On 27 November 2014 the Australian Energy Regulator (AER)
released its draft determinations on the annual revenue requirement
for the regulated "poles and wires" businesses in New
South Wales – the distributors AusGrid, Endeavour Energy and
Essential Energy, and the transmission network operators TransGrid
The AER also released draft determinations for the ActewAGL
electricity distribution business in the Australian Capital
Territory, and the Jemena Gas Networks gas distribution business in
New South Wales.
Proposed revenues versus allowed revenues
Each of the businesses had already lodged their forecast revenue
requirements with the AER for review. Having reviewed those, the
AER makes its draft determination of the maximum allowable revenue
for each business. Here are the total revenue requirements forecast
by the businesses for their regulatory periods, and the AER's
For each of the businesses, the key departures between their
forecast and the AER's draft determination were:
the amount of capital expenditure (capex) forecast to be
required for network augmentation and/or replacement of depreciated
the level of operating costs; and
the weighted average cost of capital.
Rate of return
The rate of return allowed by the AER is based on its estimate
of the average cost of capital of a benchmark efficient entity
running a regulated business. The AER has assumed the benchmark
entity would have a debt/equity ratio of 60/40, and has determined
the rate of return in accordance with its Rate of Return Guideline
(published by the AER in 2013).
For the draft determination, the AER determined an equity beta
of 0.7 and an equity risk premium of 4.55% over the risk free rate.
Applying this to current 10 year bond rates as the risk free rate,
the AER estimated the return on equity to be 8.1%.
For the return on debt, the AER is assuming a trailing average
approach where 10% of the entity's debt is refinanced for a
further 10 years at prevailing rates each year, rather than
assuming that all debt is refinanced on a single day at the start
of the regulatory period. The AER assumes that the benchmark entity
has a credit rating of BBB+.
A significant difference between the AER's debt return
approach and that proposed by the most of the businesses is the
transition from the former debt financing arrangements to the new,
with the AER's preference being to transition to the new regime
gradually, and a number of businesses proposing to adopt the
trailing average debt return immediately, without a transitional
The value of corporate income tax imputation credits available
to shareholders of a business is also taken into account in the
rate of return calculation by the AER. In its 2013 Guideline, the
AER proposed valuing imputation credits at 50% of their calculated
rate. However, for these determinations the AER has adjusted this
Response to AER
The businesses have until 14 January 2015 to revise and lodge
their revenue forecasts with the AER, and stakeholders have until
31 January 2015 to lodge comments on the AER's draft
determinations and the revised forecasts of the businesses.
Clayton Utz communications are intended to provide
commentary and general information. They should not be relied upon
as legal advice. Formal legal advice should be sought in particular
transactions or on matters of interest arising from this bulletin.
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