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December 2, 2016

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The privatisation debate: Let's settle down Australia

March 9, 2017

My hairdresser (nee financier) recently asked me a leading question.... "with the election coming up you must have a view on the privatisation of Western Power?". Immediately I said "I can't believe energy economics and regulation is finally cool. Are you sure you want to get me started?" and without drawing a breath I launched into the pros and cons of the sale. Once I finished he said something to the effect of "thanks for that but I do have to correct you on one thing - I may have been interested but it's still not cool!".

 

I thought that despite it not being cool, given the number of times I had been asked this very question, I would share my consideration of the issues. My view is informed but quite varied experiences:

 

  • as a former Western Power employee

  • as a former Treasury employee

  • as a current Western Power contractor

  • as a current Western Power customer

  • as a current regulatory expert/skeptic

  • as a current tax payer

  • as a current WA voter

  • as a current WA citizen.

 

Despite these different perspectives and therefore potential for different views on the issues, there is one fact that no one can deny - Western Power is a regulated utility, which unlike any other organisation is almost immune to changes in ownership due to the legislative framework under which it operates.

 

Here are a few facts about regulated electricity distribution and transmission network businesses that hold true through a change ownership:

 

  • Customer prices will not change – Western Power is a monopoly utility business regulated by an independent body. This means that a regulator (currently the WA based Economic Regulation Authority) sets the total amount of revenue that Western Power can recover over a five year or 'access arrangement' period. This effectively limits the amount of profit that any owner can extract from customers. This is in place to ensure that customers of the business are protected from the abuse of market power.

 

  • Customer service levels will not change  The regulatory framework in WA provides a series of financial incentive mechanisms that reward better  and penalise worse than expected system performance from a customer perspective. This will prevent any owner from profiting at the expense of network performance, and contrarily will encourage them to improve performance without spending more than an amount that customers will benefit from.

 

So I hear you ask, if prices won't increase and service levels won't decrease what will happen if the business is sold?

 

This is a tough question and is exactly why the politicians are talking about prices and service - everything is too intangible and dependent on your view of the future of Australia's energy industry. The questions you may ask raise more questions than we can accurately answer......

 

Q: What is the benefit of keeping Western Power?

A: The State Government gets cash as dividends from the profit that Western Power makes.

 

Contrary to popular belief, Western Power does make a profit. Last year it returned $400 million directly to the WA Government. People are right, the customer's cost of electricity is below the supply-chain cost of production. There is also a lot of discussion about government wearing energy business losses but not Western Power’s network business. Whether other loss-making, Government-owned businesses such as Synergy should be sold first is a good question.

 

We also need to consider the future of the State's electricity transmission and distribution network. If one was to expect that the assets will largely become redundant with preferences towards distributed energy solutions and customers being prepared to risk poor reliability by going 'off-grid' without a network connection, then the sale of an asset with a resultant declining value makes huge sense. Alternatively, if we, like all the investors recently snapping-up network assets in other jurisdictions see some value and therefore future going forward, shouldn't we hold that value? The question is what is the longer-term value of Western Power's assets and how does this compare to the current value?

 

Q: What is the benefit of selling Western Power?

A: The State Government receives cash up-front to spend on other 'announcable' projects.

 

The State Government is trying to repair a $3.9 billion hole in the budget with a $3 billion return on the sale of an asset in an attempt to get our AAA credit rating back, among other things. Whether you think the Government should be selling-off the family silver or spending money to make money is a good question.

 

When the $3 billion of sale proceeds are received only some of this will go to the State's budget bottom-line, with the remainder possibly going to fund other infrastructure projects. Whether you think these other projects will actually get off the ground is a good question. Whether those additional infrastructure projects like road upgrades and school expansions will make a better return than the network infrastructure could under a revenue cap structure (at around 6% (nominal after tax)) is another question.

 

The Government is no longer protecting customers by owning and operating Western Power assets, only making money out of them. This also raises the question about whether the Government should be owning and operating a business when privately-owned businesses are prepared to do so.

 

Q: Will the sale of Western Power affect our transition to a low carbon economy?

A: Only to the extent that the overall solution is uneconomic.

 

Many people get Synergy and Western Power confused. So first, let's be clear that we are talking about the poles and wires network and not generation assets. While the issue is more significant for Synergy as the owner of the majority of the State's generation assets, it is also relevant to Western Power in that the network, albeit to a lesser extent, needs to evolve to continue to be able to transmit and distribute electricity from new technologies with different and variable sources such as small-scale solar, batteries, waves, the tide and nuclear. The question is whether a private business is more likely to make decisions that are economic/commercial as they are primarily focused on success and profits of that one business, rather than the broader economic impacts that a Government may be interested in?
 

 

Q: Will the sale of Western Power change the number of WA-based employees in the business?

A: Not necessarily.

 

The owners are able to influence the operation of the business. However, Western Power has recently undertaken a business transformation project which has reduced the number of staff to ensure that it is operating as efficiently as possible. While foreign owners may be more open to sending functions off-shore than the current Western Power Board and sole share-holder - the WA Minister for Energy, the ownership and employment location decisions are not linked by any more than cost factors.

 

Q: Are there other, cheaper ways for the State Government to get cash?

A: Of course, but selling your electricity network business is on trend.

 

There are other Government owned assets to sell including ports, the TAB, Synergy's generation assets, Government owned land and buildings, roads (as tollways) and mining tenements.

 

Other governments have favoured leasing, as opposed to selling, assets.

 

Other governments have sold 100% of the business, rather than offering a majority share, because let's be honest who would buy a non-controlling share of a government asset? But what is the optimal share of any asset to sell? Keeping 49% sounds like hedging your bets to me.

 

 

So where have we got to before the 11 March 2017 election? While the effect on prices and services have been headlining the argument by both major parties, they are irrelevant. There are more important pros and cons that should you should form a view on to work out your own position on the sale of Western Power.

 

For me there are easier, more profitable assets than Western Power to sell but this can only happen once you reduce the uncertainty associated with investing in Australia, Western Australia and in particular the energy sector in the current political environment.

 

Let's settle down Australia!

 

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