The Australian Energy
Regulator
Expenditure Forecast Assessment Guidelines
Category analysis – Overheads and
accounting issues
16 May 2013
Agenda
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9:00 9:15 9:30 10:30 10:45 12:15 -
Introductions and objectives
Context and framework considerations
Overheads
Break
Accounting issues
Summary & next steps
2
Where are we today?
20 Dec 2012
• Issues paper
12 Feb 2013
• Initial Roundtable
28 Feb 2013
• Category selection
7/8 Mar 2013
19/20 Mar 2013
• Replacement/Demand
• Connection/Customer driven capex
27 Mar 2013
• Repex/Augex models, demand forecasting
11 Apr 2013
• Opex category assessment
8 May 2013
• Base-step-trend/Productivity change
16 May 2013
TBC (~mid June)
• Overheads, Cost allocation and accounting
• Expenditure setting process
3
Objectives for today
Provide context for overheads assessment
 Test potential assessment methods and
data requirements:

◦ Expenditure categorisations
◦ Normalisations
◦ cost drivers

Explore cost comparability issues:
◦ Cost allocation
◦ Capitalisation
◦ Other NSP reporting inconsistencies
4
Context for today

Overheads, accounting and the incentive
framework:
◦ Opex (including overheads) may be set using
revealed cost
◦ Consistency in ex post/ ex ante capex
assessments
 Dealing with changes to capitalisation policies
 Reporting of related party margins

AER will compare overhead costs anyway:
◦ Opex activities in benchmarking reports
◦ Benchmarking of capex (including overheads)
◦ Capex/ opex category trade-offs
5
Overheads expenditures
6
Overheads – what’s in/ out
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
“Overheads” = anything not yet covered in
workshops
“direct” overheads
◦ functions that are focussed on the management
and general operation of the network
◦ e.g. Network planning and operations

“Indirect” overheads
◦ corporate functions that are standard to almost all
large businesses
◦ e.g. CEO, HR, licence fees

Non-system capex, capitalised overheads
7
repex
augex
Non-system
connections
IT, comms
opex
Land and Buildings
Indirect/
Corporate
Vehicles
Indirect/
corporate
Capitalised overheads
Allocated overheads
CEO/ finance/ HR
Direct
overheads
Licence fees
Billing, customer interface
Network planning &
management
direct
operations
Veg mgt
maintenance
emergency
Expenditure
capex
Direct/
system
8
Opex breakdown, all NSPs
3%
"direct" opex (repairs,
maintenance)
network operating costs
28%
55%
14%
Source: Latest RIN data
other opex (metering,
customer service)
opex overheads (where
listed)
9
Capex breakdown, all NSPs
system capex
4%
89%
11%
1%
2%
IT Systems and
communications
Land
Buildings
2%
2%
vehicles
other
Source: Latest RIN data
10
Previous AER approaches

In opex trends, recognition of:
◦ Correlation to network growth
◦ economies of scale/ presence of fixed costs
Detailed expert review
 NSP justifications

◦ bottom up e.g. CBA
◦ non-bottom up/ modelling
Some benchmarking (e.g. NSW reset)
 Limited consistency and transparency in
reported categories

11
Ofgem’s general approach

Direct overheads = “closely associated
indirects”
◦ 11 sub-categories, eg network design, project
management, control, call centre, training
◦ Grouped according to normalisation “metrics”
 MEAV
 Total network investment
 Total direct costs
 Drivers for the associated direct cost
 Combination of the above
12
Ofgem’s general approach
Corporate / Indirect overheads =
“business support costs”
 Eg HR, CEO, Finance, Property

◦ External benchmarking (ie with other,
unregulated businesses)
◦ NSPs to provide evidence of insourcing/
outsourcing decisions/ business models
◦ Metrics (not drivers) – employee numbers,
revenue, end users (eg IT clients)
◦ Expert review – IT and land
13
Ofgem’s general approach
Boundary issues in direct vs indirect
 Treatment of once-off costs, use of averages
for lumpy costs
 Benchmarking before and after allocations, to
services as well as DNOs in a group
 Choice of metrics & transparency of
assessment

◦ Use of (direct) expenditures as a driver/ metric
potentially rewards inefficient behaviour
◦ “Metrics/ scale factors should be stable over time,
outside the DNO’s control, not collinear with other
measures”
14
Direct overheads (opex)
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Potential categorisations:
◦ Asset/Network Management
◦ Network operations
◦ “other” - Customer service, metering, billing?

Potential drivers - network size/ value?
◦ Undepreciated RAB/ MEAV
◦ Revenue
◦ Customer numbers

Impact of any “uncontrollable” factors as
per direct capex/opex?
15
network ops
45000
40000
35000
30000
25000
20000
15000
10000
5000
0
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
16
network ops per RAB
10,000,000
9,000,000
y = 88.398x + 2E+06
R² = 0.1793
8,000,000
7,000,000
6,000,000
5,000,000
4,000,000
3,000,000
2,000,000
1,000,000
0
0
10000
20000
30000
40000
50000
60000
17
network ops per MEAV
60,000
50,000
y = 0.7476x - 3859.1
R² = 0.4987
40,000
30,000
20,000
10,000
0
0
10000
20000
30000
40000
50000
-10,000
18
"other" opex per customer numbers
1800000
1600000
1400000
1200000
y = 0.6905x + 656762
R² = 0.0083
1000000
800000
600000
400000
200000
0
0
50000
100000
150000
200000
19
"other" opex per revenue
2,000,000
1,800,000
y = 7.471x + 255940
R² = 0.632
1,600,000
1,400,000
1,200,000
1,000,000
800,000
600,000
400,000
200,000
0
0
50000
100000
150000
200000
20
Non-system capex

Potential high level categories:
◦
◦
◦
◦
◦
◦
◦
IT
Communications
Vehicles
Land
Buildings
Furniture, plant and equipment
Other
Drivers - network size, employees?
 Isolating recurrent from irregular costs

21
Non-system capex
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IT – subcategories and supporting data:
◦
◦
◦
◦

recurrent vs one-off
Leased vs purchased
Fixed vs variable
Cost per end user or employee?
Communications - similar points to IT
◦ Hardware vs software
◦ Data vs oral communications
◦ Cost per end user or employee?
22
IT & comms (5 year average) per customer
0.3
0.25
0.2
0.15
0.1
0.05
0
1
2
Source: NSP RIN data
3
4
5
6
7
8
9
10
11
12
13
14
23
Non-system capex

Vehicles – subcategories and supporting
data:
◦ Leased vs purchased
◦ Cost and number of vehicles for:
 Heavy/ light
 Passenger/ commercial
◦ Impact of network area, km of line, employees,
direct capex/ opex “workload”, number of jobs?
◦ Utilisation data – kms, days used?
24
Vehicles (5 year average) per km of line
6
5
4
3
2
1
0
1
2
3
4
5
6
7
8
25
Vehicles per total capex (5 year averages)
0.1
0.09
0.08
0.07
0.06
0.05
0.04
0.03
0.02
0.01
0
1
2
3
4
5
6
7
8
9
10 11 12 13 14 15 16 17 18 19
26
Indirect overheads
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Typical inclusions: CEO, Legal and
secretariat, HR, Finance, Treasury
Not visible in existing reporting
Expect these costs to be largely fixed,
otherwise by FTEs?
May reflect uncontrollable jurisdictional/
regulatory differences
Comparable with competitive firms?
Expensed and capitalised
Cost allocation issues
27
100%
90%
80%
70%
60%
50%
% direct opex
40%
% opex overheads
30%
20%
10%
0%
1
2
3
4
5
6
100%
7
90%
8
80%
70%
60%
50%
% direct capex
40%
% capex overheads
30%
20%
10%
28
0%
1
2
3
4
5
6
7
8
Accounting & reporting issues
29
“Accounting issues”
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Things which detract from like-for-like
comparisons
◦
◦
◦
◦
◦
◦
Capitalisation
CAMs and cost allocation
Related party margins/ fees
Service classifications
Standard voltage differences
Different reporting years (calendar vs financial)
30
Capitalisation
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What’s the problem?
◦ Accounting rules/ discretion in expensing/ capitalising
◦ Policy not currently disclosed/explained by NSPs
◦ Lack of comparability, e.g. in capitalised labour,
overheads

What AER/ stakeholders previously said
◦ Issues paper canvassed possible AER prescription
◦ No support for this (ENA)

Considerations for discussion
◦ If no prescription, what is “transparency”?
◦ New Rules require accounting for capitalisation policy
changes in RAB roll-forward – how to do this?
31
Cost allocation issues

What’s the problem?
◦ Allocation between services and within standard
control categories
◦ Assessment of allocated/ shared costs but also
preserving comparisons of directly attributable costs

What AER/ stakeholders previously said
◦ Issues paper canvassed possible AER prescription
◦ Responses – NSPs do not support single approach

Considerations for discussion
◦ If no prescription, what is “transparency”?
◦ Full visibility (calculations) of overheads allocation
◦ Reconciliation to statutory accounts
32
Related-party margins

What’s the problem?
o
Margins currently assessed through specific efficiency
test
o Require ongoing visibility of amounts

What AER/ stakeholders previously said
◦ Issues paper identified existing approach, noted
potential overlap with capex incentives/ ex post
reviews

Considerations for discussion
◦ Ongoing need for transparency
◦ Differences between ex ante and potential ex post
assessment?
33
Service classifications

What’s the problem?
◦ Differing classifications mainly due to previous
classification under earlier legislation
◦ New services, e.g. AMI in Victoria (from 2016)

Considerations for discussion
◦ Materiality of problem
◦ Visibility and treatment of material differences
◦ CAM issues - visibility of allocations between
services
34
Jurisdictional voltage variation

What’s the problem?
◦ Differing operating voltages may affect cost
benchmarking
◦ Voltage identified previously as a potential cost
driver e.g. capex

Considerations for discussion
◦ Consideration of capex categories that capture
differences
◦ Recognition of materially different conditions
35
Reporting year variations

What’s the problem?
◦ Different regulatory reporting years may inhibit
comparison of expenditures

What AER/ stakeholders previously said
◦ Issues paper suggested long term alignment
◦ Responses questioned materiality in context of
other benchmarking issues

Considerations for discussion
◦ Recognition of lags in some annual reporting/
benchmarking information
36
Summary and next steps
37