circumstances, including its debt management practices, are efficient when assessed against the benchmark.
ŸThose conclusions cannot be reconciled with the AER’s current construction of cl 6.5.2(k)(4) as being concerned only with maintaining revenue neutrality for the BEE between two methodologies over the ‘life of the RAB’ or 10 year term of the BEE’s debt portfolio. Not only does the AER’s construction not allow for any consideration of debt management practices (as it is focussed solely on interest rates), but it also does not allow for any consideration of the individual circumstances of the service provider (i.e. its debt management practices) in considering the ‘impact’ of a change in debt methodology.
ŸThirdly, the Reasons are directed to the assessment of efficient costs during the current regulatory period, and the ‘impact’ of a change in debt estimation methodology from the previous regulatory period to the current regulatory period (see especially at [571]-[573]). The Reasons do not contemplate assessment of efficient financing costs over multiple past and future regulatory periods. The Reasons therefore cannot be reconciled with the AER’s current construction and application of the ARORO, which is that the assessment of ‘efficient financing costs’ is to be assessed over the ‘life of the RAB’, which spans an indeterminate number of regulatory periods (or alternatively, the 10 year term of the BEE’s debt portfolio, which spans the two previous regulatory periods).
ŸBased on its construction of cll 6.5.2(c) and 6.5.2(k)(4), the Court concluded that no impacts of the kind referred to in cl 6.5.2(k)(4) exist that are 'apposite to the benchmark efficient entity' for any NSW DNSP or ActewAGL (at [572] and [573]). The effect of this conclusion is that the trailing average approach must be applied without a transition for ActewAGL because '…there was no meaningful, relevant impact on the benchmark efficient entity apposite for ActewAGL that could be said to have arisen from the change in methodology for estimating its allowed rate of return. The occasion or need for transition simply did not exist' (at [573]).
ŸThe Court's conclusions about ActewAGL are express and emphatic in their terms. They apply to the matter before the Tribunal at present. There is no basis to distinguish the Court's reasons. It follows that the AER has made a reviewable error in applying a trailing average approach with transition, in that it misconstrued r. 87 of the NGR (which mirrors cl 6.5.2).
Jemena made the following submissions:
ŸFirst, the Full Court has adopted a construction of cl 6.5.2 of the NER whereby, in the case of debt, it is concerned with the costs of the entity in question, but measured by reference to an efficiency yardstick, being the benchmark efficient entity, where different entities can have different benchmarks: at [529]-[532], [536]-[537], [539], [543], [571]. At [571], the Full Court observed:
While, for this purpose, the benchmark efficient entity is a construct, there is nothing in r 6.5.2(c) which requires one to be oblivious to the actual circumstances, including the debt management practices, of the particular service provider whose debt costs are being benchmarked. It is the efficiency of that service provider’s costs that is to be benchmarked according to what would be required by the disciplines of a workably competitive market. Considered against the yardstick of the efficient financing costs of the benchmark, the service provider’s debt management practices will either be efficient or inefficient. Where inefficiency exists, that inefficiency should not be reflected in the allowed rate of return for that service provider. Only efficient financing costs are to be allowed.
ŸThe Full Court’s position is therefore consistent with the position adopted by JEN in its submissions in reply at [54]. As explained by JEN in the hearing before the Tribunal, the trailing average approach, for an entity in the position of JEN, has the benefit of matching the costs that would be incurred by an efficient business in the position of JEN, both under existing facilities and under new facilities as they are taken out over the regulatory control period. The on-the-day approach does not. As it happens, the trailing average approach also provides an appropriate signal for efficient investment for a business in the position of JEN because it provides the current rate for new debt, whereas the on-the-day approach does not because it provides a single rate for all debt (both existing and new) across the whole 5 year period, and indeed for 10 years (in decreasing weighting) under the AER’s transition.
ŸMore generally, the decision of the Full Court is not consistent with a construction of “efficient financing costs” in cl 6.5.2 as meaning “prevailing rates in the market”, or any such combination of prevailing rates in the market and costs of the (efficient benchmark) business as the AER may choose in its discretion.
ŸSecondly, the Full Court has adopted a construction of cl 6.5.2(k)(4) of the NER which is consistent with JEN’s construction, but inconsistent with the AER’s construction: at [560], [570]-[574]. The Full Court concluded that cl 6.5.2(k)(4) was concerned with impacts arising from a change of methodology on a business that had entered into commitments on the basis of the previous methodology. Thus the Full Court concluded, at [572]-[573], that in the case of the Networks NSW businesses, who did not have hedge contracts, and in the case of ActewAGL, which did not have debt, there was no scope for the application of cl 6.5.2(k)(4) because there were no “impacts”. As the Full Court observed at [573], “the occasion or need for a transition simply did not exist”. The Full Court therefore adopted the approach to the construction of cl 6.5.2(k)(4) advanced in JEN’s submissions in chief at [80]-[85], and rejected the approach advanced in the AER’s submissions at [61]-[66].
ŸThis is significant, because cl 6.5.2(k)(4) was the sole clause that the AER could point to as providing textual support for considering wider NPV=0 issues over the life of the asset (whatever that means). In particular, the Full Court’s construction of cl 6.5.2(k)(4) does not support: (a) the AER’s approach of not permitting a business to recover its efficient debt costs on the basis that the perpetuation of a mismatch is consistent with some broader NPV=0 consideration, or (b) the AER’s approach of considering the effect of changing a methodology on “expectations” at the time of entry into debt facilities.
ŸThe position of JEN is relevantly indistinguishable from the position of ActewAGL, which was the subject of the conclusion of the Full Court at [573].
The AER made the following submissions (footnotes omitted):
ŸThe conclusions of the Full Court in AER v Australian Competition Tribunal (No 2) bear upon, but are not determinative of, the grounds of review raised by the Applications of Jemena (under the NEL) and ActewAGL (under the NGL) with respect to the return on debt topic.
ŸThe AER acknowledges that the ultimate conclusion it reached in its Final Decisions with respect to the return on debt topic for Jemena and ActewAGL was materially the same as the conclusion it reached in its Final Decisions for the NSW/ACT service providers, the subject of the Tribunal decision in Re Public Interest Advocacy Service and Ausgrid [2016] ACompT 1 (the Ausgrid Tribunal decision) and related decisions and the Full Court’s decision in AER v Australian Competition Tribunal (No 2).
ŸHowever, the reasoning in the two sets of decisions differs materially. Having received the adverse decision from the Tribunal in the NSW/ACT matters, the AER reconsidered the proper approach to the applicable rules on the return on debt topic for the Jemena and ActewAGL Final Decisions, including the economic considerations relevant to the applicable rules and the AER’s decision, and explained its reasons for decision in greater depth with reference to the economic principles that underlie the NER. In the Jemena and ActewAGL Final Decisions, the AER considered that the previously applied on-the-day methodology had provided ex-ante compensation for efficient financing costs (referred to as the NPV=0 condition), consistent with the ARORO (and the NEO/NGO and the revenue and pricing principles). The AER concluded that compliance with the ARORO requires the change of methodology to be implemented in a forward-looking manner so that the change was revenue neutral and did not affect the net present value of the future cash flows of the service providers through the PTRM (avoiding windfall gains or losses to the service provider and consumers). That conclusion was independent of, but consistent with, the considerations arising under NER cl 6.5.2(k)(4).
ŸAs recorded by the Tribunal in the Ausgrid Tribunal Decision, the primary errors asserted by the service providers on the part of the AER were adopting the concept of the benchmark efficient entity as a regulated entity and adopting a “one size fits all” benchmark efficient entity for the purposes of each of its decisions. The Tribunal found that once the step is taken of starting with a benchmark efficient entity that has the characteristics of a participant in a competitive market, the AER’s approach to transitioning the return on debt estimate, and the application of clause 6.5.2(k)(4), must be reconsidered.
ŸIn AER v Australian Competition Tribunal (No 2), the Full Court found no error in those conclusions of the Tribunal. The Full Court concluded that NER cl 6.5.2(c) does not, in terms, posit the benchmark efficient entity as either a regulated entity or an unregulated entity, although the degree of risk to be attributed to the benchmark efficient entity may be affected by the fact that the service provider’s provision of the relevant services is regulated. The Full Court concluded that clause 6.5.2(k)(4) contemplates the possibility that there may not be a single benchmark efficient entity; the Full Court also considered that, in light of the AER’s conceptualisation of efficient financing costs of a benchmark efficient entity in its reasons in the NSW/ACT matters, the AER had not identified any impacts from changing methodologies that would activate clause 6.5.2(k)(4).
ŸThe issues for determination in the present matter differ materially from the issues determined in the Ausgrid Tribunal Decision and AER v Australian Competition Tribunal (No 2). That is because the AER’s reasoning for its conclusion in the Jemena and ActewAGL Final Decisions differed materially from the NSW/ACT matters. As a consequence, the Applications for Review of Jemena and ActewAGL, while worded differently, raise the following common issues for determination:
a) the proper construction of the expression “efficient financing costs” within the allowed rate of return objective in NER clause 6.5.2(c) and “efficient costs” within the revenue and pricing principles in s 7A of the NEL;
b) the economic reasons for using prevailing rates (also referred to as the “on the day” methodology) in determining a return on debt (and the cost of capital more generally) and the economic reasons for changing to a trailing average methodology;
c) the economic consequences of changing from an “on the day” methodology to a trailing average methodology and whether the change, without a forward looking transition, would conflict with the NPV = 0 condition which underpins the building block framework prescribed by the NER;
d) the proper construction of NER cl 6.5.2(k)(4);
e) whether the AER was correct to have regard to the difficulties associated with historical debt data and the potential for bias in regulatory decision making;
f) whether the AER failed to consult with Jemena and ActewAGL with respect to its further reasoning for its return on debt decision.
The benchmark efficient entity issue
ŸActewAGL’s Application (but not Jemena’s Application) raises the issue of the proper characterisation of the benchmark efficient entity. ActewAGL contends that the AER erred because it characterised the benchmark efficient entity as a regulated entity, while it ought to have characterised it as an unregulated entity.
ŸThe AER acknowledges that the effect of the decision in AER v Australian Competition Tribunal (No 2) is that it was incorrect for the AER to characterise the benchmark efficient entity as regulated. However, that does not mean that ActewAGL has established a ground of review that would require the AER’s decision to be set aside. That is for the following interrelated reasons.
ŸFirst, ActewAGL’s ground of review is itself incorrect. The Full Court did not conclude that the benchmark efficient entity should be characterised as unregulated, as propounded by ActewAGL. Indeed, the Full Court recognised that the risks of regulation may affect the degree of risk that the benchmark efficient entity bears.
ŸSecond, the question whether the benchmark efficient entity is characterised as regulated or unregulated was not material to the AER’s Final Decision with respect to ActewAGL (or, for that matter, the other service providers before the Tribunal in the current matters). As explained above, the AER’s decision to adopt a forward-looking transition arose because this was the only option that it considered met the ARORO and the NEO/NGO. This decision did not depend on the conception of the benchmark efficient entity.
ŸThe AER specifically considered the character of the benchmark efficient entity in section H.1.2 of its reasons. In that section, the AER found that the relevant benchmark efficient entity was ‘a pure play, regulated energy network business operating within Australia’. The AER noted that a debate had now arisen with the service providers as to whether the benchmark efficient entity should be unregulated. The AER found that whether the benchmark efficient entity was regulated or unregulated made no difference to its ultimate conclusion on debt transition:
…even if a benchmark efficient entity was necessarily unregulated, we do not consider this would affect our conclusions. Our approach to the cost of debt would be applicable to an unregulated firm if it had a similar degree of risk to the service provider in providing regulated services. Further, irrespective of whether a firm is regulated or not, efficient financing costs reflect the current (or prevailing) forward looking costs observed in capital markets.
ŸThird, before granting any relief after a ground of review is established, the Tribunal must consider the materially preferable test set out in NGL s 259(4a). The Tribunal ought not be satisfied that a materially preferable NGO decision would be achieved by setting aside the AER’s decision and remitting the matter to the AER to take into account the correct characterisation of the benchmark efficient entity. Having regard to the AER’s expressed reasons as extracted in the preceding paragraph, the Tribunal can be satisfied that a change in the characterisation of the benchmark efficient entity would not alter the AER’s decision.
NER cl 6.5.2(k)(4) and NGR cl 87(11)(d)
ŸBoth the Jemena and ActewAGL Applications raise as an issue the proper construction of NER cl 6.5.2(k)(4) and NGR cl 87(11)(d).31
ŸIn AER v Australian Competition Tribunal (No 2), the Full Court considered the manner in which the Tribunal in the NSW/ACT matters had interpreted NER cl 6.5.2(k)(4) and concluded that there was no error in the Tribunal’s approach. However, for the following reasons, the Full Court’s decision does not determine the issues raised by Jemena and ActewAGL, nor the outcome of the “materially preferable test”.
ŸFirst, the Full Court was not required to provide, and did not provide, an exhaustive analysis of the meaning of clause 6.5.2(k)(4). Its task was narrower: to determine whether the Tribunal had erred in its construction of the clause in the light of the facts and issues raised before it.
ŸSecond, the Full Court was not required to consider, and did not consider, the specific issue raised in this matter: whether clause 6.5.2(k)(4) includes changes to revenue (positive or negative) that arise solely from a change in methodology and which would deviate (positively or negatively) from the recovery of efficient financing costs in accordance with the NPV=0 condition. While this matter was raised in grounds of review before the Tribunal in the Ausgrid matter, those grounds were not ultimately addressed by the Tribunal because it found error at an earlier point (the characterisation of the benchmark efficient entity). Accordingly, the issue was not considered by the Full Court.
ŸThird, the AER’s decision to adopt Option 2 (the transition) had regard to, but did not depend on, NER cl 6.5.2(k)(4) and NGR cl 87(11)(d). As noted above, the AER based its decision on the ARORO, and considered that that conclusion was consistent with NER cl 6.5.2(k)(4) and NGR cl 87(11)(d).
The Tribunal’s analysis
The Minister’s amended notice of intervention was relevantly in the following terms, omitting footnotes. In that notice, the acronym STPIS refers to the Service Target Performance Incentive Scheme. Rule 6.6.2 of the NER requires the AER to develop and publish, in accordance with the distribution consultation procedures, the service target performance incentive scheme. The references to “SAIDI” are to system average interruption duration index (SAIDI).
The Minister’s grounds of review
Productivity improvements
62.Ground 1: In applying a zero per cent productivity growth forecast, the AER made errors of fact in the following findings of fact in the final decisions:
(a)equating the Victorian DNSPs with DNSPs in NSW and the ACT. In doing so, the AER failed or neglected to consider and account for the differences between the Victorian DNSPs and DNSPs in NSW and the ACT, including that none of the DNSPs in NSW and the ACT have completed a rollout of AMI;
(b)relying upon the Economic Insights report Economic benchmarking of operating expenditure for NSW and ACT electricity DNSPs of October 2014 when that report was in respect of the OPEX of DNSPs in NSW and the ACT;
(c)equating the Victorian DNSPs with Ergon Energy Corporation Ltd, the regional DNSP in Queensland. In doing so, the AER failed or neglected to consider and account for the differences between the Victorian DNSPs and Ergon Energy, including that Ergon Energy has not completed a rollout of AMI;
and those errors of fact, either singly or in combination, were material to the making of the final decision.
63.Ground 2: Further or alternatively the AER’s decision applying a zero productivity growth forecast was unreasonable having regard to all the circumstances and/or the AER’s exercise of discretion to apply a zero productivity growth forecast was incorrect having regard to all the circumstances by reason of:
(a)equating the Victorian DNSPs with DNSPs in NSW and the ACT. In doing so, the AER failed or neglected to consider and account for the differences between the Victorian DNSPs and DNSPs in NSW and the ACT, including that none of the DNSPs in NSW and the ACT have completed a rollout of AMI;
(b)relying upon the Economic Insights report Economic benchmarking of operating expenditure for NSW and ACT electricity DNSPs of October 2014 when that report was in respect of the OPEX of DNSPs in NSW and the ACT;
(c)equating the Victorian DNSPs with Ergon Energy. In doing so, the AER failed or neglected to consider and account for the differences between the Victorian DNSPs and Ergon Energy, including that Ergon Energy has not completed a rollout of AMI;
(d)failing or neglecting to pay any or sufficient regard to the differences in productivity of DNSPs in Victoria arising from AMI being installed and operational in Victoria in the 2016 – 2020 regulatory control period;
(e)failing or neglecting to account for there being an ‘additional level of productivity growth’ in the 2016 – 2020 regulatory control period arising from AMI being installed and operational in Victoria in the 2016 – 2020 regulatory control period;
(f)noting that Economic Insights saw past declines in productivity as ‘abnormal’ and quoting Economic Insights opinion to the effect that those declines were (as the AER put it) ‘unlikely to reflect long term trends’, but then not applying a productivity growth percentage forecast that reflected those long term trends;
(g) rejecting the Minister’s submissions on the basis that:
(i) the Deloitte report was outdated;
(ii)the Deloitte report did not provide sufficient detail to accurately apply adjustments to the individual Victorian DNSPs;
(iii)the Minister had not provided the ‘recent review’ (being the Confidential AMI Benefits Report); and/or
(iv)the Minister had not identified how savings were allocated across DNSPs and the extent to which those savings were reflected in base OPEX,
when confidentiality claims by the DNSPs in respect of the ‘recent review’ and the information asymmetry between the Minister and the DNSPs meant that the Minister could not:
(i) provide the ‘recent review’; or
(ii)carry out the allocation of savings or identify the extent to which those savings were reflected in base OPEX,
and where the AER could (if it had not already done so), by using its powers under the NEL, itself obtain information to effect that allocation and identify the extent to which those savings were reflected in base OPEX for each DNSP.
64.Ground 3: The AER made errors of fact in the following findings of fact in the final decisions:
(a)finding that the benefits of AMI rollout were reflected in base OPEX for the year 2014 for the DNSPs;
(b)conflating benefits already accrued arising from AMI rollout with the ‘additional level of productivity growth’ (future productivity improvements) expected to arise from the use of AMI,
and those errors of fact, either singly or in combination, were material to the making of the final decision.
65.Ground 4: Further, or alternatively, the AER’s decision that the benefits of AMI rollout were reflected in base OPEX for the year 2014 was unreasonable having regard to all the circumstances and/or the AER’s exercise of discretion to decide that to benefits of AMI rollout were reflected in base OPEX for the year 2014 was incorrect having regard to all the circumstances by reason of:
(a)the AER not distinguishing (as it should have) between efficiencies that are captured in the base year 2014 and the future productivity improvements;
(b)the AER equating the two when it found that there has already been capture of efficiencies in the base year.
Reliability
66.Ground 5: The AER made errors of fact in the following findings of fact in the final decision:
(a)not modifying the performance targets, in particular (unplanned) SAIDI, to account for reliability benefits arising from the rollout of AMI;
(b)finding that the Deloitte report’s estimate of supply reliability improvements was not supported by the reported evidence on the basis that:
(i)only Jemena and AusNet had achieved performance improvement in the last regulatory control period; and
(ii)CitiPower, Powercor and United Energy had not reported improvement in supply reliability in the last regulatory control period (despite having achieved a high rate of AMI implementation) in the relatively short time frame between achieving a high rate of AMI implementation and the end of the last regulatory control period.
(c)failing or neglecting to consider future reliability improvements arising from the rollout of AMI;
(d)finding that the use of AMI does not result in a change in the duration of outages recorded for STPIS purposes on the basis that AMI only allows for faster outage detection but the response process is the same (ie that AMI only shifts the starting point of a response), when the Deloitte report had identified, and the Minister referred to, benefits arising from the AMI rollout involving faster supply restoration upon an outage being detected (ie the Deloitte report identified that the response process following the AMI rollout would not be the same) definition of (unplanned) SAIDI is one of duration from the start of the outage, not from the time of detection,
and those errors of fact, either singly or in combination, were material to the making of the final decision.
67.Ground 6: Further or alternatively, the following decisions of the AER were unreasonable having regard to all the circumstances and/or the AER’s exercise of discretion in making the following decisions was incorrect having regard to all the circumstances:
(a)not modifying the STPIS performance targets, in particular (unplanned) SAIDI to account for reliability benefits arising from the rollout of AMI;
(b)finding that the Deloitte report’s estimate of supply reliability improvements was not supported by the reported evidence on the basis that:
(i)only Jemena and AusNet had achieved performance improvement in the last regulatory control period; and
(ii)CitiPower, Powercor and United Energy had not reported improvement in supply reliability in the last regulatory control period (despite having achieved a high rate of AMI implementation) in the relatively short time frame between achieving a high rate of AMI implementation and the end of the last regulatory control period;
(c)failing or neglecting to consider future reliability improvements arising from the rollout of AMI;
(d)finding that the use of AMI does not result in a change in the duration of outages recorded for STPIS purposes on the basis that AMI only allows for faster outage detection but the response process is the same (ie that AMI only shifts the starting point of a response), when the Deloitte report had identified, and the Minister referred to, benefits arising from the AMI rollout involving faster supply restoration upon an outage being detected (ie the Deloitte report identified that the response process following the AMI rollout would not be the same)definition of (unplanned) SAIDI is one of duration from the start of the outage, not from the time of detection,
(e)failing or neglecting to consider that clause 6.6.2 of the NER requires that November 2009 STPIS is to provide incentives to ‘improve’ (as well as ‘maintain’) performance (clause 6.6.2(a)) although it must also take into account the past performance of the distribution network (clause 6.6.2(b)(3)(iii)); and
(f)failing or neglecting to consider clause 3.2.1(a) of the November 2009 STPIS, and in particular the future reliability improvements arising from AMI.
The submissions to the Tribunal
The Minister submitted, in summary, that the AER’s decision to adopt zero percent productivity growth for the Victorian DNSPs did not take into account the productivity improvements arising from the AMI rollout (Grounds 1, 2, 3 and 4).
Economic Insights’ advice was that zero should be adopted for NSW/ACT and Queensland DNSPs: the AER had adopted that advice to apply it in Victoria. This was done by the AER despite:
(a)that advice recognising that step changes could be netted out in Victoria;
(b)there being future productivity benefits arising from the rollout of AMI in Victoria;
(Grounds 2 and 3 for both).
The Economic Insights’ reports were not accepted by the Tribunal in Ausgrid.
The expenditure forecast assessment guideline recognised that in estimating frontier shift a “like for like” comparison was required, and that there should be an adjustment for technical change (which AMI rollout was) (Grounds 1 and 2).
The DNSPs having included AMI productivity benefits in their 2014 base year opex was not to point. The question was future productivity benefits. CitiPower/Powercor in their Reply asserted that they had included the benefits in base year opex. The benefits they identified were the avoided costs of no more accumulation meters, not the future productivity benefits of AMI (Grounds 3 and 4).
The AER was advised of the future productivity benefits but took no action to issue a regulatory information statement (RIN). Jemena had also told the AER that it was at the early stages of realising the benefits of AMI. That reinforced the need for a RIN. CitiPower/Powercor in their Reply asserted there was no duty on the AER to inquire, but the authorities they cited were under the Administrative Decisions (Judicial Review) Act 1977 (Cth). And those authorities recognised that a decision may miscarry if the decision maker does not make an obvious inquiry as to a critical fact. The AER was conferred with an express power to issue RINs. That sufficed to indicate the legislative intent: the AER must inquire (Ground 2).
Deloitte identified the reliability benefits.
The DNSPs having disputed the Deloitte report as outdated, the AER took no steps to make its own inquiries and made no adjustment to the STPIS targets on the basis that there was insufficient evidence. Again this was a matter that called for a RIN (Ground 6).
Further:
(a)Reliability benefits of AMI only arise in the last years of the rollout. The AER pointing to the DNSPs as having completed the rollout in 2013/14 but there being no reliability improvement shown was not to point, the time frame to assess this was too short;
(b)The AER did not address the faster restoration times identified by Deloitte.
(Grounds 5 and 7)
The CUAC supported the grounds of review raised by the Minister in relation to the productivity improvements arising from the roll out of AMI. The CUAC drew to the Tribunal’s attention the submissions made by VECUA, of which CUAC was a member, to the effect that the AER’s decision in its draft determinations to apply a productivity factor of zero was not supported by the evidence and would result in further declines in the distributors’ productivity levels. The CUAC supported the Minister’s submission that the AER erred in applying a zero per cent productivity growth forecast in its final determinations for the Victorian DNSPs. In particular, the CUAC supported the Minister’s submission that the mandatory rollout of AMI in Victoria had resulted in significant productivity improvements and/or efficiencies that will be realised by the Victorian DNSPs in the 2016-2020 regulatory period. The CUAC noted the evidence of present and future efficiencies in the DNSP regulatory proposals to the AER. Jemena explicitly forecast a productivity improvement of 0.89% per year in its opex over the 2016-2020 regulatory period. Although other Victorian DNSPs did not forecast productivity improvements, future efficiency benefits arising from the AMI rollout were nevertheless acknowledged. For instance, the regulatory proposals of both CitiPower and Powercor stated that they were already realising network benefits from their smart meter program and would continue to do so. CitiPower and Powercor stated that these network benefits provided long term benefits to their customers. The CUAC supported the Minister’s submissions to the effect that whatever option was selected for the transition to metering contestability, Victorian DNSPs will still be able to realise efficiency benefits from the installation of AMI and these should be passed on to consumers through the application of a positive productivity factor. The CUAC submitted the benefits outlined in the DNSPs’ own regulatory proposals were broadly indicative of an error in the AER’s decision not to apply a positive productivity factor.
The affected applicants, the Victorian DNSPs, submitted, in summary, that contrary to the contention of the Minister, the AER did not err in determining their forecast productivity growth on the basis that the rollout of AMI was unlikely to increase their productivity over the 2016-2020 period.
The principal reason was that, as the AER concluded, these DNSPs had substantially completed their rollout of AMI prior to the 2014 base-year upon which their opex forecast was based. Accordingly, the productivity benefits of the AMI rollout were already incorporated into their forecasts.
The Minister had also misunderstood the way that the AER determined forecast productivity growth for Victorian DNSPs. This was forecast on the basis of change in the efficiency frontier, not on a firm by firm basis. That approach was open to the AER and no error had been shown. That, it was submitted, answered both the Minister’s contention on AMI productivity, and her contention that the AER in determining the Victorian DNSPs’ forecast productivity growth, erred in failing to net out step changes which had affected their past opex performance. The Minister relied upon a report of Deloitte dated 2 August 2011. However that report was directed at identifying the overall societal benefits of AMI over the 2008 to 2028 period, and could not have been relied upon by the AER to identify a likely increase in productivity over the 2016-2020 period as a result of the AMI rollout.
The Minister also relied on a “Confidential AMI Benefits Report”. However, she did not supply that report to the AER. The AER was not obliged to collect further information on this topic in circumstances where no cogent submission had been made to it indicating that further information was required.
Contrary to the Minister’s contention, the AER did not err in deciding not to adjust STPIS targets for reliability improvements associated with AMI. Principally, that was because there was insufficient evidence before the AER to support the proposition that AMI would result in reliability improvements over the 2016-2020 period sufficient to justify an adjustment to the STPIS targets. In particular, that was because under the STPIS, outage times are measured from the time a DNSP detects an outage, rather than from when the outage commences. While AMI led to faster detection of outages, it did not necessarily improve outage response time.
The AER submitted, in summary, that the “confidential report” was never provided to it, even though it was requested. The AER had no record of having been informed that it was subject to a confidentiality claim. The AER submitted it did not err by not using its information-gathering powers. The AER was under no duty, in the circumstances, to exercise its compulsory information-gathering powers to obtain the information contained in the “confidential report”.
When forecasting productivity growth for the purposes of determining the rate of change for the calculation of opex, the AER submitted it used the forecast “shift in the productivity frontier” across the industry, rather than on a DNSP-specific or jurisdiction-specific basis.
The AER submitted it did not “equate” the Victorian DNSPs with DNSPs in New South Wales and the ACT; err in relying on a report by Economic Insights in respect of the opex of NSW/ACT DNSPs; or “equate” the Victorian DNSPs with Ergon Energy (a Queensland DNSP).
The AER noted that the Minister asserted that the AER should have netted out step changes for Victorian DNSPs when determining the “productive growth rate for Victoria”. The AER submitted that those submissions on the part of the Minister did not relate to any of the Minister’s grounds of review, nor was this issue raised in her submissions to the AER. Thus this issue could not now be raised before the Tribunal.
In any event, the AER submitted, it did not err in the manner that the Minister asserted.
Given the evidence before it, including features of the 2011 Deloitte report, the fact that the AMI roll-out was largely complete by 2014, and the DNSPs’ responses to the Minister’s submissions, the AER submitted it was open to it to estimate the productivity forecast as it did.
The AER submitted it did not equate efficiencies in base-year opex and future productivity improvements.
The AER submitted that its reference to AMI productivity benefits being captured by the EBSS did not disclose error.
As to the STPIS performance targets, the AER submitted that its decisions in relation to SAIDI targets were made under r 3.2.1(a) of the STPIS. The Minister’s submissions were based on figures postulated by Deloitte. Those figures were intermediate assumptions, unsupported by evidence or analysis. The AER was justified in not adjusting the SAIDI targets.
The AER submitted that if the Tribunal concluded that the AER committed any of the reviewable errors alleged by the Minister then the AER accepted that remitting the determinations in order to remedy those errors would result in a decision that was preferable to the original determinations in making a contribution to the achievement of the NEO.
In oral submissions, Senior Counsel for the Minister emphasised the Economic Insights report was done to benchmark opex expenditure for NSW and ACT DNSPs (on the contention that everything in the Economic Insights report was taken up and adopted by the AER); that an earlier Tribunal in Ausgrid rejected the efficacy of the Economic Insights report; step changes; the benefits from the rollout of smart meters in the 2011 Deloitte report; and the STPIS, particularly its reliability of supply component.
We note the observation made by Senior Counsel for the AER that much of the Minister’s submissions were irrelevant to the matters properly before the Tribunal as they did not relate to her submissions to the AER, raising a s 71O issue, and did not relate to the grounds of review set out in the notice of intervention.
In oral submissions, Senior Counsel for CitiPower and Powercor submitted that the Minister’s grounds of review contained two discrete topics: the first, contained in grounds 1 to 4 of the Minister’s notice of intervention, concerned the subject of productivity improvements, and that was directed towards the AER’s productivity growth forecast which was an integer in the calculation of opex for standard control services. The second topic, contained in grounds 4 and 5 of the Minister’s notice of intervention, in many ways discrete from the first, concerned the reliability benefits, the STPIS grounds. As to the first topic, Senior Counsel submitted that the short answer was that the AER accepted, for good reason, that the rollout of smart meters did not produce any expected additional opex efficiency gains in the regulatory control period: the efficiency gains were built into the base opex for the applicants and passed through to consumers via that mechanism and future benefits were anticipated to involve capex but no addition to opex. As to the second topic, Senior Counsel submitted the short answer was that there was no evidence before the AER that the smart meter rollout would be expected to result in a material improvement in supply reliability in respect of unplanned SAIDI.
Senior Counsel for Jemena adopted those submissions. He submitted that the relevant meters had been rolled out substantially, almost entirely, prior to the relevant base year and, therefore, any efficiency benefits that would be obtained from the meters had been picked up by that base year. He further submitted that the Minister had conflated opex efficiencies that arose from matters as they stood at the commencement of the regulatory control period, and any potential further benefits that could only arise if the business in question undertook some additional program, not part of its capex forecast, which the AER had reviewed and approved. Any opex benefits associated with that entirely new initiative, and that resulted from the program, would appropriately be covered by the EBSS.
Counsel for United Energy adopted the preceding submissions.
Senior Counsel for AusNet also adopted those submissions. He added that, with one exception, the findings of fact complained of in the Minister’s grounds were generally methodological choices, value judgements or opinions made or formed by the AER which were open to it.
In oral submissions, Senior Counsel for the AER submitted there were two key questions arising in relation to the Minister’s AMI grounds. The first was whether there was any or any sufficient evidence before the AER to justify altering its views on productivity growth on account of the AMI rollout, both in relation to productivity relevant to opex and the effect on reliability relevant to the setting of targets under the STPIS. The second, partially related, question was whether the AER had any duty to inquire or investigate in response to the Minister’s submissions which adverted to a recent review that the Department had undertaken but had not provided.
We now turn to consider these submissions.
The Tribunal’s analysis
The subject matter here is forecasting productivity growth. We find that the AER did not make the errors for which the Minister contended. In our opinion, the AER did not equate the Victorian DNSPs with either the NSW and ACT DNSPs or with Ergon Energy. The Tribunal finds that what the AER was describing and doing in its distribution determinations was to set its forecast rate of productivity growth consistently as a matter of approach, relevantly by reference to the recently observed productivity trend of firms at or near the efficient frontier nationally. As submitted on behalf of the AER, the “efficient frontier” referred to the grouping of the most-efficient DNSPs across the national electricity market, against which the AER benchmarked the efficiency of all DNSPs’ base-year opex. As further submitted, in turn the “catch up to the frontier” corresponded to the reduction that the AER made to a DNSP’s revealed base-year opex, if it was found to be materially inefficient: that was the “efficiency adjustment” term of the opex formula. Fundamentally, as submitted by the parties opposing the Minister’s contentions, the AER’s productivity growth forecast used in determining the rate of change was directed to the efficient frontier, rather than to individual DNSPs or jurisdictions. We reject the submission put by the Minister that the AER should have made a jurisdiction-specific productivity growth forecast.
Despite the emphasis which Senior Counsel for the Minister placed on the Economic Insights report, we do not regard the parts of that report which were concerned with the adjustments to base year opex of the New South Wales and ACT distributors as relevant to the exercise that the AER was undertaking.
Also, in relation to the Economic Insights report, the Tribunal does not accept the Minister’s submission that the AER adopted the reasoning in that report so as to incorporate that reasoning as the AER’s reasoning. Put differently, in the Tribunal’s view, the references in the AER’s decisions in relation to the Victorian DNSPs to the Economic Insights report does not mean that the AER incorporated the entirety of the reasoning in that report, especially that part of the report dealing with catch-up for the NSW and ACT DNSPs.
Next, the Tribunal sees no basis for concluding that the AER’s not exercising its information gathering powers under the NEL, to obtain the information upon which the Department’s Review was based, was itself a reviewable error or caused the Final Decisions to be unreasonable or caused the incorrect exercise of discretion.
The relevant provision is s 28F of the NEL which provided, relevantly, that “the AER, if it considers it reasonably necessary for the performance or exercise of its functions or powers under this Law or the Rules, may …” serve a regulatory information notice. It follows from the terms of the provision that there is no duty to exercise the power and the AER has a discretion whether or not to serve a RIN and to do so where it considers it reasonably necessary to do so for its statutory functions or powers. We refer also to the terms of s 28J and 28K of the NEL which impose procedural and other requirements. The former section requires the AER to give the regulated network service provider an opportunity to make written representations as to whether the AER should serve a RIN on it.
The Tribunal finds that it was a case where no version of the Department’s Review was provided to the AER and that the now asserted reason for that non-provision, confidentiality, was not then made out. Indeed it is not now made out. The Tribunal also finds and notes that no redacted version of the Department’s Review was offered or provided to the AER, as one would expect if a confidentiality claim were made. The Tribunal finds it was not suggested to the AER that it might use its powers under the NEL to obtain that Review report.
Since, as the Tribunal finds, the Department’s Review was not provided to the AER and the AER did not know what the Review contained, the AER made no error either in not obtaining it or in not taking it into account. The Tribunal finds that there was no failure on the part of the AER to make an obvious enquiry as to a critical fact: compare the legal regime and the facts considered in Minister for Immigration and Citizenship v SZIAI [2009] HCA 39; 259 ALR 429. We find that the Minister’s grounds of intervention fail in this respect.
The Tribunal sees no error in the way in which the AER treated the 2011 Deloitte report. How that report might be used is a matter on which differences of opinion may reasonably be held. The AER in its final decision gave reasons for concluding that the information set out in the 2011 Deloitte report was inadequate. The AER said as follows:
We have considered the evidence provided to us and are satisfied that any future benefits arising from the AMI rollout will not materially impact standard control services opex. We are satisfied that base opex sufficiently captures the benefits of the AMI rollout, as they relate to standard control services opex, because the AMI meters were largely rolled out by the start of the base year.
and:
We are satisfied that the majority of the benefits of the AMI rollout that relate to AusNet Services’ standard control services opex are already reflected in its base opex. We are satisfied that the future benefits of the AMI rollout will primarily relate to capex, rather than opex. …
While there could be some minor opex benefits, based on the available information, it is unclear whether base opex already reflects these minor benefits. We do not think the available information provides a basis to make any adjustment for these minor benefits.
It is also to be noted that the Deloitte report was made in 2011 and dealt with the period from 2008 to 2028. The Tribunal does not regard it as a solid basis on which to forecast productivity growth for the period 2016 to 2020. We also note the cogent submissions made by the DNSPs as to why the Deloitte report should not be relied on by the AER to adjust its productivity forecast.
The Tribunal sees no error in the conclusion of the AER that the Deloitte report constituted insufficient material for the AER to adjust its productivity forecast for the Victorian DNSPs.
We have considered the 2011 Deloitte report, especially figure 4.10 on page 83. We accept the AER’s submission that by 2014, the yellow band, relating to the “other smaller benefits” had expanded to substantially its full height and, therefore, that Deloitte’s modelling in its report appeared to indicate that the “other smaller benefits” from the AMI rollout were expected to have been realised by 2014, the base year. We note that the Minister relied on part only of the “other smaller benefits”.
The Tribunal does not accept the Minister’s submission that the AER erred in conflating accrued productivity benefits with future productivity benefits or that this reflected a “conceptual confusion” fundamental to the AER’s decision, as the Minister contended.
We do not accept the Minister’s submission that the AER erroneously decided that the DNSPs should not be rewarded through the EBSS for productivity improvements arising from the rollout of AMI, but that AMI efficiencies should be passed on to customers by adjusting the productivity growth forecast. In our opinion the statement by the AER that “any benefits that have not yet been realised will be shared with consumers through our revealed cost forecasting framework and the EBSS” was an immaterial observation, the AER having already concluded that it was not satisfied that there were any future productivity benefits that were not already reflected in the 2014 base year opex.
Insofar as the Minister’s criticised the AER for not having regard to step changes, in our opinion it is clear that the Minister did not make any submissions to the AER about this and neither did the Minister include that matter in the notice of intervention. Section 71O(2)(c) of the NEL has the effect that the Minister “may not raise in relation to the issue of whether a ground for review exists or has been made out” that matter as it was not raised by the Minister in a submission to the AER before the reviewable regulatory decision was made. In our view although it may be a matter of judgement in some cases as to the specificity with which a matter is required to be raised, in the present case raising productivity as a general topic does not have the effect that netting out step changes may now be raised. Section 71P(2b)(a) is not relevant because that provision deals with the consequences of error rather than the identification of error.
In any event, we do not find that the AER made such an error. The Tribunal finds that the AER addressed the effects of and did have regard to past step changes, for example at pages 7-70 of each of the CitiPower/Powercor Preliminary Decisions.
The Minister’s grounds of review, grounds 5 and 6, then turned to the issue of reliability.
The Minister submitted that the AER decision not to adjust the SAIDI target in light of asserted AMI benefits was not justified. In our opinion, this ground turns on competing understandings of the 2011 Deloitte report. We conclude that the AER’s understanding of that report did not involve any relevant error. We see no error in the AER’s understanding that the Deloitte report had a limited purpose, being to compare the relative cost-benefit analysis of removing the government mandate for the AMI rollout from 31 December 2011, as opposed to continuing the AMI program beyond 1 January 2012. That cost-benefit comparison was performed by reference to the forecast costs and benefits of the program across the 20 year period from 2008-2028. The assessments made as to percentage SAIDI improvement rates were merely intermediate assumptions that Deloitte applied, to provide a monetary quantification of the value of faster outage detection and restoration times on the DNSPs’ low voltage systems. We find no error in the AER’s conclusion that the empirical evidence before it did not accord with the assumptions in the 2011 Deloitte report. Whether the reliability benefits were “expected to result in a material improvement in supply reliability” as reported by Deloitte was otherwise a matter for the AER’s judgement.
The Minister also submitted, with reference to the 2011 Deloitte report, that the AER erred by failing to refer to the benefits associated with faster response times, rather than faster detection times. We can discern no reviewable error in this respect. There is no separate quantification in the Deloitte report of the claimed faster response times benefits. That report itself said that the anticipated benefits in relation to faster restoration of supply were “unlikely to significantly reduce SAIDI results” and were “difficult to quantify”. The response-time component of the reliability improvements were assumed by Deloitte.
The Minister contended that the AER, when making the distribution determinations, failed to discharge its obligation under r 6.6.2(a) of the NER to provide incentives to maintain and improve reliability performance. However r 6.6.2(a) relates to the AER making the STPIS, not to the making of a distribution determination. The Tribunal sees no basis for the Minister’s contention.
CONCLUSION AND DETERMINATION
The Tribunal affirms the reviewable regulatory decisions.
I certify that the preceding five hundred and fifty-six (556) numbered paragraphs are a true copy of the Reasons for Determination herein of the Honourable Justice Robertson, Mr RF Shogren, Dr DR Abraham .
Associate:
Dated: 17 October 2017
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