Australian Gas Light Company v Australian Competition and Consumer Commission

[2003] FCA 1525

FEDERAL COURT OF AUSTRALIA

Australian Gas Light Company (ACN 052 167 405) v Australian Competition & Consumer Commission (No 3) [2003] FCA 1525

CORRIGENDUM

THE AUSTRALIAN GAS LIGHT COMPANY (ACN 052 167 405 v AUSTRALIAN COMPETITION AND CONSUMER COMMISSION, GREAT ENERGY ALLIANCE CORPORATION PTY LIMITED (ACN 105 266 028) and GEAC OPERATIONS PTY LIMITED (ACN 105 367 888)
V880 of 2003

FRENCH J
19 DECEMBER 2003 (Corrigendum dated 8 January 2004)
PERTH (Heard in Melbourne)

IN THE FEDERAL COURT OF AUSTRALIA
VICTORIA DISTRICT REGISTRY	V880 OF 2003

BETWEEN:

AUSTRALIAN GAS LIGHT COMPANY
(ACN 052 167 405)
APPLICANT

AND:

AUSTRALIAN COMPETITION AND CONSUMER COMMISSION
FIRST RESPONDENT

GREAT ENERGY ALLIANCE CORPORATION PTY LIMITED (ACN 105 266 028)
SECOND RESPONDENT

GEAC OPERATIONS PTY LIMITED
(ACN 105 367 888)
THIRD RESPONDENT

JUDGE:	FRENCH J
DATE:	19 DECEMBER 2003 (Corrigendum dated 8 January 2004)
PLACE:	PERTH (Heard in Melbourne)

CORRIGENDUM

1.        Page 3, paragrapha 9, line 7 – delete ‘on’ after ‘so’.

2.        Page 51, paragraph 142, line 4  - substitute ‘Ratio’ for ‘Ration’.

3.        Page 82, paragraph 216, line 3 – substitute ‘best’ for ‘bests’.

4.        Page 100, paragraph 271, line 1 – substitute ‘ACCC’ for ‘AGL’.

5.        Page 139, paragraph 356, line 2 – substitute ‘fact’ for ‘facts’.

6.Page 140, paragraph 140, subparagraph 1, line 4 – insert ‘increased’ before ‘spot prices’.

7.Page 146, paragraph 374, line 1 – insert ‘that’ after ‘accept’ and line 2 substitute ‘in deference’ for ‘indifference’.

8.Page 193, paragraph 498, line 6 – substitute ‘informs’ for ‘inform’.

I certify that the preceding eight

(8) numbered paragraphs are a

true copy of the Corrigendum to the

Reasons for Judgment of his Honour

Justice French:

Associate:

Date:8 January 2004

FEDERAL COURT OF AUSTRALIA

Australian Gas Light Company (ACN 052 167 405) v Australian Competition & Consumer Commission (No 3) [2003] FCA 1525

TRADE PRACTICES – mergers and acquisitions – partial acquisition of electricity wholesaler by electricity retailer – whether likely to have effect of substantially lessening competition in a market – National Electricity Market – whether wholesale market in electricity and derivative contracts – whether separate wholesale markets in electricity and derivative contracts – geographic scope – temporal sub-markets – inter-regional supply constraints - retail markets for delivery of electricity to end users – market transactions governed by bidding, dispatch and pool pricing – auction system – pool price volatility – necessity for hedging through derivative contracts – acquisition of partial interest in generator creating natural hedge for retailer – whether retailer likely to reduce hedge contract cover – whether generator with greater exposure to spot price more likely to exercise market power increasing price bids – apprehended cascade of vertical integration – raised barriers to entry into wholesale and retail markets – market foreclosure – market characteristics – application by retailer for declaration of non-contravention of s 50 – onus of proof – ‘likely’ – ‘substantial lessening of competition’ – nature of threshold test – declaratory relief – discretionary factors – whether authorisation proper alternative – differences between administrative authorisation and judicial declaration – whether application for declaration confers illegitimate forensic advantage on applicant – whether deprives regulator of legitimate forensic advantage – declaration granted – subject to undertaking to Court previously offered to ACCC 

Trade Practices Act 1974 (Cth) s 50, s 87B, s4, s 163A
National Electricity (South Australia) Act 1996 (SA) s 6
National Electricity (Victoria) Act 1997 (Vic) s 6
National Electricity (New South Wales) Act 1977 (NSW) s 6
Electricity - National Scheme (Queensland) Act 1997 (Qld) s 6
Electricity (National Scheme) Act 1997(ACT) s 5
Electricity Industry Act 1993  (Vic)
Electricity Industry Act 2000 (Vic)
Electricity Industry Legislation (Miscellaneous Amendments) Act 2000
Electricity Industry (Residual Provisions) Act 1993 (Vic)
Office of the Regulator-General Act 1994 (Vic)
Essential Services Commission Act 2001 (Vic)
Judiciary Act 1903(Cth) s 39B(1A)
Federal Court of Australia Act 1976 (Cth) s 21, s 23.
Electricity Industry (Prohibited Interests) Regulations 2003

Australian Gas Light Company (ACN 052 167 405) v Australian Competition & Consumer Commission (No 2) [2003] FCA 1229 cited
Re Queensland Co-operative Milling Association; Re Defiance Holdings Ltd (1976) 25 FLR 169 applied
Re Howard Smith Industries Pty Ltd (1977) 15 ALR 645 cited
Outboard Marine Australia Pty Ltd v Hecar Investments (No 6) Pty Ltd (1982) 44 ALR 667 cited
Broken Hill Pty Co Ltd v Trade Practices Tribunal (1980) 31 ALR 401 cited
Tilmanns Butcheries Pty Ltd v Australasian Meat Industry Employees Union (1979) 42 FLR 331 discussed
Global Sportsman Pty Ltd v Mirror Newspapers Pty Ltd (1984) 2 FCR 82 cited
News Limited v Australian Rugby League Football Ltd (1996) 64 FCR 410 cited
Munro Topple & Associates Pty Ltd v Institute of Chartered Accountants in Australia (2002) 122 FCR 110 discussed
Trade Practices Commission v Ansett Transport Industries (Operations) Pty Ltd (1978) 32 FLR 305 cited
Radio 2 UE Sydney Pty Ltd v Stereo FM Pty Ltd (1982) 62 FLR 437 cited
Trade Practices Commission v Australian Iron and Steel Pty Ltd (1990) 22 FCR 305 cited
Rural Press Limited v Australian Competition and Consumer Commission [2003] HCA 75 applied
Stirling Harbour Services Pty Ltd v Bunbury Port Authority (2000) ATPR 41-752 cited
Universal Music Australia Pty Ltd v Australian Competition and Consumer Commission (2003) 201 ALR 636 cited
Dandy Power Equipment Pty Ltd v Mercury Marine Pty Ltd (1982) 64 FLR 238 followed
Sellars v Adelaide Petroleum NL (1994) 179 CLR 332 cited
Norwest Refrigeration Services Pty Ltd v Bain Dawes (WA) Pty Ltd (1984) 157 CLR 149 cited
Whitehouse v Carlton Hotel Property Ltd     ` (1987) 162 CLR 285 cited
Levine Clark [1962] NSWR 686 cited
Re Broadcasting Station 2GB Pty Ltd [1964-5] NSWR 1648
Berlei Hestia (NZ) Ltd v Fernyhough [1980] 2 NZLR 150
Abrasive Materials Pty Ltd v Australian Fused Materials Pty Ltd (1998) 16 ACLC 1172 cited
Singapore Airlines Ltd v Taprobane Tours WA Pty Ltd (1991) 33 FCR 158 cited
Queensland Wire Industries Pty Ltd v The Broken Hill Pty Co Ltd (1988-89) 167 CLR 177 cited
QIW Retailers Ltd v Davids Holdings Pty Ltd (No 3) (1993) 42 FCR 255 cited
Re Tooth Co Ltd and Tooheys Ltd (1979) 39 FLR 1 applied
Commonwealth v Stirling Nicholas Duty Free Pty Ltd (1972) 126 CLR 297 cited
Bass v Permanent Trustee Company Ltd (1999) 198 CLR 334 cited

THE AUSTRALIAN GAS LIGHT COMPANY (ACN 052 167 405 v AUSTRALIAN COMPETITION AND CONSUMER COMMISSION, GREAT ENERGY ALLIANCE CORPORATION PTY LIMITED (ACN 105 266 028) and GEAC OPERATIONS PTY LIMITED (ACN 105 367 888)
V880 OF 2003

FRENCH J
19 DECEMBER 2003
PERTH (Heard in Melbourne)

IN THE FEDERAL COURT OF AUSTRALIA
VICTORIA DISTRICT REGISTRY	V880 OF 2003

BETWEEN:

AUSTRALIAN GAS LIGHT COMPANY
(ACN 052 167 405)
APPLICANT

AND:

AUSTRALIAN COMPETITION AND CONSUMER COMMISSION
FIRST RESPONDENT

GREAT ENERGY ALLIANCE CORPORATION PTY LIMITED (ACN 105 266 028)
SECOND RESPONDENT

GEAC OPERATIONS PTY LIMITED
(ACN 105 367 888)
THIRD RESPONDENT

JUDGE:

FRENCH J

DATE OF ORDER:

19 DECEMBER 2003

WHERE MADE:

PERTH (Heard in Melbourne)

THE COURT ORDERS THAT:

1.Subject to the Australian Gas Light Company giving to the Court an undertaking in the terms annexed to these orders the Court HEREBY DECLARES that none of the following acquisitions of shares in bodies corporate would have the effect or be likely to have the effect of substantially lessening competition in a market in contravention of s 50 of the Trade Practices Act 1974 (Cth):

(a)the acquisition by the Australian Gas Light Company (AGL) of shares in Great Energy Alliance Corporation Pty Ltd (GEAC) pursuant to the GEAC Subscription Deed  dated 3 July 2003;

(b)the acquisition by GEAC Operations Pty Ltd (GEAC OpCo), a wholly owned subsidiary of GEAC, of the Loy Yang Sale Shares (as that term is defined in the Statement of Claim);

(c)the acquisition by AGL of shares in GEAC pursuant to the GEAC Subscription Deed dated 3 July 2003 in combination with the acquisition by GEAC OpCo of the Loy Yang Sale Shares.

2.The undertaking referred to in Order 1 will be discharged upon written notice to the Court signed by both parties that the ACCC has accepted an undertaking from AGL by way of renewal or variation of or substitution for the undertaking last offered to it by AGL.

3.AGL has liberty to apply to the Court upon reasonable prior written notice to the ACCC to discharge or vary the undertaking.

4.The ACCC is to pay AGL’s costs of this application.

Note:Settlement and entry of orders is dealt with in Order 36 of the Federal Court Rules.

ANNEXURE TO ORDER
UNDERTAKING UPON WHICH DECLARATION IS MADE

1.        BACKGROUND

1.1A consortium comprising The Australian Gas Light Company Limited (AGL), The Tokyo Electric Power Company, Incorporated (TEPCO) and certain financial investors including the Commonwealth Bank of Australia (Financial Investors) propose to acquire the electricity generation business in Victoria currently conducted by the partners in the Loy Yang Power Partnership and known as Loy Yang A, with AGL holding a 35% interest, the Financial Investors holding a 30% interest and TEPCO holding a 35% interest in that business.

1.2This Undertaking has been given to the Commission and/or the Court in order to facilitate the acquisition by the consortium referred to in clause 1.1 of Loy Yang A on the basis outlined in clause 1.1.

2.DEFINITIONS

Act means the Trade Practices Act 1974 (Cth).

AGL means The Australian Gas Light Company ABN 95052 167 405 and/or its Related Bodies Corporate.

Aggregate Information means any information:

(a)derived from Confidential Generator Information or Confidential Customer Information (such as a sum, average, statistical analysis, comparison or general qualitative description); but

(b)from which the underlying Confidential Generator Information or Confidential Customer Information cannot reasonably be derived or ascertained.

Business Day means a day other than a Saturday, Sunday or public holiday in Victoria.

Commission means the Australian Competition and Consumer Commission.

Confidential Customer Information means the details (including identity of each counter-party, price, term and volume) of any specific Customer Contracts with the Marketing Management Company, but excluding:

(a)       information which is generally known; and

(b)       AGL’s own Customer Contracts with the Marketing Management Company.

Court means the Federal Court of Australia.

Customer Contract means an electricity derivative contract or power purchase agreement:

(a)       entered into by the Market Management Company; or

(b)considered, proposed or likely to be entered into by the Market Management Company.

Confidential Generator Information means:

(a)details (including identity of each counter-party, price, term and volume) of Dispatch and Marketing Activities; and

(b)details (including quantities, dates and times) of any reductions or expected reductions in the availability of the Loy Yang plant to less than the plant’s Registered Capacity,

but excluding information which is generally known.

Confidentiality Regime means the arrangements described in paragraph 3.6.

Consortium means the structure by which the Consortium Members hold interests in the Loy Yang Business, from time to time.

Consortium Members means The Australian Gas Light Company, Tokyo Electric Power Company and the Financial Investors, or any of their Related Bodies Corporate or successors.

Dispatch and Marketing Activities means:

(a)the determination and management of the scheduling of available capacity at the Loy Yang Plant;

(b)the determination and management of trading, dispatch and re-bidding and contracting strategies;

(c)the placement of dispatch offers and re-bids;

(d)entering into Customer Contracts; and

(e)regulatory policy and dealings with relevant economic and competition regulators (including any issues arising under the National Electricity Code or the Act) for the Loy Yang Business.

Economic Interest

(a)means interests in a company or partnership, including, shares, voting rights, rights to receive dividends, rights to receive other distributions of income or capital, rights to receive a share of proceeds on winding up; but

(b)excludes:

(i)rights to purchase the interest in the Loy Yang Business or the Loy Yang Assets of a Consortium Member seeking to divest its interest the exercise of which are subject to AGL obtaining approval (on a formal or informal basis) from the Commission or the Australian Competition Tribunal; and

(ii)any rights AGL has to prevent approval of decisions in respect of Permitted Matters.

Financial Investors means Commonwealth Bank of Australia or other equity investors in the Loy Yang Business.

Intermediary has the meaning given in the National Electricity Code.

Loy Yang Assets means the electricity generating plant and the coal mine used in the operation of the Loy Yang Business.

Loy Yang Business means the electricity generation business operating in Victoria, known as Loy Yang A.

Loy Yang Consortium Agreements means a Shareholders Agreement, a Partnership Agreement, and any other arrangements between the Consortium Members (or their Related Bodies Corporate) or between entities which manage the Loy Yang Business.

Loy Yang Plant means the electricity generating plant used in the operation of the Loy Yang Business.

Market Management Company means a company appointed in accordance with clause 3.2(a).

NEM means National Electricity Market.

Permitted Matters means the arrangements described in paragraph 3.4.

Related Bodies Corporate has the meaning given in sub-section 4A(5) of the Act.

Risk Management Policy has the meaning given to it in Appendix A.

3.        UNDERTAKINGS

3.1AGL undertakes that the combined Economic Interest of AGL in the Loy Yang Assets and/or the Loy Yang Business will not exceed 35%.

3.2AGL undertakes that the Loy Yang Consortium Agreements, which it will enter into with the Consortium Members, will require the following arrangements regarding the governance of the Loy Yang Business to be put in place and maintained until these Undertakings cease:

(a)the Consortium Members will appoint or will procure the appointment of a company (Marketing Management Company) which will be solely responsible for undertaking Dispatch and Marketing Activities as the agent of the Consortium Members.

(b)AGL will be prohibited from having any Economic Interest in the Marketing Management Company.  It also will not enter into any contracts, arrangements or understandings with the shareholders of the Marketing Management Company which would in effect confer on it such an Economic Interest.

(c)The terms upon which the Marketing Management Company is appointed in respect of the matters in paragraph (a) will include a requirement that any dealings between it and AGL are to be conducted at arms length.

(d)AGL will not participate in the appointment or supervision of the executive management of the Marketing Management Company.

(e)For the avoidance of doubt Dispatch and Marketing Activities which the Marketing Management Company undertakes as the agent of the Consortium Members will not give rise to a contravention of this undertaking provided that paragraphs 3.2(a) to (d) are otherwise complied with.

3.3AGL undertakes not to be otherwise involved in:

(a)       the Dispatch and Marketing Activities of the Loy Yang Business; or

(b)any board or management decision-making (including at the level at which AGL holds its Economic Interest in the Loy Yang Business  or at the Marketing Management Company level) in respect of Dispatch and Marketing Activities,

in each case except in so far as the subject matter of the decision-making involves a Permitted Matter.

3.4For the avoidance of doubt, the Consortium Agreements may provide that certain specific matters relating to the conduct of the Loy Yang Business require the agreement and/or participation of AGL.  Those matters are (Permitted Matters):

(a)the financing and capital structure of the Loy Yang Business;

(b)variations to the structure by which the Consortium Members hold interests in the Loy Yang Business;

(c)expansion of the Loy Yang Business and acquisitions, construction and disposals of substantial assets;

(d)appointment or change of auditors for the Loy Yang Business;

(e)distribution policy of the Loy Yang Business;

(f)key corporate changes, including a merger, trade sale, initial public offering, dissolution, suspension or winding up of the Loy Yang Business or constitutional amendments in respect of the Loy Yang Business, except in circumstances where that event would case AGL to breach paragraphs 3.1, 3.2 and 3.3 of these Undertakings;

(g)annual budgets (including capital and operating expenditure) and approvals of expenditures and liabilities outside of budget of the Loy Yang Business;

(h)the Risk Management Policy of the Loy Yang Business;

(i)environmental policies, occupational health and safety policies and industrial relations policies of the Loy Yang Business; and

(j)commencing, defending or settling claims of the Loy Yang Business.

3.5For the avoidance of doubt, AGL may hold an Economic Interest not exceeding 35% in a company which provides the following services to the Loy Yang Business:

(a)management, labour, engineering and other services for the physical day-to-day operation and maintenance of the Loy Yang Assets; and

(b)services in relation to the matters referred to in paragraph 3.4(i).

3.6AGL undertakes that the Loy Yang Consortium Agreements will make provision for the adoption of, and compliance with, a Confidentiality Regime which prohibits AGL having access to:

(a)Confidential Customer Information; and

(b)Confidential Generator Information.

For the avoidance of doubt the Confidentiality Regime does not preclude AGL from having access to Aggregate Information reasonably necessary for AGL to assess compliance with policies regarding Permitted Matters, so long as AGL uses the Aggregate Information solely for the purpose of assessing compliance with policies regarding Permitted Matters.

3.7Notwithstanding paragraph 3.6, if a company is appointed pursuant to paragraph 3.5 then:

(a)paragraph 3.6 does not apply in respect of information which falls within paragraph (b) of the definition of Confidential Generator Information provided to any director appointed by AGL to that company; but only if

(b)any such director has provided a written undertaking to not disclose to AGL, its officers, employees or agents any confidential information within paragraph (b) of the definition of Confidential Generator Information.

APPENDIX A TO AGL UNDERTAKING

RISK MANAGEMENT POLICY

The term Risk Management Policy, in the context of an electricity generation business, means a policy document which has the following characteristics:

1.It is a document which records a formal policy adopted by the highest governance body within a business entity (for example a Board of Directors or Partnership Committee).

2.Its purpose is to preserve the value of the business’s assets and ability to deliver budgeted outcomes by:

(a)setting global limits and controls on the business’s exposure to; and

(b)establishing the internal governance structure and management philosophy for managing,

specific categories of business risk.

3.The specific risk areas dealt with would include:

(a)major asset (physical) risk (for example risks of losses arising from poor maintenance on key productive asserts (turbines));

(b)trading risks (price, volume and credit risk) (for example risk of losses from or total contract portfolio exceeding available plant capacity or a disproportionate exposure to spot prices);

(c)operational risk (for example breakdown in human resources, processes or technology); and

(d)legal and compliance risk (for example poor contract management systems, absence of compliance with Trade Practices Act, Corporations Act or National Electricity Code).

4.The global limits and controls may be quantitative or qualitative in nature and would operate to limit or control the total level of risk (often measured in financial terms) that a specific business activity or division may incur.  For example:

(a)trading risk (price and volume) may be subject to limits on the proportion of financial budget forecasts which may be put at risk as a consequence of contract portfolio exceeding available plant capacity or a disproportionate exposure to spot prices;

(b)credit risk (counterparty default risk) would be subject to limits on the financial exposure to counterparties of varying categories of credit worthiness; and

(c)legal contract risk would be subject to requirements on use of ISDA pro forma contracts and ISDA optional force majeure clauses in those contracts.

5.The internal governance structure and management philosophy for managing risks would provide for:

(a)organisational structures which segregated relevant functions (such as staff responsible for trading, transaction confirmation, settlements, risk management, accounting and financial reporting, and internal audit); and

(b)delegations of authorities regarding activities with exposure to specified risks and allocations of responsibility for risk management functions.

6.In relation to trading, credit and legal risk the Risk Management Policy would provide for the delegation to a Risk Management Committee responsibility:

(a)for overseeing risk management operations and procedures (within the parameters of the Risk Management Policy) of activities involving energy market exposure; and

(b)for setting individual trader limits.

7.A Risk Management Policy is not a Risk Management Framework.  A Risk Management Framework, in the context of an electricity generation business, would:

(a)be approved by the Risk Management Committee; and

(b)specify the management procedures, rules and specific controls for implementing the Risk Management Policy.

Index

Introduction  1 - 10

Electricity – A Special Kind of Product             12 – 19

The National Electricity Market – History

and Origins  20– 49

Outline of the National Electricity Market  50 – 52

The Operation of the NEM – Generation of Electricity        53 - 66

The Operation of the NEM – Transmission  67 - 77

The Operation of the NEM – Distribution of Electricity       78 – 80

The Operation of the NEM – Retail Supply of

Electricity  81 – 95

The Operation of the NEM – Demand   96 – 101

The Operation of the NEM – Bidding, Pricing

and Dispatch  102 – 119

The Operation of the NEM – Spot Price Volatility               120 - 123

Operation of the NEM – Hedging Arrangements

And Electricity Derivative Contracts  124 - 129

The Operation of the NEM – Inter-regional

Hedging and Inter-regional Settlement Residue

Auctions  130 – 133

The Loy Yang Power Station and Coal Mine  134 - 137

The Loy Yang Power Station – Original

Acquisition and Financing – 1997  138 – 140

The Loy Yang Power Station – Existing

Security Arrangements  141 – 144

The Loy Yang Power Station – Events Leading

to the Acquisition Proposal   145 - 159

The Loy Yang Power Station – External Financing              160 – 162

AGL – Gas and Electricity Retailer  163 – 192

AGL’s Vertical Integration Strategy  193 – 216

AGL’s Development of an Acquisition Proposal                  217 – 223

Overview of Transaction Documents  224 – 229

Details of Transaction Documents – The Share

Sale Agreement  230 - 231

Details of Transaction Documents – The GEAC
           Shareholders Agreement  232 - 252

Details of the Transaction Documents – The MMCo

Agency Agreement  253 - 257

Details of the Transaction Documents – The MMCo

Operational Deed  258

Details of the Transaction Documents – The MM

HoldCo - Shareholders Deed  259 – 261

AGL Seeks Informal Clearance from the ACCC                  262 - 269

The Commencement of the Proceedings  270 - 271

The Pleadings - Ownership and Acquisition  272 – 275

The Pleadings – The Electricity Industry in Victoria            276 – 279

The Pleadings – The Relevant Markets  280 – 281

The Pleadings – Competition in the Retail Markets              282 – 285

The Pleadings – Generation and Transmission  286 – 289

The Pleadings – Operation of the NEM –

Inter-Regional Pricing  290 – 294

The Pleadings – Supply, Demand and Pricing in the

Wholesale Market  295 – 298

The Pleadings – Electricity Derivative Contracts and

Spot Price Management  299 – 302

The Pleadings – AGL’s Post-acquisition Control of

Loy Yang  303 – 305

The Pleadings – The Section 50(3) Factors 306 – 307

The Relief Sought  308– 310

The ACCC’s Contentions About the Ways in which

The Proposed Acquisition Will Cause or be Likely

To Cause a Substantial Lessening of Competition                311

The Statutory Framework  312 – 319

A Brief History of Section 50  320 - 336

The Construction of Section 50  337 - 354

The Onus of Proof   335 – 356

The ACCC Case Summarised  357

Whether AGL Will Control or Influence LYP  358 - 376

Market Definition   377 - 387

Matters to be Considered Under Section 50(3) 388 - 402

Projections for Supply and Demand in the NEM                  403 - 426

Market Power – Definition and Relevance  427 - 228

Market Power – The Contentions  429 - 431

The Loy Yang Power Station – Market Power

And Pricing in the Summer of 2000/2001  432 -456

Market and Regulatory Response to Pricing

In the Summer of 2000/2001  457 – 469

Pricing in the Wholesale Electricity Market and its

Relationship to the Longrun Marginal Costs of

Generation  470 –493

The Acquisition, the Natural Hedge and the Likelihood

Of Price Increases – The Economic Case  494 – 569

The Effect of the Acquisition Upon Vertical

Integration in the Relevant Market  570 – 594

Retail Markets in Victoria  595 – 598

Conclusions on Whether the Proposed Acquisition
           Contravenes Section 50  599

The Grant of Relief – Discretionary Issues  600 – 612

The Form of Relief   613- 618

Annexures 1-8

IN THE FEDERAL COURT OF AUSTRALIA
VICTORIA DISTRICT REGISTRY	V880 OF 2003

BETWEEN:

AUSTRALIAN GAS LIGHT COMPANY
(ACN 052 167 405)
APPLICANT

AND:

AUSTRALIAN COMPETITION AND CONSUMER COMMISSION
FIRST RESPONDENT

GREAT ENERGY ALLIANCE CORPORATION PTY LIMITED (ACN 105 266 028)
SECOND RESPONDENT

GEAC OPERATIONS PTY LIMITED
(ACN 105 367 888)
THIRD RESPONDENT

JUDGE:

FRENCH J

DATE:

19 DECEMBER 2003

PLACE:

PERTH (Heard in Melbourne)

REASONS FOR JUDGMENT

Introduction

1. The Australian Gas Light Company (AGL) is a major retailer of electricity in the electricity market.  The Loy Yang A Power Station  is a major generator of electricity located in the La Trobe Valley in Victoria.  It generates electricity for supply to the National Electricity Market (NEM) which covers Victoria, New South Wales, Queensland, South Australia and the Australian Capital Territory.  It is owned, together with the Loy Yang Coal Mine, by a consortium of companies which have been endeavouring to sell the business of the station and mine for some time as they are under pressure from external financiers.  The operating company is Loy Yang Power Management Pty Ltd (LYPM).

2. On 3 July 2003, AGL and other members of a consortium formed for the purpose, signed agreements for the acquisition of the Loy Yang Power Station Business (LYP) from its existing owners.  Under those agreements AGL is to acquire a 35% interest in a holding company whose subsidiary is to acquire the shares in each of the companies operating the consortium.

3. In February 2003, AGL approached the Australian Competition and Consumer Commission (ACCC) to seek an informal clearance in respect of the proposed acquisition. It offered an undertaking under s 87B of the Trade Practices Act 1974 (Cth) that certain structural arrangements reflected in the agreements would be maintained to prevent AGL from having any control or substantial influence over the way in which electricity from the power station would be made available, bid, dispatched and contracted on a day to day basis. The arrangements would also prevent AGL from being privy to commercially sensitive information about retail competitors and their dealings with LYP or about LYP’s bidding, dispatch and contracting strategies. Notwithstanding these undertakings the ACCC was of the view that the proposed acquisition raised substantial competition concerns pursuant to s 50 of the Trade Practices Act.

4. On 5 September 2003, the ACCC wrote to AGL’s solicitors stating that if the acquisition were to proceed it would reserve its position as to what course of action it would take.  It foreshadowed that the courses of action open to it would include an action for contravention of s 50 of the Act seeking the full range of available remedies including pecuniary penalties and divestiture.  The ACCC published a press release to similar effect on 8 September 2003. 

5. On 15 September 2003, AGL commenced proceedings in this Court seeking declarations to the effect that the proposed acquisition would not contravene s 50.  The trial was expedited and heard over twelve and a half sitting days in November.  The acquisition is subject to fulfilment of a condition precedent, which may depend upon the outcome of these proceedings. 

6. There are complex issues of fact and law raised in the case.  The central question is whether or not it could be said that the proposed acquisition would be likely to have the effect of substantially lessening competition in a market.  The relevant markets under consideration are wholesale markets for the sale of electricity and/or electricity derivative contracts and retail markets for the sale of electricity.

7. The competition issues in the case have focussed on two main questions:

   1.Whether the acquisition of a 35% interest in LYP by AGL will provide it, as a retailer, with a ‘natural hedge’ which will lead to an equivalent reduction in the amount of protection it seeks against spot market price volatility by reducing the extent of its hedge contract cover.  The ACCC contends that such a reduction would lead to a thinning of the hedge contracts market and a resulting incentive and tendency on the part of LYP and other generators of electricity to exercise market power and seek to lift prices in the spot market.

   2.Whether the acquisition, as a form of partial vertical integration, would encourage further vertical integration by other market participants reducing the number of independent wholesalers and retailers, exposing remaining retailers to vertical market foreclosure and raising barriers to entry for new participants. 

   There are some related arguments that AGL will exercise some degree of influence or control over LYP, that in any event LYP will respond to AGL’s needs and/or that there will be risk sharing agreements entered into between AGL and LYP.  There is also an argument that competition in the retail market could be reduced.

8. The case raises questions of prediction and prognosis in a complex commercial environment subject to a regulated auction system for electricity across the NEM and different regulatory systems affecting pricing for smaller customers in the various States participating in the NEM.

9. The proceedings have pitted leading economic and industry experts against each other, for the most part as advocates of the positions relied upon by the parties.  The Court has been exposed to sophisticated econometric evidence seeking to mathematically model bidding and pricing behaviour in the relevant markets.  It has been necessary, paying due respect to the amount of thought and expertise which underlies those contending positions, to keep firmly in mind that the Court’s decision must be based upon the best view it can form of the commercial realities of risks, incentives and behaviour and so on of the operation of the competitive process with and without the proposed acquisition.

10. For the reasons which follow, I am satisfied that the proposed acquisition is not likely to have the effect of substantially lessening competition in any relevant market.  That conclusion is reinforced by the structural arrangements which are the subject of the undertaking offered by AGL to the ACCC and which AGL has in turn offered to the Court.  The declaration which I make is subject to that undertaking with certain amendments to delete provisions which imply ongoing monitoring by the Court or preset terms and conditions for its variation or discharge.  I have framed the orders so that the undertaking given to the Court can be discharged upon the ACCC accepting a renewal of the undertaking originally offered to it by AGL or a variation or substituted undertaking which they can agree between themselves and which would give the ACCC an ongoing monitoring role.  It may be in the interests of both parties to reach some such accommodation.

    Electricity - A Special Kind of Product

11. Reflecting the scientific understanding of the 18^th Century, Samuel Johnson’s Dictionary of the English Language (1755) defined electricity as ‘a property in some bodies, whereby, when rubbed so as to grow warm, they draw little bits of paper, or such like substances to them’.  The New Oxford English Dictionary (1998) defines electricity as:

    ‘… a form of energy resulting from the existence of charged particles (such as electrons and protons) either statically as an accumulation of charge or dynamically as a current.’

    For present purposes, and applying the second limb of the Oxford English Dictionary definition, it is sufficient to define electricity as energy transmitted by the flow of electrons through a conductor. 

12. The flow of current which constitutes the flow of electrical energy can be produced by the movement of a conductor across a magnetic field.  The kinetic energy of that movement is converted into the electrical energy of the current flow.  So mechanical energy may be converted to electrical energy which may in turn be transmitted through conductors over a distance and applied, by consumers of the energy, to the operation of a large variety of electrical appliances.

13. The generators which produce electricity for household, business and industrial use do so essentially by rotating a coil of wire through a magnetic field.  A current is induced in the wire and flows into an external transmission system.  The rotation may be produced mechanically by steam, which is itself generated by burning coal or gas fuel.  Other sources of mechanical energy can also be used to rotate a conductor.  These include water used in hydro generators and wind in wind generators.  Engines driven by petrol or diesel fuel may  be used.  In Tasmania there is a proposal for a wood waste generator.  Electrical energy may also be produced by conversion of solar energy.  That process does not operate upon the same physical principle as that used in the mechanically powered generators which provide the bulk of electrical energy.

14. In the language of physics the rate at which energy is produced by a system or process is called power.  The basic unit of measurement of electric power is the watt.  A watt represents the production of one joule of energy per second.  A common commercial unit of power is the Megawatt which comprises a million watts.  The capacity of a generator of electricity may be measured by reference to its power output in Megawatts.  The energy it delivers is measured by the product of that capacity and the time for which it operates at that capacity.  So a generator with a one Megawatt capacity will deliver one Megawatt hour (MWh) of electrical energy for every hour it operates.

15. Electrical energy can be measured and, being measurable, can be bought and sold according to the quantities delivered like any other product.  However it has some important features which affect the ways in which it can be traded.  It cannot be stored except to a limited, and for present purposes inconsequential, extent in batteries.  Its supply must match demand.  If it does not then the generation and transmission systems may become unstable and dangerous.  It also has some characteristics of a fluid flow.  Once the flow from a particular source passes into a common transmission system it cannot be distinguished from electricity fed by another source into that system.  So it is not possible to identify electricity used by a consumer connected to the transmission system as originating from one or another generator. 

16. Australia makes heavy use of electrical energy for industrial, business and domestic purposes.  The electrical supply industry comprises the activities involved in generating electrical energy, transporting it to customers for their use, and charging them for their consumption. Important functional elements of the industry are:

    1.        Generation – the production of electricity.

    2.Transmission – the transmission of electrical energy across high voltage wires (capable of carrying more than 66 Kilo Volts) in networks designed for the bulk transfer of electricity at high voltages.   Some very large end users such as aluminium smelters take electricity at high voltages directly from the transmission network. 

    3.Distribution – the low voltage transportation of electricity from transmission networks to most end-use customers.

    4.Retail – the sale of electricity to customers and the provision of support and information services to them.

    5.Interconnection – the connection of electrical supply systems in different regions by transmission lines passing from State to the other.  Transmission lines taking electrical energy from one relevant State or region to another are referred to as interconnectors. 

17. The operators of generators are commonly regarded as the ‘wholesalers’ of electricity.  Although properly an incident of the wholesale function, the transmission of electricity from generators in Australia is effected, for the most part, through transmission networks which are separately owned and which may include interconnectors to link one region to another.  Electricity is sent from the transmission networks into distribution networks for ‘retail’ delivery to consumers.  Distribution and retail sales may be carried on by the same or distinct operators.  Importantly the so-called wholesale and retail functions are not reflective of physical delivery of energy from generators to retailers and from retailers to consumers.  There can be no storage of electrical energy by retailers for distribution to end users.  The electrical energy from the generator flows directly to the customer whether or not a retailer is involved.  The designations ‘wholesale’ and ‘retail’ for the purposes of market analysis are best attributed to the financial arrangements and transactions between generators, retailers and end-users.

18. This broad description is applicable to the electrical supply industry in New South Wales, Victoria, Queensland, South Australia and the Australian Capital Territory.   

1. Before embarking upon further detailed consideration of the way in which the electrical supply industry operates it is necessary to consider the recent history of its regulatory reform and privatisation and the creation of the NEM. 

   The National Electricity Market – History and Origins

2. The electricity supply industry in Australia was largely in the hands of publicly owned utilities until the 1990s.  Through them, State governments carried on the generation, transmission, distribution and retailing of electricity.  Each State had its own separate electrical supply systems with only limited interconnection.

3. An Industry Assistance Commission report delivered in 1989 following a reference from the Commonwealth Treasurer in 1988, described the gas and electricity industries as particularly inefficient – Industries Assistance Commission, Government (Non-Tax) Charges Vol 1 1989.  In 1989 the newly formed Industry Commission was asked by the Commonwealth Treasurer to report on the institutional, regulatory or other arrangements subject to influence by governments which led to inefficient resource use in the electricity and gas sectors and to advise how such inefficiencies might be reduced or removed.  The report, which was delivered in 1991, found an urgent need for reform of the electricity and gas sectors – Industry Commission, Energy Generation and Distribution Vol 1, 1999 p 2. The lack of commercial discipline imposed by competition was found to be the primary source of inefficiency.  The Industry Commission’s recommendations for reform of the electricity sector underpinned its future development.

4. At a special Premiers’ conference held in 1991, agreement was reached that a National Grid Management Council (NGMC) should be established to consider arrangements for an interstate electricity network.  The Council was to prepare a draft protocol covering the planning, operation, development, monitoring and extension of the Eastern and Southern Australian Electricity Grid – Special Premiers’ Conference, Communiqué 30-31 July 1991.  Following the establishment of the Council of Australian Governments (COAG) in May 1992, to initiate, develop and monitor the implementation of policy reforms of national significance, the NGMC was required to submit its recommendations to that body.  In January 1993, the NGMC recommended the establishment of a competitive market in the trading of electricity.  It made a number of recommendations about features of the national electricity market which included:

   1.        Direct customer to generator access.

   2.        Non-discriminatory access to the interconnected transmission network.

   3.No barriers to interstate trade or to entry for new participants in generation or retail supply.

   4.Uniform trading rules across South and Eastern Australian ESI

   See National Grid Management Council, National Electricity Market and Common Trading Arrangements, An Information Paper, January 1993.

5. The NGMC recommendations were followed a few months later by those of the Hilmer Inquiry.  The Hilmer Inquiry was established as an independent committee of inquiry by the Prime Minister in October 1992 following agreement by COAG on the need for a National Competition Policy.  Its objective was to develop a national framework for competition policy.  Among its recommendations were:

   1.The removal of immunity from the Trade Practices Act 1974 (Cth) of government owned businesses.

   2.The structural reform of public monopolies which included:

   .separation of regulatory and commercial functions of public monopolies;

   .separation of natural monopoly and potentially competitive activities; and

   .separation of potentially competitive activities into a number of smaller independent business units.

   3.Access to essential facilities through the adoption of a new legal regime under which firms could be given the right of access to specified ‘essential facilities’ on fair and reasonable terms.

   4.Price oversight for monopolies to deal with circumstances where all other competition policy reforms had proven inadequate.

   5.The establishment of the National Competition Council (NCC) to oversee the proposed competition regime and the ACCC to undertake the regulatory functions previously performed by the Trade Practices Commission and the Prices Surveillance Authority. 

6. The reforms recommended by the Hilmer Inquiry were adopted in broad terms by COAG in April 1995.  Three intergovernmental agreements emerged from that process, they being known as:

   1.        The Conduct Code Agreement

   2.        The Competition Principles Agreement

   3.The Agreement to Implement the National Competition Policy and related reforms which included commitments to reform the electricity industry.

7. In May 1996, New South Wales, Victoria, Queensland, South Australia and the Australian Capital Territory entered into an agreement known as the National Electricity Market Legislation Agreement under which each of the participating jurisdictions agreed to enact a National Electricity Law with South Australia as the lead jurisdiction.  The National Electricity Law is a schedule to the National Electricity (South Australia) Act 1996 (SA). It is applied as a law of South Australia by s 6 of that Act. It has been applied and adopted as the law of Victoria by s 6 of the National Electricity (Victoria) Act 1997 (Vic). That section provides:

   ‘The National Electricity Law set out in the Schedule to the National Electricity (South Australia) Act 1996 of South Australia, as in force for the time being –

   (a)      applies as a law of Victoria;

   (b)as so applying may be referred to as the National Electricity (Victoria) Law.’

   Like provision is made in s 6 of the National Electricity (New South Wales) Act 1997 (NSW), s 6 of the Electricity – National Scheme (Queensland) Act 1997 (Qld) and s 5 of the Electricity (National Scheme) Act 1997 (ACT). The National Electricity Law provides in s 6 that the Ministers of the participating jurisdictions may approve a code of conduct called the National Electricity Code  (the Code) as the initial Code for the purposes of the Law.

8. The National Electricity Law refers to NECA, the National Electricity Code Administrator Limited and to NEMMCO, the National Electricity Market Management Company Limited.  NECA is a company incorporated under the Corporations Act 2001 and limited by guarantee.  Its members are the five participating jurisdictions in the NEM and the State of Tasmania.  It is governed by a Members Agreement and its Memorandum and Articles of Association.  Under cl 2.1 of the Members Agreement, which is reflected in cl 1.5.2 of the Code, it has a number of objectives, the principal objective being to supervise, administer and enforce the Code.  It has objectives related to the collection and dissemination of information and the administration of the ongoing development of, and changes to, the Code in order to achieve market objectives.  Clause 1.5.3 of the Code requires NECA to monitor and report on compliance with the Code and its adequacy, to enforce the Code, to establish procedures for dispute resolution concerning provisions of the Code and to manage changes to the Code.

9. NEMMCO is described in cl 1.6.1 of the Code as ‘[t]he body corporate responsible for operating and administering the market in accordance with the Code.’  It is required under cl 1.6.3 to operate and administer the market in accordance with the provisions of Ch 3 of the Code, to maintain power system security, to undertake its co-ordination of power system planning responsibilities and to register Code participants. 

10. The provisions of the Code do not have the force of statute although the National Electricity Law provides for civil penalties for breaches of it. The Code was authorised by the ACCC under s 88 of the Trade Practices Act in 1997 and those parts of it dealing with transmission and distribution networks were accepted as an Access Code under s 44ZZAA of the Trade Practices Act.

11. The National Electricity Market is the name for the institutional arrangements for trading electricity in Queensland, New South Wales, Victoria and South Australia.  It is  established by the operation of the National Electricity Law and the National Electricity Code.  Section 9 of the National Electricity Law prohibits any person:

    1.from owning, controlling or operating a generating, transmission or distribution system unless the person is registered as a Code Participant in accordance with the  Code. 

    2.other than NECA and NEMMCO, from administering or operating a wholesale market for electricity generating units or loads.

    3.purchasing electricity from NECA or NEMMCO unless the person is registered as a Code Participant.

    The effect of the provision is that all electricity industry participants in participating jurisdictions are to participate in the NEM.

12. The Code sets out rules to be observed by all Code Participants participating in the NEM.  NECA administers the Code and enforces it in accordance with the National Electricity Law.  Chapter 3 of the Code contains the rules governing the operation of the wholesale spot price market which is operated by NEMMCO.  NEMMCO registers all Code Participants and operates the wholesale spot market through a centralised dispatch process.  

13. Each of the participating States and Territories of the NEM developed complementary reforms within their own borders.  In Victoria, the government decided to privatise the electricity industry in conjunction with its competitive reforms.  This resulted in the Electricity Industry Act 1993 (Vic).  That Act, in effect:

    1.Split the vertically integrated State Electricity Commission of Victoria into four functional activities for the purposes of privatisation.  Those activities were generation, transmission, distribution and retail.

    2.Entrenched the competitive reforms through the splitting up of the State Electricity Commission by introducing restrictive cross-ownership rules – Electricity Industry Act 1993 Part 13.

    3.Introduced  a licensing regime under which new privatised entities operating in the electricity supply industry in Victoria would be regulated.

14. The Electricity Industry Act 1993 (Vic) provided for the transfer of the generating assets of the State Electricity Commission to an entity established under s 7 of the Act and called ‘Generation Victoria’.  The transmission assets of the State Electricity Commission were transferred to an entity called ‘Power Net Victoria’ (previously known as ‘National Electricity’) set up under s 13 of the Act.  A new entity called ‘Electricity Services Victoria’ took over the distribution assets of the State Electricity Commission under s 20.  The assets, liabilities and staff of Generation Victoria and Electricity Services Victoria were transferred to various generation and distribution companies owned by the State of Victoria in anticipation of privatisation.  A licensing regime under which privatised entities would be regulated was established under ss 159 to 169 of the 1993 Act.

15. The licensing regime created by the Act prohibited the generation, transmission, distribution, supply or sale of electricity without a licence from the office of the Regulator-General or a licence exemption (s 159).  Retail and distribution functions were identified and separately licensed (s 161).  The State Electricity Commission had had only one point of contact with customers for distribution and retail functions and in order that billing systems and customer records did not need to be duplicated, combined distribution and retail businesses were formed.

16. The Victorian transmission system, together with the Victorian portions of interconnectors linking Victoria to South Australia and Victoria to the Snowy Mountains Hydro-electric Scheme, were transferred to Power Net Victoria under the pre-privatisation arrangements effected by the 1993 Act.  The transmission asset holder, Power Net Victoria, was privatised and sold to GPU Power Net pursuant to an agreement under s 153U of the Act.  The Victorian Electricity Transmission System is now owned by SPI PowerNet.  The assets that form part of the shared transmission network are operated by VEN Corp under a Network Services Agreement which SPI PowerNet is required to enter into under its transmission licence. 

17. Initially transmission prices were regulated by a Tariff Order made under s 158A of the 1993 Act.  However since the Code came into operation and transitional provisions expired, transmission prices have been regulated under Chapter 6 of that Code as modified by Victorian Jurisdictional Derogations which are set out in Chapter 9 of the Code.  They provide for an alternative pricing regime for VEN Corp.  The obligations to connect generators, distributors and other parties to the transmission system are regulated by Chapter 5 of the Code.

18. Following its creation, Generation Victoria’s assets were divided among five key generating companies which were privatised between 1996 and 1999.  These were Loy Yang Power, Yallourn Energy, Hazelwood Power, EcoGen Energy and Southern Hydro.  Privatisation agreements were made pursuant to s 153U of the Act.  In 1994, a company called VPX was established under s 41A which had functions for Victoria analogous to those now undertaken by NEMMCO in the national energy market.  VPX conducted a Victorian spot price market and determined, on the basis of generator bids, which generators should be dispatched, ie which generators were to supply electricity to the market from time to time.  It was responsible for the reliable operation of the system as a whole and the transmission system in particular.  Its spot market functions were subsumed by NEMMCO with the commencement of the NEM.  Its electricity transmission system planning and shared electricity transmission network operation functions have been transferred to the State owned corporation, VEN Corp. 

19. As with the assets of Generation Victoria, those of Energy Services Victoria were divided among a number of distribution and retail entities which were progressively privatised during 1995, again pursuant to s 153U. 

20. From October 1994, customers were required to purchase electricity and distribution services from their local distributor.  Victoria was notionally divided into five areas for this purpose.  Government owned retailers responsible for each of those areas were Solaris Power, United Energy Limited, PowerCor Australia Limited, Eastern Energy and CitiPower Pty Ltd. In 1995, these retail businesses were sold by the Victorian government.  Solaris Power is now AGL Electricity Ltd and Eastern Energy is now TXU Electricity Ltd. These companies today to provide distribution services in their allocated areas.

21. Under the regulatory structure, customers were progressively enabled to choose which retailer would provide their energy even though they would continue to be connected to the Grid via their local distributor.  The end product of this process was called ‘full retail contestability’.  The timetable for establishing full retail contestability was set out in Regulations called The Electricity Industry (Non-Franchise Customers) Regulations 1995.

22. Initially retail prices were regulated under a Tariff Order.  It was evidently envisaged that following the introduction of contestability retail prices would not need to be regulated because there would be competition between the retailers.  Prices for all larger customers, and those small customers who choose to enter into a contestable contract offered by a retailer are not regulated.  Provision has been made however for certain minimum customer protections to be mandatory for those customers consuming less than 160MW hours annually.

23. By 1997, consumers using more than 750MWh per year were allowed to chose between retailers.  Other customers were assigned to an Incumbent Retailer based upon their geographic location.  Each of the Incumbent Retailers and LYPM and the administrator of the State Electricity Commission of Victoria were party to transitional hedge contracts which corresponded to the volume of electricity by non-contestable customers.  The contracts came into existence before the privatisations and their commercial terms were stipulated rather than negotiated.  Along with like contracts between other generators and the Incumbent Retailers they were classified as Vesting Contracts.  They enabled each of the Incumbent Retailers and the State Electricity Commission of Victoria to supply electricity with very limited exposure to the risk of pool price volatility.  So far as LYPM was concerned, they provided a significant degree of certainty of revenue flow during the transitional period.  At that time any retailer was able to supply contestable customers.  They could be supplied with electricity on a hedged or unhedged basis.  LYPM itself negotiated and entered into a number of hedge contracts with retailers for those customers. 

24. Mr Kenneth Thompson, the General Manager Marketing for LYPM, set out in his affidavit a timetable under which Victorian electricity customers became contestable.  It was as follows:

Date	Customer Load Level	Number of Customers
December 1994	Customers with loads in excess of 5MW	47
July 1995	Customers with loads in excess of 1MW and less than 5MW	330
July 1996	Customers with loads in excess of 750MWh/Yr and less than 1MW	1,500
July 1998	Customers with loads in excess of 160MWh/Yr and less than 750MWh/Yr	5,000
December 2000*	All remaining customers, subject to there being no significant technical or economic constraints	1,957,300

* Subsequently deferred until 2001

This historical background and the relatively recent completion of the transition to full contestability gives some indication of the evolving character of the markets which are in issue in this case.  The Court is not dealing with mature well-established markets occupied by participants who have had long experience in their operation. 

1. Following the completion of the privatisation process, a new Electricity Industry Act 2000 (Vic) was enacted. The regulatory and licensing regime established by the 1993 Act, including the cross-ownership provisions, were re-enacted by the Electricity Industry Act 2000 (Vic), albeit there were amendments to them. The 1993 Act was amended by the Electricity Industry Legislation (Miscellaneous Amendments) Act 2000 through the repeal of provisions relating to the privatisation process and provisions overlapping with the new Electricity Industry Act 2000.  The 1993 Act was renamed the Electricity Industry (Residual Provisions) Act 1993 (Vic).

2. The Victorian electricity industry is now principally regulated by the licensing regime established under the Electricity Industry Act 2000. The Essential Services Commission (the Commission) issues generation, transmission, distribution and retail licenses subject to various conditions.  The Commission is the successor to the office of the Regulator-General and was established under the Essential Services Commission Act 2001 (Vic). The conditions imposed upon licenses vary according to their type. Certain aspects of distribution and retailing such as the quality and reliability of supply, complaints handling and customer billing (in the case of retailing) are also regulated by the Distribution Code and Retail Code. These have been developed by the Essential Services Commission and are enforced by the inclusion of conditions in distribution and retail licenses under s 21 of the Electricity Industry Act 2000, which require compliance with those Codes.

3. Distribution prices initially were set by a Tariff Order and then by the office of the Regulator-General under the Office of the Regulator-General Act 1994 (Vic). Prices are currently set under a five-year determination of the former office of the Regulator-General. On the expiry of that determination, the Essential Services Commission will make a new determination. As to domestic and small business retail customers, prices continue to be regulated under the Electricity Industry Act 2000 (Vic). From January 2001, customers whose aggregate consumption exceeds 40MWh have been able to choose their electricity supplier under an Order in Council of 13 November 2000 pursuant to s 23 of the 2000 Act. Since 13 January 2002 domestic and small business consumers of electricity have been able to choose their electricity retailer pursuant to an Order in Council of 11 January 2002 under s 35 of the 2000 Act.

1. In the present scheme, electricity retailers are required to make standing or deemed offers to domestic and small business customers whose usage does not exceed 160MWh/year.  The retailer must make these standing or deemed orders to all domestic and small business customers within the designated geographic region allocated to that retailer.  Retailers have obligations in relation to their standing or deemed offers.  They are required to publish the applicable terms and conditions, including any tariffs, and those terms and conditions must not be inconsistent with the Electricity Retail Code.  Any proposed changes to the terms and conditions cannot take effect for at least two months from the time of publication.  A retailer may propose an increase at any time.  The Governor in Council, who acts on the advice of the Minister, has a reserve power to fix tariffs applicable under standing or deemed offers which he gets from s 13 of the 2000 Act.  The Governor in Council can revise tariffs up or down as he or she thinks fit. 

2. The Essential Services Commission is required to investigate and report to the Minister on any proposed increase in standing tariffs by electricity retailers.  This requirement is imposed under a Standing Order.  Benchmarks have been established to indicate the costs of key components for the retailing of electricity and appropriate margins.  Ordinarily the publication of a proposed increase by a retailer triggers an investigation by the Essential Services Commission which may prompt an exercise of the Minister’s reserve power to fix tariffs.  The Minister is not obliged to act on the Commission’s report. 

3. An important variation to the cross-ownership restrictions effected by the 2000 Act is that cross-ownership may be permitted if the ACCC formally or informally approves the transaction leading to the cross-ownership.  Under the Electricity Industry (Prohibited Interests) Regulations 2003 certain prescribed interests can be disregarded when determining whether there is a prohibited interest for the purposes of s 68 of the Act.  Under the Regulations, retailers can have a minority but significant shareholding of up to 35% in one significant generator where that retailer does not hold a relevant interest in the shares of two or more corporations, each of which is entitled to generating capacity of more than 200MW. 

4. The preceding description of the privatisation of the electricity industry in Victoria, which I find as a fact, reflects the content of an outline provided to the Court by AGL and evidence from Mr Kevin Thompson of LYPM which was not in dispute in these proceedings so far as it described those matters. Similar restructuring has occurred in other States in the NEM although the privatisation of the restructured businesses has been largely confined to Victoria and South Australia.    

   Outline of the National Electricity Market

5. The NEM commenced operation on 13 December 1998.  It incorporates the States of New South Wales, Victoria, Queensland and South Australia and the Australian Capital Territory.  Although Tasmania is not presently in the NEM there are plans for it to be included following the construction of a link to the mainland known as Basslink.  Western Australia and the Northern Territory operate separate electricity systems independent of South East Australia and are not part of the NEM.  The following description of the operation of the NEM is based, for the most part, on the evidence of Dr Daniel Price, the Managing Director of Frontier Economics Pty Ltd, who provided expert evidence for AGL in these proceedings.  His full account of the NEM was contained in a report entitled ‘Outline of the National Electricity Market’ which was dated 10 October 2003.  Mr Greg Denton, an expert witness called by the ACCC, regarded Dr Price’s description as ‘sufficiently accurate’ save for his failure to mention what he called the ‘ancillary services market’. The descriptive elements of Dr Price’s outline were not in contention between the parties and the summary that follows, supplemented by references to the evidence of Mr Denton and Mr Nethercote, constitutes findings of fact about the operation of the market unless otherwise indicated.

6. The NEM is governed by the Code which contains the rules for its operation.  NEMMCO has responsibility for the day-to-day operation and administration of the power system and the spot price market.  It also publishes an annual Statement of Opportunities which provide technical and marketing data and which projects supply and demand in the NEM.   

7. The NEM consists of five interconnected regions.  A region is defined in cl 3.5.1 of the Code as ‘… an area served by a particular part of the transmission network containing one or more major load centres or generation centres or both’.  The regions at the present time are Queensland, NSW, the Snowy region, Victoria and South Australia. Interconnectors, which are the transmission lines crossing between the different regions, allow generators in those regions to compete against each other.

   Operation of the NEM – Generation of Electricity

8. Generator output and capacity can be measured at the generator terminal before the power station’s own electricity requirements and transformer losses are taken into account.  The capacity so measured is known as ‘name plate capacity’.  The energy measured at the generator terminal is called ‘generated’ output.  Output and capacity can also be measured at the transmission connection point after the diversion of some electricity to the power station’s auxiliary load and losses from the generator transformer is taken into account.  Capacity measured at the transmission connection point is known as ‘sent out’ capacity.  Energy measured at this point is known as ‘sent out energy’. 

9. Another important attribute of a generator is its capacity factor.  This measures the actual generation as a proportion of potential generation.  The lower the variable costs of production, then the higher the capacity factor will be.  

10. Generators can be classified according to their capacity factor.  There are three important classifications:

    1.Base load generators.  These usually run with a capacity factor above 75% and typically have:

    (i)low variable operating costs;

    (ii)high capital costs;

    (iii)long start up times; and

    (iv)a limited stable range of operation.

    Base load plants are generally operated continuously for long periods at or near full capacity.  The Loy Yang A power station is a base load generator.

    2.Mid merit or intermediate plants.  These ordinarily have a capacity factor between 15% and 75%.  Compared to a base load plant they typically have:

    (i)medium operating costs;

    (ii)short start up times; and

    (iii)medium ramp rates.  The ramp rate is the rate at which a power plant may increase or decrease the level of electricity which it generates and is explained more fully below.

    Mid merit or intermediate plants usually stop generating during daily low demand troughs and do not operate to full load except during daily demand peaks.

    3.Peaking plants.  These operate with a capacity factor below 15%.  Compared to base load plants, they typically have:

    (i)relatively high operating costs;

    (ii)higher ramp rates;

    (iii)fast start up times.

    They are generally operated to meet peaks in demand.  They run infrequently and have a relatively low level of capacity utilisation.  Open cycle gas fired plants are typically peaking generators.

    These classifications also appeared in the evidence of the Chief Executive Officer of LYPM, Mr Ian Nethercote.  He described the attribute of a generator known as its ‘ramp rate’ and the event called ‘outage’. 

11. The rate at which a power plant can vary the level of electricity which it generates is known in the industry as the ramp rate.  Each of the four generators at Loy Yang A has a ramp rate capability of plus or minus 8 to 10MWs/minute.  Each of the generators can only vary the level of electricity it generates with some certainty by up to 8 to 10MW per minute.  This means that the Loy Yang A generator has a limited capacity to respond to significant or large sudden changes in market conditions, including demand and supply imbalances.  Other types of power plants have a high ramp rate capability. A confidential table of ramp rates for other generators in the NEM was exhibited to Mr Nethercote’s affidavit.  As appears from that table, by far and away the highest ramp rates are associated with hydro-powered stations.

12. The unavailability of a generator for the production of electricity is known in the industry as an ‘outage’.  There are planned outages necessary for maintenance and testing requirements.  Unplanned outages occur generally because of plant breakdown.  There are also environmental constraints on the station’s generation capability.  Emission limits imposed by the Environmental Protection Authority may result in generation being reduced from time to time to ensure that particular emissions such as sulphur are within legal limits. 

13. Chapter 2 of the Code sets out and describes various categories of Code Participants and registration procedures.  Code Participants are those bound by the Code through registration with NEMMCO, save for NEMMCO itself which is also a Code Participant (cl 2.1.2).  Every person who owns, controls or operates a generating unit that supplies electricity to a transmission or distribution system must register with NEMMCO (cl 2.2.1).  To register as a generator a person must classify each of its generating units as scheduled or non-scheduled (cl 2.2.1(e)).  Generally speaking, a generating unit or group of units with a nameplate capacity of 30MW or more is classified as a scheduled generating unit (cl 2.2.2(b)).  A generating unit with a lesser capacity is classified as a non-scheduled generating unit (cl 2.2.3(a)).  A generating unit from which sent out electricity is not purchased in its entirety by the Local Retailer or a customer at the same connection point is a market generating unit (cl 2.2.4(a)).  That is to say it is a generating unit which sells electricity into the spot market and by virtue of the Code must sell all its electricity into that market.  A non-market generating unit sells all of its output to the local retailer or a customer outside the spot market (cl 2.2.5(a)). 

14. If a market generator, in respect of a generating unit, wishes to use it to provide market ancillary services then the market generator must apply to NEMMCO for approval to classify the unit as an ancillary services generating unit. 

15. The market generator must sell all sent out electricity through the spot market and accept payments from NEMMCO for sent out electricity at the spot price available at the connection point as determined for each trading interval in accordance with the provisions of Ch 3 of the Code (cl 2.2.4(c)).   

16. Most large generators in the NEM, such as the Loy Yang A power station, are scheduled market generating units which means that all of their output is sold through the NEM and NEMMCO schedules the dispatch of their electricity.  The object of these classifications is to ensure secure and reliable operation of the power system by ensuring that all large generators are centrally dispatched by NEMMCO and to avoid imposing the costs of complying with NEM arrangements on small generation projects.  Often non-market, non-scheduled generators are too small to make participation in the NEM economic.

17. Generation capacity in each of the NEM regions as at August 2003 was as follows:

Scheduled Generating Capacity in the NEM
Region	Generation Capacity (MW)
NSW	12,241
Qld	10,063
Vic	8,326
Snowy	3,676
SA	3,463
TOTAL	37,769

Non-scheduled generating capacity was as follows:

Non-Scheduled Generating Capacity in the NEM
Region	Generation Capacity (MW)
NSW	309.80
Vic	221.65
Qld	144.00
SA	54.50
Snowy	0.00
Total	729.95

There are approximately thirty-two registered participants with scheduled generators in the five regions of the NEM.  They operate sixty-seven generators of different kinds and capacities between them.  A table showing the registered participants, their generators and information about those generators, including their registered capacities and their capacity factors, is set out as Annexure 1 to these reasons.

1. In the NEM at present LYP has 5.3% of total capacity and generated 8.64% of total generation in the 2002 calendar year.  AGL Electricity Pty Ltd has 1.01% of total capacity and generated 0.01% in the 2002 calendar year.  However, in the Victorian region LYP has 18.79% of total capacity and generated 29.89% of all electricity in the 2002 calendar year.  AGL Electricity Pty Ltd has 1.5% of total capacity and generated 0.01% of electricity in the 2002 calendar year.  Annexure 2 sets out the Shares of Scheduled Registered Capacity and Energy in the NEM (at the generator terminals) in one table and similar figures for Victoria in a second table.

2. As will be seen from the list of scheduled generators in the NEM, the major Victorian generating companies operate one generating outlet each.  When the New South Wales Electricity Industry was restructured, generating portfolios consisting of a number of power stations were created.  Victoria adopted a different model.  Most generating companies created at the time of reform in Victoria owned a single power station.  The largest generation portfolios in the NEM are Macquarie Generation with a total capacity of 4,690MW and Delta Electricity with 4,240MW.  The Snowy Hydro follows with 3,756MW.  Loy Yang Power A is the largest generator in Victoria having 2,000 MW of capacity.  There are several companies that have generators in different regions in the NEM.  Purchasers and builders of individual power stations in South Australia and Victoria have combined assets to form ‘inter-regional portfolios’.  International Power owns generation capacity in both South Australia and Victoria.

3. Overall the New South Wales generating portfolios have the largest share of NEM capacity.  Macquarie Generation has 12.4%.  Delta has 11.2%.  Loy Yang Power A has a 5.3% share of NEM capacity.  It is the tenth largest generator in the NEM.  When energy output rather than capacity is calculated, base load generators which produce most of the energy show a relatively high share while peaking generators show a lower share.  So although Loy Yang Power A has a 5.3% share of capacity in the NEM, it has an 8.6% share of total energy output. This makes it the third largest generator in the NEM by energy.  When Tasmania joins the NEM through the Basslink connection it will comprise a sixth region and will contribute 2,514MW of mostly hydro generating capacity.  All the Tasmanian capacity is presently owned by Hydro Tasmania which is in turn owned by the State Government.

4. Different generators use different types of fuels and the variable cost of electricity generation depends upon the cost of the fuel used and the efficiency with which energy can be extracted from it.  Although generation fuel costs are largely fixed, generators often need to purchase some additional amount of fuel outside any long term take or pay contracts.  Such purchases are variable costs because their volume and timing is at the discretion of the generator and depends upon its output.  Coal generators in the NEM have a lower variable cost than gas-fired plants and usually have a higher capacity factor.  Victorian brown coal is  cheaper than New South Wales and Queensland black coal.  Gas-fired generation in the NEM is more expensive than coal-fired generation and therefore usually operates with lower capacity factors.  Hydro plant has low variable costs but its energy input is limited by the availability of water and the inability to produce electricity at high capacity factors.  For this reason, hydro plants operate as mid merit or peaking plants rather than as base load plants.  Liquid fuel-fired generators, powered by fuel such as oil and distillate, are the most expensive plants in the NEM.

   Operation of the NEM – Transmission

5. The transmission of electricity in the NEM involves the utilisation of transmission networks within NEM regions and interconnectors between those regions.  The Code identifies two types of transmission companies, namely Transmission Network Service Providers (TNSPs) and Market Network Service Providers (MNSPs). TNSPs own, operate and/or control high voltage transmission assets that carry electricity between generators and distribution networks.  The revenue earned by these providers is regulated.  MNSPs are unregulated interconnectors between two regions of the NEM and they earn revenue from trading in the NEM. 

6. Regulated interconnectors transport power from one region in the NEM to another region.  The flow of energy between regions through these interconnectors will depend upon regional price differences.  So regions of relatively cheap generation will be net exporters of power.  Regulated interconnectors are owned and operated by TNSPs.  The unregulated interconnectors are designed to take advantage of price differentials between regions and to earn revenue by arbitraging them. The flows through those interconnectors are determined by the dispatch bids which they submit to NEMMCO.  If their bids are higher than price differentials between the regions they connect, then they will not be dispatched.  As with generators, the bidding behaviour of unregulated interconnectors depends on market conditions.  The process of bidding for dispatch of electricity is discussed below.

7. All five regions in the NEM are connected by at least one regulated interconnector.  There are two unregulated interconnectors.  One is Directlink, between New South Wales and Queensland.  The other is Murraylink, between Victoria and South Australia.  It has recently applied to the ACCC to convert to a regulated interconnector. 

8. As the following table prepared by Dr Price shows there is substantial transfer capacity between New South Wales and Victoria via the Snowy.  There is relatively less transfer capacity available between New South Wales and Queensland and between Victoria and South Australia.

Table: Inter regional transfer capabilities

Regions  Capability

Exporting	Importing	880 MW (700MW QNI + 180MW Directlink)
NSW	Qld
Qld	NSW	1130 MW (950MW QNI + 180MW Directlink)
Snowy	NSW	3200 MW winter 2800 MW in summer
NSW	Snowy	850MW (varies from 200 MW to 1200 MW)
Snowy	Vic	1900 MW
Vic	Snowy	1100 MW
Vic	SA	680 MW (460MW Heywood + 220MW Murraylink)
SA	Vic	420 MW (300 MW Heywood + 120MW Murraylink)

This table is based upon information in the NEMMCO Statement of Opportunities 2003, Chapter 4 at p 4-8. 

1. The term ‘network capability’ is defined in the NEMMCO Statement as the technical capability of the network to transfer power measured in MW.  To operate a network in excess of its capability can cause damage to plant or interruption of supply.  There are therefore power flow limits imposed on the transmission network through network limit equations which are developed by TNSPs.  NEMMCO has a due diligence process which is designed to ensure that these equations define secure power system operating conditions.  NEMMCO converts the TNSPs’ network limit equations into a form called ‘network constraint equations’ that can be used in the NEMMCO dispatch optimisation process. 

2. The Code distinguishes between inter-and intra-regional constraints or limits. However intra-regional limits may reduce the capacity of an interconnector and therefore impact upon inter-regional constraints.  As a general proposition the capability of the network to transmit power from generation centres to demand centres is limited by a number of factors relevant to the physical limits of specific plant and their stable operation.  These factors include thermal limits of the transmission network, voltage levels on generation or transmission equipment, the ability of the power system to remain secure and stable, power system frequency control, and limits on secondary components of the power system including protection systems and monitoring equipment.  The network capability therefore describes the power flow limit which can be permitted on the transmission lines and takes into account contingencies which could occur which could cause a specific limit to be reached.    

Queensland

Callide Power Trading Pty Ltd	Callide Power Plant	MS	Coal	840MW	2*420MW = 840MW	79.8%
CS Energy	Callide A Power Station	MS	Coal	2150MW	4*30MW = 120MW	0.0%
	Callide B Power Station	MS	Coal	2*350MW = 700MW	95.4%
	Swanbank A Power Station (mothballed during 2002)	MS	Coal	6*68MW = 408MW	6.3%
	Swanbank B Power Station	MS	Coal	4*125MW = 500MW	51.8%
	Swanbank D Gas Turbine	MS	Liquid Fuel	37MW	0.1%
	Swanbank E Gas Turbine	MS	Gas	385MW	8.0%
Millmerran Energy Trader Pty Ltd	Millmerran Power Plant	MS	Coal	852MW	2*426MW = 852MW	9.7%
Origin Energy Electricity Limited	Roma Gas Turbine Station	MS	Gas	80MW	2*40MW = 80MW	6.1%
Eneretrade (QPTC)4	Barcaldine Power Station	MS	Gas	2668MW	57MW	36.4%
	Collinsville Power Station	MS	Coal	4*30MW=1*60MW = 180MW	44.3%
	Gladstone	MS	Coal	6*280MW = 1680MW	65.5%
	Oakey Power Station	MS	Liquid Fuel	2*141MW = 282MW	0.2%
	Mt Stuart Gas Turbine	MS	Liquid Fuel	2*152MW = 304MW	2.8%
	Townsville Gas Turbine	MS	Liquid Fuel	165MW	1.2%
Stanwell Corporation	Barron Gorge	MS	Hydro	1566MW	2*30MW = 60MW	10.4%
	Kareeya	MS	Hydro	4*18MW = 72MW	22.5%
	Mackay Gas Turbine	MS	Liquid Fuel	34MW	0.1%
	Stanwell Power Station	MS	Coal	4*350MW = 1400MW	82.6%
Tarong Energy	Tarong Power Station	MS	Coal	2315MW	3*350MW+1*315MW = 1365MW	95.2%
	Tarong North Power Station	MS	Coal	450MW	5.6%
	Wivenhoe Power Station	MS	Hydro	2*250MW = 500MW	4.3%
Total	10,471MW

South Australia

AGL Electricity Limited	Hallett Power Station	MS	Liquid Fuel	220MW	8*16.8MW+2*25.2MW+2*17.9MW = 220MW	0.5%
NRG Flinders Operating Services Pty Ltd	Northern Power Station	MS	Coal	950MW	2*265MW = 530MW	89.1%
	Osborne Power Station	MS	Gas	1*118MW=1*62MW = 180MW	82.5%
	Playford B Power Station	MS	Coal	4*60MW = 240MW	2.8%
Origin Energy Electricity Limited	Ladbroke Grove Power Station	MS	Gas	176MW	2*40MW = 80MW	81.6%
	Quarantine Power Station	MS	Gas	4*24MW = 96MW	8.8*
Pelican Point Power Limited	Pelican Point Power Station	MS	Gas	478MW	2*160MW+1*158MW = 478MW	65.1%
Synergen Power Pty Ltd	Dry Creek Gas Turbine Station	MS	Gas	359MW	3*52MW=156MW	0.5%
	Mintaro Gas Turbine Station	MS	Gas	90MW	1.3%
	Port Lincoln Gas Turbine	MS	Liquid Fuel	2*25MW = 50MW	0.1%
	Snuggery Power Station	MS	Liquid Fuel	3*21MW = 63MW	0.5%
TXU (South Australia) Pty Ltd	Torrens Island Power Station “A”	MS	Gas	1280MW	4*120MW = 480MW	6.1%
	Torrens Island Power Station “B”	MS	Gas	4*200MW = 800MW	33.0%
Total	3463MW

Snowy

Snowy Hydro Limited	Guthega	MS	Hydro	3676MW	2*30MW = 60MW	22.9%
	Murray	MS	Hydro	10*95MW+4*137.5MW = 1500MW	11.3%
	Tumut	MS	Hydro	4*82.4MW+4*71.6MW +6*250MW = 2116MW	0.5%
Total	3676MW

The source of this table, put in evidence through Mr Price, is the NEMMCO List of Generators and Scheduled Loads, Version 73 dated 7 August 2003 and Version 27, 12 September 2000 for Swanbank A (removed from Version 73 due to mothballing of the plant in 2000).  The capacity factors are derived from analysis of NEMMCO trading interval generation and registered capacities.  The table includes all scheduled generators regardless of whether they are market or non-market generators.  The capacity factors have been calculated using the total energy, on an as generated basis, produced by each power station during the 2002 calendar year.

Annexure 2

Table 1: Share of Scheduled Registered Capacity and Energy in the NEM (at the generator terminals)

Participant	% of total capacity	% of total generation (2002 calendar year)
Macquarie Generation	12.42%	13.97%
Delta Electricity	11.23%	12.32%
Snowy Hydro Limited	9.84%	2.07%
Eraring Energy	7.76%	8.43%
Enertrade	7.06%	5.95%
International Power	6.45%	8.18%
Tarong Energy	6.13%	6.61%
TXU Pty Ltd	5.86%	1.79%
CS Energy	5.72%	6.35%
Loy Yang Power Management Pty Ltd	5.30%	8.64%
Stanwell Corporation	4.15%	5.79%
Yallourn Energy	3.84%	6.37%
Edison Mission Energy	3.44%	4.93%
Intergen	3.37%	2.05%
NRG Flinders Operating Services Pty Ltd	2.52%	3.08%
Southern Hydro Partnership	1.12%	0.48%
AGL Electricity Limited	1.01%	0.01%
Origin Energy Electricity Limited	0.68%	0.39%
Energy Brix Australia	0.52%	0.60%
Sithe Australia Power	0.47%	0.55%
Redbank  Project Pty Ltd	0.40%	0.59%
SECV	0.40%	0.76%
Duke Energy Bairnsdale Operations Pty Ltd	0.24%	0.07%
Total	100%	100%

Table 2: Share of Scheduled Registered Capacity and Energy in Victoria (at the generator terminals)

Participant	% of total capacity	% of total generation (2002 calendar year)
Interconnectors	21.79%	29.89%
Loy Yang Power Management Pty Ltd	18.79%	22.97%
International Power	15.03%	22.97%
Yallourn Energy	13.62%	22.03%
Edison Mission Energy	12.21%	17.03%
TXU Pty Ltd	8.75%	1.22%
Southern Hydro Partnership	3.96%	1.68%
Energy Brix Australia	1.83%	2.07%
AGL Electricity Limited	1.50%	0.01%
SECV	1.41%	2.63%
Duke Energy Bairnsdale Operations Pty Ltd	0.86%	0.23%
Eraring Energy	0.23%	0.23%
Total	100.0%	100.0%

Annexure 3

Corporate Groups with Retail Licenses in the NEM
Retailer	Company Background	Licences
		NSW	Vic	Qld	SA	ACT
ActewAGL Retail	Franchise retailer and stapled to DNSP in ACT	ü	ü	ü	ü	ü
AGL	Franchise retailer and stapled to DNSP in metropolitan and regional Victoria, franchise retailer in SA	ü	ü	ü	ü	ü
Aurora Electricity	Franchise retailer and stapled to DNSP in Tasmania	ü	ü
Australian Energy Services (Power Direct)	Independent retailer	ü	ü	ü
Australian Inland Energy and Water	Franchise retailer and stapled to DNSP in regional NSW	ü
Country Energy	Franchise retailer and stapled to DNSP in regional NSW	ü	ü	ü	ü	ü
CS Energy	Queensland generator	ü
Delta Electricity	NSW generator	ü
Energex Retail	Franchise retailer and stapled to DNSP in metropolitan Queensland	ü	ü	ü	ü	ü
Energy Australia	Franchise retailer and stapled to DNSP in metropolitan NSW	ü	ü	ü	ü	ü
Eraring  Energy	NSW generator	ü
Ergon Energy	Franchise retailer and stapled to DNSP in regional Queensland	ü	ü	ü	ü
Ferrier Hodgson Electricity	Independent retailer	ü	ü	ü
Integral Energy	Franchise retailer and stapled to DNSP in metropolitan NSW	ü	ü	ü	ü
Jackgreen (International)	Independent retailer	ü
NRG	SA generator	ü
Retailer	Company Background	Licences
		NSW	Vic	Qld	SA	ACT
Origin Energy (including Citipower)	Franchise retailer in metropolitan Victoria	ü	ü	ü	ü	ü
Tarong Energy	Queensland generator	ü	ü
TXU Electricity (including TXU)	Franchise retailer and stapled to DNSP in metropolitan and regional Victoria	ü	ü	ü	ü	ü
Victoria Electricity	Independent retailer	ü
Yallourn Energy (AusPower)	Victorian generator	ü	ü	ü	ü	ü

Annexure 4

Annexure 5

Annexure 6

Annexure 7

Annexure 8

UNDERTAKINGS
BY THE AUSTRALIAN GAS LIGHT COMPANY

1.        BACKGROUND

1.1A consortium comprising The Australian Gas Light Company Limited (AGL), The Tokyo Electric Power Company, Incorporated (TEPCO) and certain financial investors including the Commonwealth Bank of Australia (Financial Investors) propose to acquire the electricity generation business in Victoria currently conducted by the partners in the Loy Yang Power Partnership and known as Loy Yang A, with AGL holding a 35% interest, the Financial Investors holding 30% interest and TEPCO holding a 35% interest in that business.

1.2This Undertaking has been given to the Commission and/or the Court in order to facilitate the acquisition by the consortium referred to in clause 1.1 of Loy Yang A on the basis outlined in clause 1.1.

2.DEFINITIONS

Act means the Trade Practices Act 1974 (Cth).

AGL means The Australian Gas Light Company ABN 95052 167 405 and/or its Related Bodies Corporate.

Aggregate Information means any information:

(a)derived from Confidential Generator Information or Confidential Customer Information (such as a sum, average, statistical analysis, comparison or general qualitative description); but

(b)from which the underlying Confidential Generator Information or Confidential Customer Information cannot reasonably be derived or ascertained.

Business Day means a day other than a Saturday, Sunday or public holiday in Victoria.

Commission means the Australian Competition and Consumer Commission.

Contracted Capacity means Registered Capacity in respect of which a party has a contractual right to control the Dispatch and Market Activities of that Registered Capacity.

Confidential Customer Information means the details (including identity of each counter-party, price, term and volume) of any specific Customer Contracts with the Marketing Management Company, but excluding:

(a)       information which is generally known; and

(b)       AGL’s own Customer Contracts with the Marketing Management Company.

Court means the Federal Court of Australia.

Customer Contract means an electricity derivative contract or power purchase agreement:

(a)       entered into by the Market Management Company; or

(b)considered, proposed or likely to be entered into by the Market Management Company.

Confidential Generator Information means:

(a)details (including identity of each counter-party, price, term and volume) of Dispatch and Marketing Activities; and

(b)details (including quantities, dates and times) of any reductions or expected reductions in the availability of the Loy Yang plant to less than the plant’s Registered Capacity,

but excluding information which is generally known.

Confidentiality Regime means the arrangements described in paragraph 3.6.

Consortium means the structure by which the Consortium Members hold interests in the Loy Yang Business, from time to time.

Consortium Members means The Australian Gas Light Company, Tokyo Electric Power Company and the Financial Investors, or any of their Related Bodies Corporate or successors.

Dispatch and Marketing Activities means:

(a)the determination and management of the scheduling of available capacity at the Loy Yang Plant;

(b)the determination and management of trading, dispatch and re-bidding and contracting strategies;

(c)the placement of dispatch offers and re-bids;

(d)entering into Customer Contracts; and

(e)regulatory policy and dealings with relevant economic and competition regulators (including any issues arising under the Code or the Act) for the Loy Yang Business.

Economic Interest

(a)means interests in a company or partnership, including, shares, voting rights, rights to receive dividends, rights to receive other distributions of income or capital, rights to receive a share of proceeds on winding up; but

(b)excludes:

(i)rights to purchase the interest in the Loy Yang Business or the Loy Yang Assets of a Consortium Member seeking to divest its interest the exercise of which are subject to AGL obtaining approval (on a formal or informal basis) from the Commission or the Australian Competition Tribunal; and

(ii)any rights AGL has to prevent approval of decisions in respect of Permitted Matters.

Financial Investors means Commonwealth Bank of Australia or other equity investors in the Loy Yang Business.

Force Majeure means any event or circumstance not within the control of AGL and which, by the exercise of reasonable diligence, AGL is not reasonably able to prevent or overcome including (but not limited to) the following events or circumstances:

(a)acts of God, including without limitation, earthquakes, floods, washouts, landslides, lightning, storms and the elements;

(b)acts of enemy, wars, blockades or insurrections, riots and civil disturbances or acts of terrorism;

(c)fire or explosion;

(d)strikes, lockouts, bans or other industrial disturbances; and

(e)acts or omissions of any government or governmental agency or authority.

FM Affected Obligation is defined in clause 5.2(a)(i).

Intermediary has the meaning given in the National Electricity Code.

Loy Yang Assets means the electricity generating plant and the coal mine used in the operation of the Loy Yang Business.

Loy Yang Business means the electricity generation business operating in Victoria, known as Loy Yang A.

Loy Yang Consortium Agreements means a Shareholders Agreement, a Partnership Agreement, and any other arrangements between the Consortium Members (or their Related Bodies Corporate) or between entities which manage the Loy Yang Business.

Loy Yang Plant means the electricity generating plant used in the operation of the Loy Yang Business.

Market Management Company means a company appointed in accordance with clause 3.2(a).

Material Change of Circumstances means any matter that causes or results in a material change to the competitive position of the Loy Yang Business or to AGL’s competitive position in the generation or retailing of electricity.

NEM means National Electricity Market.

Permitted Matters means the arrangements described in paragraph 3.4.

Related Bodies Corporate has the meaning given in sub-section 4A(5) of the Act.

Risk Management Policy has the meaning given to it in Appendix A.

Registered Capacity means the capacity, measured in megawatts, of a generator that is registered by the National Electricity Market Management Company Limited.

Victorian Generation Registered Capacity means the total of:

(a)       the Registered Capacity of Generators situated in Victoria; and

(b)the Registered Capacity of Market Network Service Providers with Interconnects into Victoria in respect only of capacity that may be able to be supplied by such Providers into Victoria.

The terms Megawatts, Generators, Market Network Service Providers and Interconnects have the meaning given to them in the National Electricity Code.

3.        UNDERTAKINGS

3.1AGL undertakes that the combined Economic Interest of AGL in the Loy Yang Assets and/or the Loy Yang Business will not exceed 35%.

3.2AGL undertakes that the Loy Yang Consortium Agreements, which it will enter into with the Consortium Members, will require the following arrangements regarding the governance of the Loy Yang Business to be put in place and maintained until these Undertakings cease in accordance with paragraph 4.2:

(a)the Consortium Members will appoint or will procure the appointment of a company (Marketing Management Company) which will be solely responsible for undertaking Dispatch and Marketing Activities as the agent of the Consortium Members.

(b)AGL will be prohibited from having any Economic Interest in the Marketing Management Company.  It also will not enter into any contracts, arrangements or understandings with the shareholders of the Marketing Management Company which would in effect confer on it such an Economic Interest.

(c)The terms upon which the Marketing Management Company is appointed in respect of the matters in paragraph (a) will include a requirement that any dealings between it and AGL are to be conducted at arms length.

(d)AGL will not participate in the appointment or supervision of the executive management of the Marketing Management Company.

(e)For the avoidance of doubt Dispatch and Marketing Activities which the Marketing Management Company undertakes as the agent of the Consortium Members will not give rise to a contravention of this undertaking provided that paragraphs 3.2(a) to (d) are otherwise complied with.

3.3AGL undertakes not to be otherwise involved in:

(a)       the Dispatch and Marketing Activities of the Loy Yang Business; or

(b)any board or management decision-making (including at the level at which AGL holds its Economic Interest in the Loy Yang Business  or at the Marketing Management Company level) in respect of Dispatch and Marketing Activities,

in each case except in so far as the subject matter of the decision-making involves a Permitted Matter.

3.4For the avoidance of doubt, the Consortium Agreements may provide that certain specific matters relating to the conduct of the Loy Yang Business require the agreement and/or participation of AGL.  Those matters are (Permitted Matters):

(a)the financing and capital structure of the Loy Yang Business;

(b)variations to the structure by which the Consortium Members hold interests in the Loy Yang Business;

(c)expansion of the Loy Yang Business and acquisitions, construction and disposals of substantial assets;

(d)appointment or change of auditors for the Loy Yang Business;

(e)distribution policy of the Loy Yang Business;

(f)key corporate changes, including a merger, trade sale, initial public offering, dissolution, suspension or winding up of the Loy Yang Business or constitutional amendments in respect of the Loy Yang Business, except in circumstances where that event would case AGL to breach paragraphs 3.1, 3.2 and 3.3 of these Undertakings;

(g)annual budgets (including capital and operating expenditure) and approvals of expenditures and liabilities outside of budget of the Loy Yang Business;

(h)the Risk Management Policy of the Loy Yang Business;

(i)environmental policies, occupational health and safety policies and industrial relations policies of the Loy Yang Business; and

(j)commencing, defending or settling claims of the Loy Yang Business.

3.5For the avoidance of doubt, AGL may hold an Economic Interest not exceeding 35% in a company which provides the following services to the Loy Yang Business:

(a)management, labour, engineering and other services for the physical day-to-day operation and maintenance of the Loy Yang Assets; and

(b)services in relation to the matters referred to in paragraph 3.4(i).

3.6AGL undertakes that the Loy Yang Consortium Agreements will make provision for the adoption of, and compliance with, a Confidentiality Regime which prohibits AGL having access to:

(a)Confidential Customer Information; and

(b)Confidential Generator Information.

For the avoidance of doubt the Confidentiality Regime does not preclude AGL from having access to Aggregate Information reasonably necessary for AGL to assess compliance with policies regarding Permitted Matters, so long as AGL uses the Aggregate Information solely for the purpose of assessing compliance with policies regarding Permitted Matters.

3.7Notwithstanding paragraph 3.6, if a company is appointed pursuant to paragraph 3.5 then:

(a)paragraph 3.6 does not apply in respect of information which falls within paragraph (b) of the definition of Confidential Generator Information provided to any director appointed by AGL to that company; but only if

(b)any such director has provided a written undertaking to not disclose to AGL, its officers, employees or agents any confidential information within paragraph (b) of the definition of Confidential Generator Information.

4.COMMENCEMENT AND DURATION OF UNDERTAKINGS

4.1Commencement of Undertakings

These Undertakings commence on the date on which the latest of the following events occurs:

(a)their execution by AGL;

(b)their acceptance by the Commission or the Court, as the case may be; and

(c)the completion of the acquisition of the Loy Yang Business by a consortium which includes AGL.

4.2Cessation of Undertakings

These Undertakings cease in the event that any of the following events occurs:

(a)AGL and its Related Bodies Corporate cease to have an Economic Interest in the Loy Yang Business and the Loy Yang Assets;

(b)AGL and its Related Bodies Corporate cease to retail electricity in Victoria;

(c)the aggregate of:

(i)the Registered Capacity of the Loy Yang Business and other Registered  Capacity of any other business in which AGL hold more than a 35% Economic Interest; and

(ii)any Registered Capacity in which AGL has Contracted Capacity,

is less than 20% of Victorian Generation Registered Capacity; or

(d)the Commission or the Court, as the case may be, determines that it is no longer necessary for AGL to keep the Undertaking in place.

5.ANCILLARY MATTERS

5.1Review of Undertakings

(a)If AGL:

(i)is unable to comply with its obligations under these Undertakings; or

(ii)believes it is necessary to seek some modification due to changed circumstances (including without limitation a Material Change in Circumstances,

then:

A.where this Undertaking has been given to the Commission, AGL and the Commission agree that they will review these Undertakings and negotiate in good faith the variation or revocation of all or any of the Undertakings in light of such circumstances having regard to the need to maintain competition in the retail electricity industry in the NEM; or

B.where this Undertaking has been given to the Court, AGL will be entitled to ask the Court to review the Undertakings in light of such circumstances having regard to the need to maintain competition in the retail electricity industry in the NEM.

(b)Paragraph 5.1(a) will not operate in respect of changed circumstances that are:

(i)known to or reasonably foreseeable by AGL at the date of this undertaking; or

(ii)arising, whether directly or indirectly, from an act, matter or thing done by or on behalf of AGL or a failure by AGL to do an act, matter or thing which is within AGL’s control.

5.2Force Majeure

(a)If, and only for as long as, AGL:

(i)is prevented from performing one or more obligations under these Undertakings or parts of an obligation due to any Force Majeure (the FM Affected Obligation); and

(ii)is complying with paragraph (b) in respect of any Force Majeure,

then the FM Affected Obligation does not apply. For the avoidance of doubt, all the other obligations or parts of obligations as the case may be of these Undertakings continue to apply with full force and effect.

(b)AGL must, as expeditiously as possible, use all reasonable diligence and employ all reasonable means to remedy, abate and minimise the scope of any Force Majeure.

(c)If pursuant to paragraph (a) AGL is relieved from an obligation, AGL must notify the Commission or the Court in writing within 5 Business Days specifying:

(i)the FM Affected Obligation and the cause and extent of the non-performance;

(ii)the date of commencement of Force Majeure and its expected duration; and

(iii)the means proposed and adopted to remedy abate and minimise the scope of the Force Majeure.

6.INFORMATION AND REPORTING

6.1The Commission or the Court, as the case may be, may at any time request in writing that AGL provide such written information that the Commission or the Court reasonably requires for the purposes of monitoring compliance with paragraphs 3.1 to 3.4.

6.2AGL must promptly comply with any reasonable requests made by the Commission or the Court, as the case may be, under paragraph 6.1.

7.ACKNOWLEDGMENTS

AGL acknowledges that these Undertakings may be made available for public inspection and may, from time to time, be publicly referred to.

THE COMMON SEAL of THE AUSTRALIAN
GAS LIGHT COMPANY is fixed in the
Presence of:

Signature of Director  Signature of Director/Secretary

Name of Director (print)  Name of Director/Secretary (print)

DATED:

APPENDIX A TO ACCC UNDERTAKING

RISK MANAGEMENT POLICY

The term Risk Management Policy, in the context of an electricity generation business, means a policy document which has the following characteristics:

1.It is a document which records a formal policy adopted by the highest governance body within a business entity (for example a Board of Directors or Partnership Committee).

2.Its purpose is to preserve the value of the business’s assets and ability to deliver budgeted outcomes by:

(a)setting global limits and controls on the business’s exposure to; and

(b)establishing the internal governance structure and management philosophy for managing,

specific categories of business risk.

3.The specific risk areas dealt with would include:

(a)major asset (physical) risk (for example risks of losses arising from poor maintenance on key productive asserts (turbines));

(b)trading risks (price, volume and credit risk) (for example risk of losses from or total contract portfolio exceeding available plant capacity or a disproportionate exposure to spot prices);

(c)operational risk (for example breakdown in human resources, processes or technology); and

(d)legal and compliance risk (for example poor contract management systems, absence of compliance with Trade Practices Act, Corporations Act or National Electricity Code).

4.The global limits and controls may be quantitative or qualitative in nature and would operate to limit or control the total level of risk (often measured in financial terms) that a specific business activity or division may incur.  For example:

(a)trading risk (price and volume) may be subject to limits on the proportion of financial budget forecasts which may be put at risk as a consequences of contract portfolio exceeding available plant capacity or a disproportionate exposure to spot prices;

(b)credit risk (counterparty default risk) would be subject to limits on the financial exposure to counterparties of varying categories of credit worthiness; and

(c)legal contract risk would be subject to requirements on use of ISDA pro forma contracts and ISDA optional force majeure clauses in those contracts.

5.The internal governance structure and management philosophy for managing risks would provide for:

(a)organisational structures which segregated relevant functions (such as staff responsible for trading, transaction confirmation, settlements, risk management, accounting and financial reporting, and internal audit); and

(b)delegations of authorities regarding activities with exposure to specified risks and allocations of responsibility for risk management functions.

6.In relation to trading, credit and legal risk the Risk Management Policy would provide for the delegation to a Risk Management Committee responsibility:

(a)for overseeing risk management operations and procedures (within the parameters of the Risk Management Policy) of activities involving energy market exposure; and

(b)for setting individual trader limits.

7.A Risk Management Policy is not a Risk Management Framework.  A Risk Management Framework, in the context of an electricity generation business, would:

(a)be approved by the Risk Management Committee; and

(b)specify the management procedures, rules and specific controls for implementing the Risk Management Policy.