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Regulator slashes network spending, ignores solar, storage

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The Australian Energy Regulator has continued its hard-line attitude to proposed spending by Australia’s grid operators, cutting their proposed budgets by around a third. But it has again ignored proposals that would look to use distributed generation – solar and storage – to reduce demand peaks.

The AER on Thursday delivered its final decision on networks in NSW, Tasmania and the ACT, and also issued preliminary decisions on network spending in Queensland and South Australia.

The big news is that on NSW, it has barely budged from its initial decision last November, when the grid operators wanted to boost spending by as much as 50 per cent, but were slapped down by the AER. It has allowed more expenditure than in its preliminary ruling, but offset that by imposing a dramatically lower rate of return on equity.

The AER argues that the level spending by networks – which has results in huge increases in  bills in recent years – is un-necessary and its ruling will result in significant savings by consumers. It accuses them of having over-optimistic demand forecasts and for being too conservative on risk management.

The networks argue that the budget is not sustainable and will result in thousands of job losses. The NSW government is also facing lower returns on its proposed lease because of the smaller budgets.

Last November, we noted the difference between what the major grid operators in NSW proposed, and the initial ruling by the AER.

aer draft

This table shows that many of the grid operators adjusted their proposals in the wake of that ruling, but the AER – despite intense criticism from the network sector – has basically refused to budge, allowing an extra $100 million or so to two of the network distributors, and just and extra $11 million to Ausgrid.

Network business Segment Business revised proposal AER final decision Percentage difference Expected bill reduction for average household in 2015-16
ActewAGL Distribution $863 million $591 million -32 per cent $112 (5.8 per cent)
Ausgrid Distribution $9754 million $6576 million -33 per cent $165 (8.0) per cent
Endeavour Energy Distribution $4441 million $3183 million -28 per cent $106 (5.3 per cent)
Essential Energy Distribution $5546 million $3826 million -31 per cent $313 (11.9 per cent)
TransGrid Transmission $2906 million $2189 million -25 per cent $25 (1.1 per cent) for both TransGrid and Directlink combined)
Directlink Transmission $79 million $69 million -12 per cent $25 (1.1 per cent) for both TransGrid and Directlink combined)

The AER says that this will deliver savings of between $106, or 5.3 per cent, for customers of Endeavour and $313 a year or 11.9 per cent for customers of Essential Energy. Ausgrid customers around Sydney and Newcastle stand to save $165, or 8.0 per cent.

AER chairwoman Paula Conboy repeated her assertions that the distribution businesses in NSW and the ACT are not operating as efficiently as other networks.

“The demand for electricity has fallen and is expected to remain reasonably flat over the 2015 to 2019 regulatory control period,” she said in a statement.

“This puts less strain on the network and requires less investment to provide a reliable supply of energy.” She said the final ruling ensured that only “prudent and efficient costs” are recovered from consumers. Any extra costs will need to be funded by networks, not customers.

This graph here, relating to Ausgrid, show the proposed changes, compared to previous regulatory rulings, and the difference between what Ausgrid wanted to spend in the next five years, and what the AER has allowed.

ausgrid

The AER has also taken a similarly tough ruling on the proposed expenditure from the network operators in Queensland and South Australia.

SA Power Networks will be allowed to recover revenue of just $3.2 billion over the next five years, compared to its proposal of around $4.75 billion. The AER says this will lead to bill reductions of $197 (or 9.8 per cent) in 2015–16.

In Queensland, the AER proposes to cut the budgets of Energex, which looks after Brisbane and the south-east corner, and Ergon, which covers the rest of the state, by around one quarter.

Network business Business proposal AER preliminary decision Percentage difference Expected bill reduction for average household in total over 2015-20
Energex $8432 million $6528 million – 23 per cent $132
Ergon Energy $8242 million $6022 million – 27 per cent $132

And the AER has slashed the allowable rates of return on the networks. This was much criticised in the past, because even government owned entities in NSW and Queensland were allowed double digit rates of return, and consumers were paying for it.

aer rates of returnThe AER has now slashed these returns to below 6 per cent in some cases, where the networks wanted to retain double digit returns.

But it is on the question of new technologies, and reducing peak demand, that may cost consumers more in the long term. All the major networks have proposed spending under what’s called the Demand Management Incentive Program.

Essentially this deals with means of cutting peak demand – use of more efficient air conditioners and pool pumps, timers and other technologies.

But it is also critical to provide incentives for combining new technologies such as rooftop solar and storage, or to put storage at the network level. The results of trials such as the Solar Cities program at Magnetic island and elsewhere – which have combined energy efficiency, solar and storage – have shown how effective that can be in deferring, or even eliminating, network expenditure.

The networks, and the AER appears to agree, that the current regulations do not provide sufficient incentive to pursue these new ideas and technologies, remembering that the culture around many of these organisations is also wedded to the past.

But the proposals made by the networks have been rejected. The AER says the Australian Energy Markets Commission, which sets tariff policy, is still considering proposals on how non-network alternatives to simply building more poles and wires should be dealt with. (It’s been doing this for at least three years).

Such is the slow pace of change in Australia that the result is that Australian networks have a derisory $4 million of allowed spending on demand management – compared to some $6 billion a year in the US.

The AER decision has also been criticised by the Greens, with NSW leader John Kaye saying the ruling will decimate job numbers, and will simply result in less investment and less skilled workers, being able to deal with the new technologies in the future.

“Electricity prices might fall in the short term but within five years NSW will be saddled with a skills deficit that will condemn the state to becoming an energy technology backwater,” Kaye said in a statement.

“Hollowing out the distribution and transmission workforce to create a temporary dip in power bills represents the worst kind of short term thinking. “In the short term, reliability and service quality will suffer. In the longer term, the state will be badly left behind in the global move to smart grids, local renewable energy trading and household energy storage.”

In the past regulatory rulings made 5 years ago, the AER was criticised for spurring the opportunity to move to a smart grid, and simply incentivising a bigger and dumber grid. The critics will now say that the AER is taking steps to make the grid smaller, but not any smarter.  

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  • barrie harrop

    too little too late.

  • Gramus

    The role of the AER is to assess the prudence of regulatory submissions made by network companies. They don’t have a role in the deployment of new technologies. That is something for other parts of government (i.e. the AEMC/government departments).
    So your criticism that the AER had somehow not done what it should have r.e. storage is not a fair one.

    • ALchemyst

      I disagree Gramus. The AER should take a view of what the cheapest way to meet the needs of the customers of the utilities. If distributed generation/storage/Demand Management is the cheapest, they should make that the benchmark. A little simplistic as it needs to be then enshrined in the NEM Rules but broadly I don’t see a conflict here.

      • Gramus

        The AER could use the benchmark but such an approach would represent extraordinarily poor regulatory practice inviting legal challenge.

        Regulators have neither the information nor the skills to achieve efficient outcomes by dictating technology choice.

        This is an area which requires sound public policy. Not activist regulation.

        • JonathanMaddox

          It’s debatable that “regulators have neither the information nor the skills”, since acquiring both is easy, but then so could the utilities themselves acquire it if they cared to!

          Generally speaking, of course, your position is the right one. It’s a question of policy. Priorities should be set by the people elected to make the rules, not by the bureaucrats employed to enforce them.

  • ALchemyst

    Not yet Victoria Giles. That’s only just beginning.

  • Ken Dyer

    It was the right decision to cut network spending thus slowing the the price rises off the last 5 years or so, despite the fact that Australia is a major gas and coal producer. But it is dishonest of the power supply companies to try and send the Australian consumer on a guilt trip by threatening job losses, which is a standard reaction to decreasing revenue.

    But now these companies are about to face an uncomfortable truth that is about to make them obsolete. The cost of solar without subsidies and assisted by battery storage will reach grid parity with the fossil fuelled energy producers within the next year or so. Recently, Germany let several tenders to build large solar installations for 10 cents a kilowatt, which is less than fossil fuelled energy suppliers can produce it for in Australia.

    This is what the AER has not given due credence to, that the utility business model is obsolete, and for these large central utilities, the end is near. What is starting to happen in Australia has already occurred in Germany, where peak power prices dropped by 80% in 5 years. The distributed nature of solar is driving this just as it will disrupt wholesale electricity markets.

    Solar PV has delivered reduced cost energy to over 1,000,000 homes, 11% of Australia’s residential power market in a little over 4 years. It is only a matter of time before real estate agents and property managers wake up that installing rooftop solar even without subsidies on all new houses (and existing ones) is a surefire way to increase the value of the house asset. Then watch the AER take notice.

    • john

      I will be looking for a house with at least 5kw of PV as my next buy.

    • JonathanMaddox

      It’s not at all true that fossil-fuelled electricity costs over 10 cents per kilowatt hour. *New* fossil generation might cost something close to that, but we aren’t building any. Incumbent, already-amortised fossil-fuel generation equipment, especially that which burns low-price fuels like lignite (which lacks a competitive market, each mine being dedicated to a nearby power station and with no demand for shipping it abroad) is still much, much cheaper, discounting externalities.

      • Ken Dyer

        I am glad you brought that up, Jonathon, particularly your point about already amortised fossil fuel generators that are cheaper to run. So if we discount taxpayer subsidies paid to fossil fuel burners and compare apples with apples, i.e capital equipment amortised for both solar and coal, could you still contend that coal is cheaper than solar?

        It isn’t because the marginal cost of running solar is nearly zero, because sunlight is free, whereas you still have to dig, process and burn coal, an unavoidable cost overhead (and pollution cost which is never taken into consideration nor quantified).

        You just cannot discount externalities out of hand, because someone has to take responsibility. Thanks to the generous provisions of Greg Hunts’ useless so called Emissions Reduction Fund, the coal burners are still getting away with spewing tonnes of CO2 into the atmosphere, so they and the Abbott Government are again shifting the burden onto the poor bloody taxpayer.

  • From the Draft Decision to the Final Decision, the AER have gifted the NSW network businesses $500m+ (OPEX), $1.2Bn+ (CAPEX), $500m+ (Revenue) and ~$1.4Bn (RAB) ($2014 real dollars). This has been offset by a lower rate of return on capital – due to a lower risk-free bond rate (the costs to borrow money) – for which the AER has little sway over. As a result, NSW consumers will not receive the sort of network price reductions which should be occurring in an era of falling network demand and been the beneficiary of exorbitant allowances in years gone by.

    Even more troubling is the AER’s decision to provide them a cost of debt of 6.51% while SA Power Networks receives 4.35% – increasing its cost of debt allowance and reinforces another lost opportunity for network price reductions for businesses and households whom ultimately bear these costs. Let’s not pop the champagne bottle for this, the ‘toothless tiger’ has yet to grow its teeth.

  • Jacob

    Why not ban gold plating, and thus force the grid to install storage to cope with the peak?

    • john

      In some areas in fact they are using storage to mitigate the demand and are proactive in this area.

      • Jacob

        Ban the construction of peaking gas fired peaking stations.

        • Steve Young

          Why? Any company building a peaking plant wears all the financial risk.

      • JonathanMaddox

        Utility-owned storage, I’m afraid, would be part and parcel of what’s considered “gold plating”.

        • Ken Dyer

          Jonathon, the definition of gold plating is the excessive expenditure by electricity networks on poles and wires to increase their revenue (under the National Electricity Market regulatory framework, the more the power companies
          spend, the more they get paid). One would have thought that regional utility owned storage would tend to reduce “gold plating”.

          • JonathanMaddox

            “Gold plating” has been a term of art amongst economists for decades, referring to the tendency of regulated businesses to over-capitalise when their revenues are regulated to permit them a given rate of return on capital assets (and of course of government enterprises to over-capitalise similarly under comparable circumstances). “Poles and wires” are a classic example but the term has general application to any regulated capital-intensive infrastructure including power generation, telecommunications, water supply, toll roads and even parks. A more formal name is “the Averch-Johnson effect” after a 1962 paper, but it’s been called “Gold-Plating” at least since the late ’70s if not longer. See eg.

            The Gold-Plating Controversy: A Reconciliation by Charles W. Needy
            Southern Economic Journal, Vol. 45, No. 2 (Oct., 1978), pp. 576-582
            Southern Economic Association
            http://www.jstor.org/stable/1057685

            Now of course regulated utilities should be encouraged, for the sake of greenhouse emissions reduction, to spend their generous capital budgets on low-cost, low-emissions intermittent generation and complementary storage, rather than on unnecessary equipment like substations that never get wired up. Different regulations (a carbon price, for instance) would likely ensure that that happened. But any regulatory disincentives to “gold plate” will necessarily reduce all kinds of capital spending by utilities, not just “poles and wires” specifically.

            That’s a pity, because utility businesses and public enterprises have a much lower cost of capital than families and small businesses, who are the ones being encouraged most strongly to invest in solar generation and complementary power storage.

          • Ken Dyer

            Jonathon, back on topic, it seems you contend that existing utilities will merely “gold plate” the opportunity to install storage on their networks, rather than change their business model or modus operandi.

            I disagree and this article tells why:

            http://reneweconomy.com.au/2014/fossil-fuels-utilities-petrol-cars-to-be-obsolete-by-2030-2030

          • JonathanMaddox

            Utilities are *regulated* to take revenue plus an allowed markup according to their expenditures. If they spend more, they make more money, it’s as simple as that — and the present measures by the regulator to reduce gold-plating amount to nothing more than turning down permission to spend over and above minimal maintenance costs.

            Changing their business model or modus operandi is not within the remit of the regulator. It’s up to the utilities themselves to see the light, or for politicians to change the regulatory environment.

  • john

    I think the regulator has made decisions on available evidence and that is that there is no longer an increasing demand for power and they have looked at the incidence of distributed power generation which is helping to lower the demand.
    However until battery back up comes into the mix the real peak in the evening will substantially stay the same, once this happens there will be another drop in peak demand and an overall lowering in total utilisation of power this is going to cause some losses for over capitalised networks.
    In the very near years there is going to be a price point where going off grid will be the better course of action this is not exactly many years away believe me.
    The real story to come out of this decision is that the regulator has realised the impact of distributed energy and are not allowing the types of expenditure that were just passed through in the past.

  • Mike Dill

    The AER is mostly correct in reducing utility spend, if for the wrong reasons. As stated in other comments below, storage and more pv will continue to erode the demand peaks. While it would be more effective for these resources to be deployed where they were needed most, we will end up with a situation where those who can afford the resources will spend to reduce their bill.
    The smart grid will happen, but it will be local and perhaps individual. It will be ‘micro-grids’ that will soon be able to exchange some information. The change will start at the bottom and work its way up the chain.