Response to 2013 Water Price Review Draft Decision

Transcription

1 Response to 2013 Water Price Review Draft Decision May 2013

2 Contents Overview Service levels Operating expenditure Capital expenditure Demand Annual price adjustments Revenue requirement Tariff structures Prices and customer impacts Draft Decision Page 2 of 37

3 Overview South East Water s response to the Essential Services Commission s (ESC s) Price Review 2012: Greater Metropolitan Water Businesses Draft Decision ( draft decision ) has been written with the ESC as the critical audience. The response therefore does not include the broader context that formed part of South East Water s Water Plan. Rather, the following document seeks to address the particular issues raised by the ESC or otherwise identified by South East Water. South East Water has provided two documents, one to address new customer contributions (NCCs) and backlog charges (including optional accelerated backlog connection) and the other to address all other issues. South East Water s response to the ESC s draft decision addresses the following: Service standards Hardship and customer support programs Cost increases including agency fees, meter reading, electricity costs, superannuation and costs associated with the new Water Regulations Recovery of credit card merchant fees Bulk water including recycled water, rural water, Melbourne Water capitalisation scenarios and the return of desalination over recovery A proposed methodology for managing changes to desalination costs Demand forecasts taking into account further analysis of summer data Tariff structures Customer impacts Overall, South East Water s response to the draft decision proposes a real 24.3 per cent increase on the average customer bill in and no real increases after that time. This increase will need to be adjusted to take into account any amendments the ESC makes to Melbourne Water s prices, the final amount remaining to be returned to customers as a result of the desalination return and the potential impact of capitalisation of desalination charges. In consultation with retail water corporations, Melbourne Water has undertaken further customer engagement to better understand customers views on capitalising a portion of the security costs associated with the desalination plant. South East Water understands that Melbourne Water is exploring options to support more targeted additional hardship programs for customers via the water retailers. We will work with Melbourne Water to further develop this approach, noting support from community groups, and a lack of customer support for capitalisation. South East Water understands that the outcome of the ESC s decision on bulk charges will impact its proposed price path. Therefore, South East Water has requested that the ESC provide an opportunity to be involved in setting South East Water s final prices so that they best reflect its costs and future tariff strategy.. Draft Decision Page 3 of 37

4 1 Service levels 1.1 Core service standards proposed targets South East Water s Water Plan proposed to maintain service levels consistent with the five year average of actual performance for all service standards, with the exception of: unplanned water supply interruptions restored within five hours (per cent) telephone calls answered within 30 seconds, account and fault calls (per cent) complaints to the Energy and Water Ombudsman of Victoria (EWOV) (per 1,000 customers). The Essential Services Commission (ESC) proposed to approve South East Water s core service standards as they were largely based on the 5 year average. Since submitting its water plan, South East Water has reviewed its approach to telephone calls answered within 30 seconds and is proposing to meet a target more consistent with the 5 year historical average. South East Water s customers are seeking a variety of ways to engage with South East Water (e.g. customer portal, website, , social media), which will require a reallocation of resources to support these channels. South East Water is expecting at this stage that online channel methods will have a direct positive impact on service levels. Based on the observed trends and the redistribution of resources to support alternative customer engagement channels, a minor deviation from the 5- year average (95.2 per cent) to 93.6 per cent is proposed for the regulatory period. Table 1-1 Proposed core service standards Core service standard Unplanned water supply interruptions restored within five hours (per cent) price determination Five year average Proposed target Unplanned water supply interruptions (per 100 km) Average time to attend burst and leaks, priority 1 (minutes) Average time to attend burst and leaks, priority 2 (minutes) Average time to attend burst and leaks, priority 3 (minutes) Planned water supply interruptions restored within five hours (per cent) Average unplanned customer minutes off water supply (minutes) Average planned customer minutes off water supply (minutes) Average frequency of unplanned water supply interruptions Average frequency of planned water supply interruptions per customer Draft Decision Page 4 of 37

5 Core service standard price determination Five year average Proposed target Average duration of unplanned water supply interruptions (minutes) Average duration of planned water supply interruptions (minutes) Customers experiencing more than five unplanned water supply interruptions per annum (number) Unaccounted for water (per cent) Sewer blockages (per 100 km) Average time to attend spills and blockages (minutes) Average time to rectify blockages (minutes) Sewer spills contained within five hours (per cent) Customers receiving more than three sewer blockages (number) Complaints to EWOV (per 1,000 customers) Telephone calls, account and fault, answered within 30 seconds (per cent) Additional service standards Based on South East Water s revision of its original proposal around calls answered within 30 seconds, the following table outlines South East Water s revised additional service standards for account and fault enquiries answered within 30 seconds. Forecast backlog connections are also profiled over the five year period consistent with the forecast connection rate. Table 1-2 Proposed additional services standards Service standard Compliance with drinking water quality regulations (per cent) Sewer backlog connections (number) Compliance with environment discharge licence requirement (per cent) Account enquiries answered within 30 seconds (per cent) Fault calls answered within 30 seconds (per cent) target Five year average Draft Decision Page 5 of 37

6 1.3 Hardship and customer support programs South East Water understands that price increases can create financial difficulty and is strengthening its efforts to assist customers facing financial hardship. After consultation with community and social service organisations, customers and other stakeholders through the water planning process, South East Water knows that early engagement is key to working with customers in financial hardship. The South East Water Assist team provides case management for around 1,700 customers experiencing financial hardship. In addition, South East Water has a strong partnership, dating back to 2002, with Good Shepherd Youth & Family Service - a not-for-profit community service organisation. Through this program, customers experiencing financial hardship have access to free independent financial counselling. Good Shepherd Youth & Family Service also provides training for South East Water s staff in how best to support customers experiencing financial difficulties. This alliance will be strengthened further in the next regulatory period and partnerships pursued with complementary support organisations. South East Water s partnership with the Adult Multicultural Education Service (AMES) will be extended. This supports new arrivals from overseas to South East Water s region in understanding water services, their obligations and support available to them. South East Water will continue to offer these programs, but in light of the first year price increase in the water plan and the feedback from stakeholders about general community pressures a significant increase in the volume of customers requiring support is expected. A Vulnerable Customer Taskforce led by South East Water has been formed to oversee an industrywide response to supporting vulnerable water and sewerage customers. The taskforce is made up of senior representatives from Melbourne s water retailers (South East Water, Yarra Valley Water, City West Water and Western Water), as well as CEOs from three social service organisations: Good Shepherd Youth & Family Service, Kildonan Uniting Care and AMES. The group will take a leadership role in determining best practice programs and interventions to assist those customers who have difficulty affording water and sewerage services, and ensuring all customers continue to have access to these essential services. Through the support of the Smart Water Fund, the taskforce has initiated an industry-wide research project to better understand the issues and emerging trends related to residential hardship. An innovation workshop will be held in June 2013 with key stakeholders from a range of sectors to review the findings and help shape effective early intervention strategies and practical customer support programs. Draft Decision Page 6 of 37

7 South East Water will further increase customer support through the following initiatives: Offering residential customers choice in timing of payments fortnightly or monthly to give them more flexibility and budgeting certainty. Giving customers on mysoutheastwater the ability to arrange payment plans and request payment extensions 24/7 without the potential embarrassment of having to speak with someone. Proactive identification of customers regularly requesting more time to pay with outbound contact to establish potential hardship and support requirements. Strengthening partnerships with community service organisations, including financial counsellors, to better understand customers in need and find effective ways to help. Investing in additional training for front line staff to assist customers in need and handle difficult conversations. Contributing to public forums to provide information and resources across a range of topics, such as budgeting and water efficiency. Given the large price increase proposed in , the ESC in its draft decision provided an additional allowance of $1.9 million to South East Water to assist low income and vulnerable customers in managing the proposed price increases. South East Water customers experiencing hardship will appreciate the additional funds. The findings from the industry research project will assist in determining how best to deploy these funds to assist customers experiencing financial difficulties through: expansion of prevention and early intervention initiatives to increase customer awareness of support services review, enhancement and implementation of support services to increase access and assistance for key customer segments most vulnerable to price increases additional resources to manage an expected increase in demand for support services, including processing of Utility Relief Grants and establishing payment plans and referrals to external agencies programs to support vulnerable non-residential customers. Draft Decision Page 7 of 37

8 2 Operating expenditure 2.1 Controllable operating expenditure South East Water s Water Plan forecast controllable expenditure to remain relatively flat over the regulatory period, with savings from centralised office accommodation forecast from South East Water s controllable operating costs per property are therefore expected to decline over the regulatory period. The following section outlines South East Water s response to issues related to its controllable operating expenditure that were raised in the Essential Services Commission s (ESC) Price Review 2012: Greater Metropolitan Water Businesses Draft Decision ( draft decision ) Real cost increases In its Water Plan operating expenditure forecasts, South East Water identified a number of areas where costs savings are projected to be made, and accounted for those areas expected to increase over the period. By passing on the effects of real input price increases and also cost decreases, South East Water will achieve the ESC s productivity hurdle in the regulatory period. It is also noted that the ESC s 2013 Water Plan guidance paper provides for businesses to justify any divergences from business as usual (BAU) expenditure as a result of changes in input costs. South East Water therefore considers that the real input price changes in the areas outlined next can be justified as reasonable divergences from BAU expenditure and therefore should be allowed for in South East Water s operating expenditure forecast. Agency fees South East Water s customers make bill payments through different channels including Australia Post, BPAY, credit card and direct debit. In , South East Water will incur real cost increases due to agency fees on credit card payments, as the fees charged are linked to the amount paid by customers. Credit card payments attract two types of fees, a fixed component known as a transaction cost and a variable component known as Merchant Service Fees (MSF). With a significant price rise expected to be the outcome of the ESC s review, these fees will rise substantially. Based on the expected increase in revenue in , South East Water is forecasting that its merchant service fees will increase by $0.3 million. South East Water is proposing to recover merchant service fees from its customers from An offset for these costs has been included under miscellaneous revenue refer to section for discussion on merchant service fees. Draft Decision Page 8 of 37

9 Meter reading South East Water s meter reading is contracted externally to AMRS (Aust) with a new five-year contract commencing on 1 October Real forecast price increases are based on this new contract, resulting in a step increase of $0.15 million from Given that this contract was not in place in , South East Water considers that the base year is not a reasonable base year from which to extrapolate expenditure for meter reading. This is consistent with the approach PricewaterhouseCoopers (PwC) used to assess other contracts not in place in the year, in its recommendations adopted by the ESC in its draft decision. Electricity cost increases other than carbon tax In its draft decision, the ESC accepted PwC s scenario that allows for real cost increases associated with the carbon price and excluded cost increases for other transmission and distribution network charges. However, as noted by PwC it is clear that over the next regulatory period electricity prices (even excluding the carbon tax) are likely to be materially higher than the base year 1. South East Water considers that given real cost increases such as network costs are outside South East Water s control and will be passed on from its energy provider, it is reasonable that these costs are allowed for in the regulatory period. South East Water has therefore included an adjustment for real electricity price increases other than the carbon price, based on the electricity forecast prepared for the Water Services Association of Australia (WSAA study). This adjustment is consistent with PwC s final report s operating expenditure scenario which allowed for additional electricity costs other than the carbon tax. The WSAA study forecasts for are also consistent with South East Water s current year to date actual expenditure for electricity. Allowance for electricity cost increases other than carbon was also included in Deloitte s recommendations for the regional businesses, which were accepted by the ESC in its draft decision for regional businesses. Table 2-1 Forecast electricity costs increases other than the carbon tax ($ million, 1 January 2013 dollars) $ million Electricity cost increases other than carbon tax PricewaterhouseCoopers, Review of Metropolitan water companies proposed expenditure final findings, April 2013, p.60. Draft Decision Page 9 of 37

10 2.1.2 Carbon tax scope 3 costs Carbon tax scope 3 is related to costs associated with the carbon produced in the goods and services a business consumes in its operations. In its draft decision, the ESC allowed for scope 3 carbon emission costs for Melbourne Water on the basis that they were related to a new obligation. South East Water has reviewed the impact of scope 3 costs using the Integrated Sustainability Analysis (ISA) model developed by the University of Sydney. This model is consistent with the model used by Melbourne Water in its assessment. The ISA model determines the level of emissions produced by South East Water s supply chain. Exclusions have been made for all Melbourne Water scope 3 emissions (included in Water Plan 3 bulk charges) as well as carbon tax exemptions for fuel, and concessions to the Australian steel industry. Based on this model, South East Water s operations will produce 19,023 tonnes of Scope 3 emissions per annum. Based on a carbon cost of $23 per tonne, South East Water is forecasting an additional $0.44 million per annum in scope 3 carbon tax costs Superannuation guarantee levy South East Water s Water Plan identified what it considered to be a new obligation in relation to the intended increase in super guarantee contributions from the current 9 per cent to 11 per cent by the end of the forthcoming regulatory period. The ESC s consultants, as part of their review of South East Water s operating expenditure proposal, provided an alternative view that the legislation implies that the increase in the superannuation contribution should not be funded by an increase in total remuneration. The consultants went on to say that if labour escalation factors were used to determine the increases rather than changes to the Employees Collective Agreement (ECA) rates, then the impact of superannuation contribution increases would have been factored in. The ESC also stated in its draft decision that the Victorian wages policy allows for additional increases to superannuation provisions. As it stands, the ESC has allowed wage increases for South East Water s officer level staff on the basis of its ECA, not independent wage indexation that would reflect the ultimate increase in wages that would result from staff being required to contribute to the increased superannuation percentage. South East Water s ECA was developed prior to the legislative changes being put in place. South East Water has obtained legal advice which confirms that it would be in breach of its ECA should it seek to reduce wages for officer level staff to accommodate increased superannuation payments. Draft Decision Page 10 of 37

11 South East Water s ECA expires in October Should it be the case that in accordance with the ESC s current position, staff are forced to take reduced wages to accommodate the superannuation guarantee payments, staff will look to recover the amount foregone as part of these negotiations, as well as CPI adjustments to preserve wage levels in real terms. This would amount to wage indexation indicated by the consultants as an alternative solution. If South East Water is able to fund the increased superannuation for the period until October 2014, staff will expect to maintain their wage levels in real terms, with additional adjustments to cover the ongoing impact of superannuation guarantee adjustments. Therefore, South East Water remains of the view that the Superannuation Guarantee (Administration) Amendment Act 2012 has the effect of creating step changes in South East Water s wage costs until the superannuation guarantee percentage reaches 11 per cent and is therefore a new obligation. South East Water has included additional costs to meet the super guarantee levy for officer level staff that are paid under the ECA in its revised operating expenditure forecast. Water (Estimation, Supply and Sewerage) Regulations 2013 The Water Amendment (Governance and Other Reforms) Act 2012 means there is now a common operating and governance framework across the Victorian water sector. 2 It converts the three Melbourne water retailers from Corporations Act companies into statutory corporations under the Water Act 1989 ( Water Act ) with accompanying transitional provisions. This creates a more uniform set of operational arrangements for water supply and sewerage services across Victoria. This required the making of regulations to replace part of the Water Industry Regulation 2006 and regional by-laws relating to meters, water supply, sewerage and sanitary works. They will be called the Water (Estimation, Supply and Sewerage) Regulations A key change for South East Water in the regulations is that water businesses will now be required to maintain water service pipes greater than 50mm (except for fire services), where under the current regulations water businesses are only required to maintain service pipes up to 50mm. South East Water has undertaken an assessment of this new obligation and the additional cost associated with the new regulations which are to take effect in South East Water has estimated that it will incur an additional $0.34 million per annum for the additional maintenance and replacement of service pipes greater than 50mm from This new obligation has been factored into South East Water s revised operating expenditure forecast in response to the draft decision. 2 Water Amendment (Governance and Other Reforms) Act Draft Decision Page 11 of 37

12 2.1.4 Recycled water bulk purchases Recycled water bulk costs from Melbourne Water were not included in South East Water s Water Plan. The following table includes an updated forecast of recycled water bulk costs. These costs are based on South East Water s forecast recycled water volumes and Melbourne Water bulk recycled water charge of $99.64 per ML (refer to p.108 of Melbourne Water s Water Plan). Table 2-2 Forecast recycled water bulk charges ($ million, 1 January 2013 dollars) Recycled water volumes (ML) ,075 1,236 1,566 Recycled water bulk costs ($ million) Rural bulk water South East Water has updated its forecasts of operating expenditure and revenue associated with rural bulk water entitlements from its original water plan. The following forecast bulk rural water costs and revenue are based on: a 1.5 per cent per annum real increase in Goulburn Murray Water bulk charges a 15 per cent per annum real price increase in Regional Urban Storage Ancillary Fee (RUSAF) revenue and cost of sales assumptions from the sale of temporary Goulburn Murray Connections Project (formally Northern Victorian Irrigation Renewal Project) allocations. The Melbourne Headworks Bulk Entitlements held by the Regional Urban Water Authorities (RUWAs) connected to the Melbourne System, include an obligation to pay (clause 17) a share of the costs incurred by South East Water for storing water in the Goulburn system and River Murray (Goulburn Murray Water s changes). South East Water has calculated each RUWAs share of costs based on the proportion of the RUWAs entitlement volume to the total volume of entitlements held by the Melbourne Retail Water Corporations. Table 2-3 Forecast rural bulk charges and revenue ($ million, 1 January 2013 dollars) Forecast rural bulk charges and revenue $ million Murray bulk charges Goulburn bulk charges RUWAs share of GMW charges RUSAF GMID Trade Revenue Total rural bulk costs (net of revenue) Draft Decision Page 12 of 37

13 2.1.6 Customer growth adjustment South East Water s water plan financial template used a forecast average annual customer growth rate of 1.4 per cent in the opex productivity growth sheet. The ESC used this to set the baseline operating expenditure forecast in its draft decision. In this response to the draft decision, South East Water has updated customer growth forecasts to an average annual rate of 1.54 per cent for the period to This is consistent with rate of customer growth used to forecast water and sewerage service charges. Table 2-4 Actual and forecast residential customer numbers Average annual growth rate 597, , , , , , , % Note: These customer numbers exclude the additional customers that will receive dwelling based service charges for the first time Merchant service fees South East Water is charged a processing fee (as a percentage of the total bill) when customers pay via credit card. This fee is not currently passed on directly to those customers. Effectively, all customers cover the cost of the processing fees. In its Water Plan, South East Water proposed to pass merchant fees associated with credit card payments directly on to customers from This will encourage customers to consider paying by less costly payment channels such as direct debit. This fee will not increase South East Water s revenue. It will mean that those customers who pay by credit card will cover their merchant fees and other customers will not cross-subsidise them. South East Water has forecast additional miscellaneous revenue from for the collection of merchant service fees directly from customers rather than through the general customer base. South East Water tested this proposal through consultation with customers and key stakeholders on during consultation on its water plan. Customers were generally comfortable with passing on credit card costs to customers directly as long as it was clearly communicated. 2.2 Melbourne Water bulk charges For the purposes of setting prices in its response to the draft decision, South East Water has used bulk charges consistent with the ESC s draft decision. While the ESC s draft decision is based on Melbourne Water not capitalising any of the costs associated with the desalination plant, the ESC reviewed options for capitalisation of part of the desalination security payments so that the costs are recovered over a 50-year period rather than 27 years. The ESC requested that Melbourne Water resubmit its pricing proposal for the recovery of desalination security payments in consultation with the water retailers and end-use customers. Draft Decision Page 13 of 37

14 In responding to the draft decision, Melbourne Water has considered a range of capitalisation options that seek to better balance customer impacts today and in the future, while maintaining financial viability. Melbourne Water also engaged with retail water businesses, customer and industry representative groups and undertook quantitative and qualitative analysis of end-customer views on the options for capitalisation. The views on capitalisation varied from end-customer research favouring no capitalisation (i.e. desalination costs paid for based on the contract timeframe), to representative bodies having strong preferences for capitalisation. Melbourne Water has taken these mixed views into account, as well as its current financial position. South East Water understands that Melbourne Water is exploring options to support more targeted additional hardship programs for customers via the water retailers. This proposal would require further discussion with community groups and the ESC prior to the ESC making its final determination. The benefits of this proposal are that it could potentially provide a larger benefit to those in need rather than a smaller benefit to all customers and will not require Melbourne Water to increase debt levels. We will work with Melbourne Water to further develop this approach, noting support from community groups, and a lack of customer support for capitalisation. Melbourne Water is also presenting alternative capitalisation proposals, which depend on the outcome of the ESC s final decision for Melbourne Water. This option includes capitalisation of costs in the later part of the regulatory period, rather than the initial two years. If capitalisation is included in Melbourne Water s bulk charges in the later years of the regulatory period, South East Water s preference is that its price path reflect its costs, consistent with its original water plan proposal. Therefore, South East Water may need to adjust its forward price path to include a price increase in , followed by small real price decreases e.g. by 0.5 to 1 per cent, from depending on the level of capitalisation. For customers, this would result in nominal bill increases less than CPI. Draft Decision Page 14 of 37

15 2.3 Return of desalination funds From July 2011, money was collected from Melbourne households and businesses through water bills to pay for the Victorian Desalination Plant. Delays in the construction of the plant meant funds collected for desalination payments were not needed at that time and could be returned to customers. Over the course of , these funds have been returned to customers with interest and inflation through a price freeze, a one-off rebate and on application, through a special circumstances process. These mechanisms were designed in total to return as closely as possible the amount that was over collected. However, both the amount required to be returned and the amount actually returned are influenced by customers water consumption patterns. This consumption has been above forecast recently, largely due to weather patterns since late Consequently Melbourne Water and the water retailers have undertaken a reassessment of the likely final position, based on forecast customer demand and return levels. On this basis, South East Water still has $2.2 million to return to customers. This figure will need to be updated as close to end of the financial year as possible. South East Water proposes that this amount be returned to customers as an offset to the proposed price increase during the first year of the regulatory period. This approach is preferred as it will partially offset an otherwise large price increase in Total operating expenditure response to draft decision The following table outlines South East Water s total revised operating expenditure forecast for the period. Table 2-5 Actual and forecast total operating expenditure ($ million, 1 January 2013 dollars) Expenditure South East Water controllable operating expenditure $ million Bulk charges Environmental contribution Licence fees Total Draft Decision Page 15 of 37

16 3 Capital expenditure In its Water Plan, South East Water proposed capital expenditure that largely consisted of programs to provide water and sewerage systems to new development areas and ensure reliable services across South East Water s water, sewerage and recycled water networks. In its draft decision, the Essential Services Commission (ESC) proposed to make no change to South East Water s capital expenditure forecasts on the basis that the forecasts are prudent and efficient. South East Water accepts the ESC s draft decision and is proposing no change to capital expenditure included in this response for the regulatory period. Table 3-1 Total capital expenditure forecast for ($ million, 1 January 2013) Expenditure $ million Water Sewerage Recycling Corporate Total Draft Decision Page 16 of 37

17 4 Demand South East Water s demand and customer numbers forecasts in its Water Plan were developed taking into account the following: indoor and outdoor water usage patterns non-residential water use including industry, and parks and gardens price elasticity and restrictions population growth and housing density alternative water supplies. During , Melbourne experienced hotter and drier weather 3 than expected and as a result, higher than expected water sales. In March 2013, South East Water proposed a revision to its original water plan water and sewerage demand forecasts. South East Water proposed a 2.5 per cent increase to provide a more reasonable estimate of weather normalised usage in , taking into account the additional bounce back in consumption resulting from the easing of restrictions. The Essential Services Commission (ESC) proposed to adopt South East Water s revised demand forecasts, but also requested that South East Water resubmit updated demand forecasts for and any consequential amendments for the third regulatory period, in response to the draft decision sales and impact on period In order to validate the output of South East Water s internal end use models, South East Water engaged Deloitte to undertake a study of the impact of weather on current consumption and provide a forecast of demand for the regulatory period. In its review, Deloitte developed an econometric model to estimate the relationship between consumption and factors such as weather (rainfall minus evaporation), price and level of restrictions. The key outcome of the Deloitte study was that by using its model to forecast overall residential and non-residential water and sewerage sales over the five-year period, resulted in demand forecasts relatively consistent with those proposed by South East Water, though the Deloitte forecasts are slightly lower at the beginning of the period than the figures in the draft decision. Deloitte s forecast sales also increase over time at a greater rate than that proposed by South East Water. Deloitte, however, acknowledge that its model does not take into account potable substitution (from the expansion of South East Water s recycled water network to its growth area and increasing penetration of rainwater tanks across its general customer base) and efficiency gains (e.g. replacement of older dual flush toilets). These factors are included in the South East Water forecasts derived from its end use model. 3 Bureau of Meteorology, Melbourne Metropolitan Area and Environs in Summer , Draft Decision Page 17 of 37

18 On the basis of this, South East Water is of the view that the forecasts it submitted in March remain the best estimate of weather normalised demand for the coming five year period. 4.2 Price elasticity In South East Water s Water Plan, price elasticity assumptions were set based on the water price increases proposed for at that time. Residential and non-residential sales in this proposal have been adjusted to reflect the revised proposed price increases in The overall impact of revised price elasticity assumptions increased total sales across residential and nonresidential customers by approximately 600 ML per annum. 4.3 Total demand forecasts The following tables outline South East Water s final proposed water, sewerage and trade waste demands, customer forecasts and bulk demand for the regulatory period. These are based on the end-use demand assumptions, customer behaviour, bounce back from restrictions, and Victoria in the Future 2012 forecasts. As previously outlined, due to lower than originally expected price increases in , forecast residential and non-residential price elasticity assumptions have been revised. Table 4-1 Forecast customer numbers by tariff category Customer numbers Number of water service customers residential Number of water service customers non-residential Number of sewer service customers residential Number of sewer service customers non-residential 607, , , , , ,830 51,255 52,152 53,042 53,928 54,828 55, , , , , , ,265 46,550 47,447 48,338 49,224 50,123 51,039 Trade Waste Risk Rank 5 9,616 9,808 10,005 10,206 10,410 Trade Waste Risk Rank Trade Waste Risk Rank Trade Waste Risk Rank Trade Waste Risk Rank Number of recycled water service customers residential 5,833 8,713 11,417 14,092 16,602 19,112 Bunyip customers residential Bunyip customers nonresidential Fire service customers 17,793 18,093 18,392 18,692 18,991 19,291 Draft Decision Page 18 of 37

19 Table 4-2 Forecast volumes by tariff category Demand Residential block 1 (kl) 70,951,617 69,639,399 69,400,193 69,779,164 70,120,189 70,331,040 Residential block 2 (kl) 18,479,685 16,604,602 16,505,751 16,629,767 16,726,113 16,755,264 Residential block 3 (kl) 6,912,657 5,743,554 5,708,100 5,700,106 5,694,785 5,690,832 Non-residential sales (kl) 30,653,579 28,881,142 28,447,641 28,689,183 28,939,383 29,017,250 Residential SDC (kl) 62,349,681 67,137,789 67,086,694 67,692,860 68,182,752 68,524,196 Non-residential SDC (kl) 15,597,793 14,891,618 14,710,621 14,838,479 14,970,720 15,101,780 Trade waste (kl) 5,390,855 5,465,512 5,465,795 5,492,674 5,517,646 5,543,275 Billable BOD (kg) 7,848,261 7,952,503 7,952,915 7,992,025 8,028,361 8,065,652 Billable suspended solids (kg) 3,530,946 3,577,174 3,577,359 3,594,951 3,611,296 3,628,070 Billable Nitrogen (kg) 417, , , , , ,138 Volume of recycled water residential consumer (kl) Volume Bunyip Main Race non-residential (kl) 407, , , ,869 1,052,701 1,202,271 75,649 75,649 75,649 75,649 75,649 75,649 Non-revenue water (kl) 13,387,273 13,489,710 13,588,609 13,694,678 13,805,096 13,915,112 Table 4-3 Forecast bulk volumes Bulk demand Bulk water demand (ML) 140, , , , , ,709.5 WTP bulk sewer (ML) 27, , , , , ,353.6 ETP bulk sewer (ML) 80, , , , , ,912.6 Total bulk sewer (ML) 109, , , , , ,266.2 Draft Decision Page 19 of 37

20 5 Annual price adjustments 5.1 Form of price control For the regulatory period, South East Water proposed that its prices be set via a weighted average price cap (or tariff basket), which provides flexibility in making individual price changes during the regulatory period. The purpose of South East Water proposing a tariff basket for the period is to allow flexibility to: rebalance the revenue recovered from water and sewerage tariffs to ensure they better reflect actual costs to provide those services adjust residential recycled water price to maintain an incentive to use recycled water review its inclining block structure and potentially transition away from the inclining block structure accommodate any choice tariffs that may be introduced during the period. Under a tariff basket approach, South East Water would have more flexibility to adjust its tariffs during the regulatory period, subject to the overall revenue constraint in that year, and an upper real price increase limit of three per cent to ensure customers are not adversely affected. South East Water proposes that compliance with the requirements of the tariff basket be confirmed as part of the Essential Services Commission s (ESC) annual tariff approval process. If South East Water seeks to increase individual prices above the upper three per cent constraint, it is proposed that the current determination requirements apply, including ESC approval and further justification of the proposal, supported by a new tariff strategy. This approach has been accepted by the ESC in its draft decision. Draft Decision Page 20 of 37

21 5.2 Managing desalination plant costs South East Water is proposing that any changes in Melbourne Water bulk charges associated with variation in desalination plant costs be passed through South East Water s retail water charges as part of its annual price adjustment process. It is proposed that: any adjustment to South East Water s fixed headworks charges from Melbourne Water related to desalination costs be passed through South East Water s residential and nonresidential fixed potable water service charges any adjustment to South East Water s variable headworks charges from Melbourne Water related to desalination costs be passed through South East Water s residential and nonresidential volumetric potable water charges. This approach ensures that the make-up of fixed and variable desalination cost adjustments is maintained through the recovery via retail charges. South East Water s price control formula included in its current price determination is: ( ) ( ) It is proposed that this annual price control formula be amended to include adjustment factors for changes in headworks fixed costs and headworks variable costs due to changes in desalination contract costs and a cents per kilolitre adjustment for any desalination water order, as follows: 1) ( ) ( ) ( ) ( ) ( ) Where under the proposed tariff basket price control mechanism the following side constraint formula applies: ) ( ) ( ) ( ) ( ) ( ) Desalination contract cost changes Water volumetric charge adjustments As outlined above, South East Water is proposing that any changes in its bulk variable charges due to changes in desalination contract costs be passed through its water volumetric charges by calculating an adjustment factor to account for this change in cost. This approach results in the same percentage adjustment to each volumetric water price. South East Water considers that applying a percentage change is more equitable than applying a $ per kl to each tariff, where under that approach an adjustment for desalination plant costs could result in a larger percentage price change on block 1 compared with blocks 2 and 3. It is proposed that the following formula would apply to volumetric water charges: ) ( ) ( ) ( ) Draft Decision Page 21 of 37

22 Where under the proposed tariff basket price control mechanism the following side constraint formula applies: ) ( ) ( ) ( ) ( ) Where: WV j t WV det, j t-1 DCC t HV is the price for residential block 1, 2 and 3 and non-residential potable water volumetric tariffs j, for component of regulatory year t is the determination price for residential block 1, 2 and 3 and non-residential volumetric potable water tariffs j, for component for regulatory year t-1, adjusted for PPM t-1, and CPI t-1 is the adjustment factor applied to South East Water s water volumetric tariffs, to account for an approved adjustment in South East Water s headworks variable charge, contained in Melbourne Water s price determination, related to a change in desalination plant contract costs. This change in desalination costs may include changes in the security payment costs and any carry forward adjustments from the previous year, where: ) ( ) ( ) ( ) wv det,j t-1 Q wv,j t CPI PPM t A t HV is the determination price for each water volumetric tariff j, in regulatory year t-1, adjusted for PPM t-1, and CPI t-1 is the determination quantity for each water volumetric tariff j, in regulatory year t is determined for the particular regulatory year consistent with the ESC definition is the prescribed price movement for the price component for regulatory year t determined in accordance with section 2 of the price determination is the approved adjustment in South East Water s total headworks variable charges from Melbourne Water s determination due to a change in desalination costs, where: 6) ( ) HV t adj is the water headworks variable per ML charge adjusted for desalination costs in regulatory year t, adjusted for PPM t and CPI t HV det t is the determination water headworks variable per ML charge in regulatory year t, adjusted for PPM t and CPI t Q t HV is South East Water s determination bulk water volumes contained in Melbourne Water s price determination in regulatory year t. Draft Decision Page 22 of 37

23 Water service charge adjustments As outlined above, South East Water is proposing that any adjustment to its fixed headworks charges from Melbourne Water due to a variation in desalination costs would be passed through South East Water s water service charges by calculating an adjustment factor to account for this change in fixed headworks costs. The following formula would apply to South East Water s water service charges: ) ( ) ( ) ( ) Where under the proposed tariff basket price control mechanism the following side constraint formula applies: ) ( ) ( ) ( ) ( ) Where: WS j t WS det, j t-1 HF DCC t is the price for residential and non-residential potable water service tariffs j, for component of regulatory year t is the determination price for residential and non-residential potable water service tariffs j, component for regulatory year t-1, adjusted for PPM t-1, and CPI t-1 is the adjustment factor applied to water service charges associated with the approved adjustment in South East Water s headworks fixed charges from Melbourne Water s price determination due to a change in desalination plant costs. This may include; changes in the security payment costs and any carry forward adjustments from the previous year, where: ) ( ) ( ) ( ) Q t WS,j CPI PPM t A t HF is the determination quantity for each water service tariff j in year t is determined for the particular regulatory year consistent with the ESC definition is the prescribed price movement for the price component for regulatory year t determined in accordance with section 2 of South East Water s price determination is $ approved adjustment in South East Water headworks fixed charges from Melbourne Water s price determination due to changes in desalination costs, where: ) ( ) HF t adj HV t det is South East Water s headworks fixed monthly charge, contained in Melbourne Water s price determination, adjusted for desalination costs in year t, adjusted for PPM t and CPI t is South East Water s headworks fixed monthly charge contained in Melbourne Water s price determination, in regulatory year t, adjusted for PPM t and CPI t Draft Decision Page 23 of 37

24 5.2.2 Desalination plant water orders South East Water is proposing that any changes in its bulk charges due to costs associated with a desalination plant order will be passed through its potable water volumetric charges through adding the required cents per kilolitre for the water order in that year, with reference to the following schedule. The desalination water order adjustment will vary across each water volumetric tariff. ) ( ) ( ) ( ) Where: DWO t is South East Water s desalination water order cents per kilolitre for the water order made in year t costs. It is calculated from the additional bulk charges related to a water order from Melbourne Water in year t divided by the determination forecast number of kilolitres sold to customers in year t. A set of indicative DWO cents per kilolitre adjustments for each possible desalination plant order are outlined in the schedule below. The DWO cents per kilolitre applied to tiers 1, 2 and 3 and the nonresidential volumetric potable price will vary, where the higher tiers will see a higher proportion of the DWO costs. Table 5-1 Desalination water order schedule cents per kl Desalination water order (GL) (cents per kl) 1 (cents per kl) 1 (cents per kl) 1 (cents per kl) Cents per kilolitre applied to tiers 1, 2 and 3 and the non-residential volumetric potable water price will vary, where the higher tiers will see a higher proportion of the DWO costs. Draft Decision Page 24 of 37

25 6 Revenue requirement South East Water s revenue requirement reflects the costs it needs to recover through prices. It includes: the return on South East Water s assets, which is the expected value of its regulatory asset base (RAB) estimated for each year of the regulatory period, multiplied by the weighted average cost of capital (WACC) expected regulatory depreciation of new and existing assets expected total operating expenditure, such as: - water and sewage bulk charges from Melbourne Water - South East Water s controllable operating expenditure - environmental contribution and other licence fees expected tax. The following sections outline the assumptions used to calculate South East Water s revenue requirement for the regulatory period. 6.1 Regulatory asset base As outlined in table 6.1, RAB for has been calculated by: adding actual capital expenditure from each year of the current period to the opening RAB in subtracting actual customer contributions, any government contributions, asset disposals and regulatory depreciation. Given that actual expenditure in is expected to be consistent with the forecast included in the current determination, South East Water has included capital expenditure for consistent with the Essential Services Commission s (ESC) draft decision. However, South East Water agrees with the principle that there may be instances where the final year determination expenditure may not reflect actual expenditure and this should be assessed on a case-by-case basis. Draft Decision Page 25 of 37