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ATTACHMENT 1: ATCO SUBMISSION PROPOSED RULE CHANGES TO
SUPPORT THE INTRODUCTION OF
LEGISLATION TO CREATE A BINDING
RATE OF RETURN INSTRUMENT
PUBLIC 25 October 2018
ii 25 OCTOBER 2018 ATCO Gas Australia Pty Ltd Public
An appropriate citation for this paper is:
Submission to COAG Energy Council
Our Ref: 97804174
Contact Person
Matthew Cronin
General Manager - Strategy & Regulation
Phone: 08 6163 5000
Email: [email protected]
ATCO Gas Australia
ACN 089 531 975
81 Prinsep Road
Jandakot WA 6164
Phone: +61 8 6163 5000
Website: www.atcogas.com.au
Postal Address
Locked Bag 2
Bibra Lake DC WA 6965
TABLE OF CONTENTS
iii 25 OCTOBER 2018 ATCO Gas Australia Pty Ltd Public
Table of Contents
1. Context .................................................................................................................................. 1
2. Proposed rule changes ............................................................................................................ 2
2.1 Rule 87 .................................................................................................................................................................... 2
2.2 Rule 87A .................................................................................................................................................................. 4
CONTEXT
1 25 OCTOBER 2018 ATCO Gas Australia Pty Ltd Public
1. Context
1. The COAG Energy Council Secretariat is seeking comment on proposed rule changes to support the
introduction of legislation to create a binding rate of return instrument.
2. The Secretariat has indicated that the proposed rules remove or amend the NER and NGR that will be
outdated after the passage of the binding rate of return legislation. ATCO understands that the proposed
rule changes include:
removal of the rate of return guideline and calculation of the rate of return from the rules;
amending the rate of return definition; and
amending relevant clauses where the rate of return is referenced, such as the revenue determination,
access arrangement and network tax allowance.
3. ATCO recognises that many aspects of the proposed rule changes are necessary in light of the policy
decision to introduce the binding rate of return framework.
4. However, ATCO is not supportive of the following proposed changes to the NGR:
1. the proposed new Rule 87 – in particular, our concern is with the definition of vt within the new
return on projected capital base formula ; and
2. the proposed change to the definition of ETIt in Rule 87A – in particular the removal of the concept
of the benchmark efficient entity (BEE) from the estimate of the taxable income.
5. The remainder of this submission details ATCO’s concerns with the proposed changes to the National Gas
Rules.
PROPOSED RULE CHANGES
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2. Proposed rule changes
6. The Secretariat have proposed changes to Rules 3, 9B, 72, 87 and 87A of the National Gas Rules. ATCO
recognises that the proposed changes to Rules 3, 9B and 72 are necessary in light of the policy decision
to introduce the binding rate of return framework. However, ATCO does not support the proposed
changes to Rule 87 and considers that no changes are necessary to Rule 87A to introduce the binding rate
of return framework.
7. The following sections detail ATCO’s submission on the proposed changes to Rules 87 and 87A.
2.1 Rule 87
Summary of ATCO’s response:
In relation to Rule 87, ATCO submits:
the proposed drafting of the new Rule 87 is extremely unclear and is likely to have the unintended consequence of removing the capital expenditure incentives that currently prevail in respect of energy networks in Australia
that a simpler set of changes can be made to the existing Rule 87 to support the binding rate of return instrument.
8. The Secretariat have proposed that the existing Rule 87 is deleted and replaced with a new formula for
determining the return on the projected capital base as follows:
RPCBt = rt x vt
Where vt is defined as
“vt is the value, as at the beginning of the regulatory year, of the capital base for the
service provider for the access arrangement, calculated taking into account (in the
same manner as for a calculation of the projected capital base under rule 78) -
(a) the opening capital base for the access arrangement period; and
(b) conforming capital expenditure, depreciation, and the value of pipeline
assets disposed of, in the preceding regulatory years of the access
arrangement period; and
(c) any mechanism included in the access arrangement under rule 82(3) to
prevent the service provider from benefiting, through increased revenue,
from a user’s contribution to the capital base.”
9. The existing Rule 87 does not include such a detailed formula and it is unclear what is intended by this
change or why it is needed. It does not appear to be consequential from the other changes to Rule 87,
nor necessary to support the binding guideline framework. It may be intended to clarify the projected
capital base that the rate of return is applied to, but the drafting, in particular the definition of vt, is
extremely unclear.
PROPOSED RULE CHANGES
3 25 OCTOBER 2018 ATCO Gas Australia Pty Ltd Public
10. Specifically, ATCO has two concerns on the proposed drafting of the new Rule 87:
1. The language in the preamble of the definition of vt –“ ...calculated taking into account (in the same
manner as for a calculation of the projected capital base under rule 78)- is unclear and seems difficult
to apply. The preamble requires the regulator to take into account a number of factors, consistent
with rule 78, but Rule 78 does not include any discretion. It seems difficult to take something into
account which must be applied by another Rule.
2. Of greater concern is the language of sub-paragraph (b) of the definition of vt - “conforming capital
expenditure, depreciation and the value of pipeline assets disposed of, in the preceding regulatory
years of the access arrangement period”. The intention and practical application of this sub-
paragraph is very unclear, in particular:
a) The drafting is inconsistent with the terms used in Rule 78 (Projected capital base) which refers
to forecast conforming capital expenditure, forecast depreciation, and the forecast value of
pipeline assets to be disposed.
b) Conforming capital expenditure is addressed in Rule 79 and identifies the capital expenditure to
be added to the asset base when it is rolled forward from one regulatory period to the next. The
use of the words “in the preceding regulatory years of the access arrangement period” suggests
it may be contemplated that the capital base is to be updated for conforming capital expenditure
(rather than forecast), actual depreciation, disposals etc within the regulatory period. This is not
consistent with the current approach where these adjustments are made when rolling forward
the asset base from one regulatory period to the next.
11. ATCO assumes that it is not intended that the capital base is to be updated for conforming capital
expenditure (rather than forecast), actual depreciation and disposals within the regulatory period, but
the drafting is extremely unclear and difficult to interpret. An approach where the rate of return is
applied to a regulatory asset base updated for actuals within the regulatory period would be of serious
concern to ATCO. The current approach, where the rate of return is applied to the projected capital base,
is part of the incentive framework where networks face an incentive to outperform capex forecasts within
the period and a disincentive to overspend against the capex forecast established at the commencement
of the access arrangement period. The proposed amendment has the potential to undermine the
incentive properties in the current regime, in turn undermining regulatory certainty and stability which
is not in the long term interests of consumers.
12. ATCO submits that the changes proposed in new Rule 87 are very unclear and unnecessary. Instead the
necessary changes to Rule 87 could be made in a very simple way, and ATCO suggests an amendment
along the following lines to the existing Rule 87:
“87 Rate of return
Subject to rule 82 (3), the return on the projected capital base for each regulatory
year of the access arrangement period is to be calculated by applying a rate of
return that is determined in accordance with this rule 87 (the allowed rate of
return) the allowed rate of return for that regulatory year to the projected
capital base determined in accordance with Rule 78.”
[Remainder of Rule 87 deleted]
PROPOSED RULE CHANGES
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2.2 Rule 87A
Summary of ATCO’s response:
In relation to Rule 87A, ATCO submits that the proposed changes are not necessary to support the binding rate of return instrument and may have an unintended consequence of shifting away from the incentive-based system of regulation that has prevailed in Australia for decades.
13. The Secretariat have proposed to redefine the estimate of taxable income from: 1
ETIt is an estimate of the taxable income for that regulatory year that would be
earned by a benchmark efficient entity as a result of the provision of reference
services if such an entity, rather than the service provider, operated the business of
the service provider;
to:
ETIt is an estimate of the taxable income of the service provider for the regulatory
year as a result of relevant reference services; and
14. ATCO considers that this change is not necessary to support the binding rate of return legislation. There
is no reference in the current ETIt definition to the rate of return, or to any other term that would require
a consequential change, nor an explanation as to why this change is necessary.
15. The Secretariat have not provided any additional information why this change is necessary. ATCO’s
concern is that the effect of the proposed amendment appears to be to move away from an approach
where taxable income is estimated by reference to the BEE, to one where it is open for an estimate of
the service provider’s actual tax to be adopted. It is unclear whether this is the intention of the
Secretariat, but the clear change in language highlighted above suggests this is the case.
16. ATCO considers that the proposed removal of the concept of the BEE from the calculation of the tax
building block allows for a fundamental shift to the application of the building blocks methodology to
network regulation in Australia. This change provides for a shift away from the incentive-based system
of regulation that has prevailed in Australia for decades. Cherry-picking the building blocks that are to be
set on either an actual basis or a benchmark basis is likely to undermine investor confidence in the
regulatory framework and dull incentives to seek out and realise efficiency savings.
17. ATCO is concerned that a change to an actual taxable income estimate undermines the stability of the
regulatory framework in Australia and creates a sovereign risk. ATCO does not support the change to the
definition of ETIt in Rule 87A as it considers that it is not in the long term interests of consumers. The
proposed amendments will decrease the likelihood of the national gas objective being met.
18. ATCO is also concerned that this change could create an inconsistency in the calculation of the tax building
block as the value of imputation tax credits continues to be determined by the regulator on a benchmark
basis.
19. The long term interests of consumers is best served by the tax costs incorporated into tariffs reflecting
the tax costs that would be incurred by the BEE. This is to ensure that consumers avoid seeing movements
(up or down) in prices as a result of the individual tax circumstances of a firm. This is illustrated by the
situation where consumers are receiving services from two firms that are identical in all aspects except
1 Specifically, in the definition of ETIt in Rule 87A of the NGR
PROPOSED RULE CHANGES
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their tax arrangements. These consumers should not receive different price signals simply because of the
firm’s different tax arrangements. This example highlights the importance of the incentive regime to
customers (who pay no more than efficient costs) as well as service providers (who are incentivised to
act efficiently).
20. To reiterate, ATCO considers that the existing definition of ETIt can be maintained as part of the proposed
package of changes to introduce the binding rate of return framework. The removal of the concept of
the BEE due to the proposed deletion of Rule 87(3) does not change this. The concept of the BEE can be
maintained within the current definition of ETIt.
21. It should also not be overlooked that the AER is currently undertaking a review of its approach to the
regulatory tax allowance. That review is considering the various approaches available, including whether
an actual tax estimate is appropriate, etc. If there is to be any change to the way in which the tax
allowance (including the estimate of taxable income) is to be derived, that change should follow from the
outcomes of that review.
