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Commission proposes revenues and quality standards for gas pipeline services

10 February 2017

The Commerce Commission has released its draft decisions on the default price-quality paths (DPP) for gas pipeline services. These paths set the revenues and minimum quality standards that four gas distributors and one gas transmission business must comply with for the 5-year regulatory period beginning 1 October 2017.

The Commission’s draft decision would reduce maximum revenues for all regulated gas pipeline businesses by an estimated 18% or $42 million each year, compared with keeping the current revenue limits. A lower cost of capital, which reflects a change in market conditions and recent decisions the Commission made and consulted on, contributes approximately $21 million to the revenue reduction.

The Commission has also proposed limiting future price increases to no more than the rate of inflation for the 4 years from 2018.

Deputy Chair Sue Begg said the draft decision aimed to provide incentives for suppliers to invest appropriately and to ensure that consumers were charged prices that were aligned with the reasonable cost of the services they received.

“The reductions in allowable revenue we have outlined are preliminary assessments that are subject to consultation and further evidence and may change. They have been primarily driven by the fall in the cost of capital and as such would have been anticipated by the affected businesses. Additionally, we have adjusted our approach to how we set expenditure allowances for each gas pipeline business to more clearly take into account their own expenditure forecasts,” Ms Begg said.

The draft decision does not include the expenditure that First Gas forecasts will be needed to future-proof the transmission pipeline at White Cliffs in Taranaki. The Commission’s view is that this project should be addressed separately under a customised price-path.

“Companies that consider their DPP does not properly account for their specific investment needs should seek a customised price path. We believe the scale and risks involved with the White Cliffs project mean it is better suited to this bespoke approach and we will be engaging further with First Gas on this issue.”

The draft decision can be found on the Commission’s website.

Submissions are due by 10 March 2017 and cross-submissions by 24 March.  The Commission will make a final decision on the next default price quality-paths by 31 May 2017.

Background

What are price-quality paths?

Price-quality paths are a form of regulation applied to certain businesses that are regulated under Part 4 of the Commerce Act. They are intended to influence the behaviour of those businesses by setting the maximum average price or total allowable revenue that the businesses can charge. They also set standards for the quality of services that each business must meet. This ensures that businesses do not have incentives to reduce quality to maximise profits under their price-quality path.

For gas pipeline services, there are two types of price-quality paths that suppliers can have. All businesses start off on a ‘default’ path which is generic in nature to provide a low cost form of regulation. If the default path does not suit their particular circumstances however, a business can apply for a ‘customised’ price-quality path. Customised price-quality paths use more business specific information, and rely on more in-depth audit, verification, and evaluation processes.

Which gas companies does the Commission set price paths for?

We set DPPs for the distribution businesses of First Gas, GasNet, Powerco and Vector. Additionally, First Gas has a gas transmission business comprising the Maui pipeline and the transmission assets formerly owned by Vector.

What would the impact of our draft Gas DPP decision be on consumer bills?

Distribution and transmission costs contribute approximately 39% and 7% respectively to an average household consumer bill. We have estimated that our draft decision would reduce consumer bills by approximately 8% in 2017/18. These estimates are based on how much the average 25GJ (gigajoules) per year household consumer pays for gas in Wellington and Auckland. Our proposed price reductions are likely to affect major industrial users and commercial users in different proportions.

What’s the difference between transmission and distribution?

Gas transmission services transport gas to large users of natural gas such as big industrial plants, electricity generators and the gas distribution businesses. Gas distribution services transport gas to smaller users (including domestic consumers) from the gas transmission pipelines.

What are input methodologies?

Input methodologies are the upfront rules, requirements and processes of regulation set by the Commission which underpin Part 4 regulation in the Commerce Act. For example, input methodologies concern things such as the valuation of assets, the treatment of taxation, the allocation of costs, and the cost of capital. We are required to apply input methodologies when setting price-quality paths.

The input methodologies for gas pipelines were first determined in December 2010. In December last year, we completed a statutory review of the majority of input methodologies, which we were required to do within 7 years of setting them. Our decisions on the input methodologies review made some changes to the input methodologies for gas pipelines. We have applied the updated input methodologies in today’s draft decision on the gas default price-quality price paths.

For more information on input methodologies review, including our decisions and reasons, visit the IM review webpage.