Electricity Network Costs Review Final Report Independent Review Panel on Network Costs
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Independent Review Panel on Network Costs Electricity Network Costs Review Final Report Independent Review Panel on Network Costs [Page intentionally left blank] Independent Review Panel on Network Costs Preamble Electricity networks are capital intensive, monopoly utilities designed to deliver an inherently dangerous product that cannot be stored. Electricity supply is an essential service. Value for both customers and shareholders is driven by network performance and cost. The focus of network business managers must therefore be to sustainably: • create network capability, at an economic cost, which meets the forecast requirements for security and reliability of supply for existing customers now and for new customers as they connect to the network in the future; and • exercise stewardship of the network assets to maintain network performance and preserve the assets over their design life through efficient maintenance, repair and augmentation. Electricity transmission and distribution assets are spread over an extensive geographic area in an interconnected network. This presents challenges in monitoring network performance and diagnosing asset faults. It also places a premium on effective logistics to deliver resources to the right place at the right time. Supplies of materials, equipment and labour must be moved to locations on the network wherever work is required. Wide geographic coverage leads to variations in customer density and load and hence the service cost per customer or unit cost of product supplied. Uniform retail, and sometimes network, tariff policies designed for social or equity reasons obscure these differences and constrain economic decision making in network investment and energy use decisions. Industrial, commercial, rural and residential customers of the network constitute the general community so that each customer is, at the same time, a representative of 'the community'. Stakeholder management can be complicated by conflicts arising from this dual role of community member and customer. The diagram below illustrates how stakeholder value is created and shared in a business enterprise. Perceived Cost Revenue Benefit The evolution of the National Electricity Market (NEM) in the eastern states has led to the creation of three national market management and regulatory bodies and the promulgation of well over 2,000 pages of legislative and regulatory instruments at both Federal and State levels. As a result, the management of electricity network entities is now overlaid by complex legal and regulatory processes and policy interventions which can blur the accountabilities of boards and executives. The role of economic and technical regulators in determining how value is shared between customers and shareholders is constantly being reviewed, with each change triggering significant cost to industry. The essential capabilities of an electricity network business are: • a transmission or distribution authority (licence); • right of access to easements; ii Independent Review Panel on Network Costs • reliable primary network infrastructure (poles, wires and substations) and secondary systems (protection and communications infrastructure); • a skilled multi-disciplinary workforce; • access to capital; • constructive customer and community relationships; and • positive relationships with shareholders and regulators. The key enablers of these capabilities in an efficient, effective network business are: • load forecasting and network planning; • primary and secondary network technologies; • effective operation of the network; • logistics management; • contract administration; • field work resourcing and management; • regulatory management; • network diagnostic and technical; • asset management; • project management; • relationship management; and • financial management. The Panel has assessed the essential capabilities, processes and outcomes of the NSPs against industry benchmarks and has made 45 recommendations to better meet customer, community and shareholder expectations. iii independent Review Panel on Network Costs Executive Summary In response to the recent history of rising electricity prices, the Queensland Government instituted a freeze on the standard residential tariff for 2012/13 and established the Independent Review Panel on Network Costs (IRP or the Panel) to develop options to address the impact of network costs on electricity prices in Queensland. The review is focussed on the Government-owned electricity distribution and transmission corporations, which are: • Ergon Energy (Ergon Energy Corporation Limited), which owns and operates the electricity distribution network in regional Queensland and the north-west Queensland network around Mount lsa, as well as 34 isolated networks (including 33 small-scale generators) in more remote locations across Queensland; • Energex (Energex Limited), which owns and operates the electricity distribution network in south-east Queensland; and • Powerlink (Queensland Electricity Transmission Corporation Limited), which owns and operates the high voltage transmission network across Queensland, and the main interconnection to the NEM. Ergon Energy and Energex are registered distribution network service providers (DNSPs) and Powerlink is a registered transmission network service provider (TNSP) within the NEM under the National Electricity Rules (the Rules). The NSPs are incorporated under the Corporations Act 2001 (Cth) and are Government Owned Corporations (GOCs) wholly owned by the Queensland Government under the Government Owned Corporations Act 1993 (Qid) (GOC Act). The GOC Act requires GOCs to operate as commercial entities. It also imposes requirements for transparency, accountability, probity in commercial dealings, high standards of ethical behaviour and comprehensive reporting, consistent with their public ownership. Boundaries are set on the extent of Government control and direction, with the Boards and management responsible for implementing specified expectations of the Government as shareholder of the companies. Where Government mandates the provision of specific services that are not commercial, there is a requirement for explicit Community Service Obligation (CSO) payments to be recognised. The Panel has found a trend towards higher levels of involvement by Government in the operations of the GOCs. The capital programs and operating costs of the GOCs have increased sharply and unsustainably in response to prescriptive system design standards, such as the N-1 security standard and the Minimum Service Standards (MSS) imposed by Government. In the network review undertaken in 2004, both DNSPs made submissions that included their concerns that the adoption of the N-1 security standard was not warranted on the broad basis prescribed and would contribute to increased capital and operating costs. The DNSPs also submitted that customers would be better served in some circumstances by improved quality of supply rather than increased security of supply. These standards were originally introduced to improve the reliability of the network but have driven excessive costs and resulted in a degree of over-engineering of the networks. The entrenching of the standards within State licences and through Government direction have also limited the ability of the economic regulator, the Australian Energy Regulator (AER), to adequately assess the prudence of these investments. This constrains the application of the NEM economic regulatory regime to the Queensland NSPs. The Boards and management of the DNSPs amended their capital and operating programs to work towards meeting these standards. The Panel acknowledges the efforts of engineering, iv Independent Review Panel on Network Costs field and support staff in responding to the challenges of increased programs of work. At the same time, staff have delivered improved emergency and fault response. The 2011 Electricity Network Capital Program (ENCAP) Review was, in part, a response to ongoing submissions to Government from the DNSPs for modifications of the strict N-1 requirement. Another factor contributing to the escalation in capital programs has been the consistent over estimation of demand by the NSPs. The Panel also notes that the current revenue cap control mechanism places volume risk on customers. Where demand is over-estimated, capital programs will be excess to requirements and network tariffs to customers will increase during the regulatory control period to ensure the NSPs are able to recover the allowable revenue. Through consultations with stakeholders and discussions with Technical Reference Groups (established by the Panel and comprising representatives from the NSPs), it is further evident that these issues have been compounded by: • an industry engineering culture biased toward expanding the network infrastructure and enlarging the capital base of the NSPs; • a deficient commercial model in that there was no rigorous capital rationing by the Government, as shareholder and provider of capital, to guide investment decisions; and • a regulatory model that limits the ability of the AER to drive the NSPs towards the delivery of efficient capital and operating programs. One outcome has been expenditure on demand management and emerging technologies, much of which has yet to yield commercially viable solutions as genuine alternatives to network augmentation. The level of expenditure in these areas by the Queensland DNSPs is much higher than in the privately owned DNSPs in other States. The primary consequence