DATE: 21 August 2012

Determining the Regulatory Asset Base

Anthony Felet – Regulatory Finance Specialist

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Agenda

1. Understanding the RAB

2. Asset Valuation – different approaches

3. Practical challenges with MEA/DORC

4. Suggested approach for MYPD 3

Starting value

Rolled forward mechanism

Works in progress

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Understanding the RAB

• The Regulatory Asset Base (RAB) comprises of the value of the property, plant and equipment used to provide the regulated services

• Typically regulators apply the following principles for RAB:

Includes only assets necessary to provide regulated services

Based on the residual (depreciated) value of fixed assets

May include allowance for net working capital

Any capital contributions (external funding, subsidies) from customers or government/government agencies are excluded

• For capital intensive regulated entities, the RAB multiplied by the cost of capital will comprise a significant portion of the revenue allowance

Accordingly, a high level of scrutiny of its value is required at each MYPD

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The RAB in tariff determination

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Opex Capital costs

Revenue Requirement

Regulatory Asset

Base (RAB)

Rate of Return

(WACC)

Revenue Requirements = Opex + Depreciation + (RAB @ Rate of Return)

Operation and

MaintenanceManpower Primary energy Return on AssetsDepreciation

Components of the RAB

Regulatory

Asset

Base

Existing Assets

New

Investments

RAB roll forward

/ revenue re-setting

Depreciation

Capital Contribution

Working

Capital

Construction

Works in

Progress

RAB Closing Value =

RAB Opening Value

+ Investments

– Depreciation

– Asset Disposal

+/- Change of Working Capital

+/-Change of Capital Contribution

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Asset valuation approaches

Cost based approaches are appropriate for regulatory tariff purposes, however, the lower bound should reflect deprival value

Wide range of valuations are possible!

Asset Valuation Methods

Cost based Value based

IHC DRCHC DORC/MEADCF

value

Deprival

value

Market value

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Practical challenges with RC/DORC/MEA

• Requires a degree of subjective judgement:

The appropriate level of capacity

The technology to be assumed for replacement

Criteria to be used to optimise the assets

The extent to which the assets are aggregated

• Requires considerable input in terms of manpower and financial costs - require expert advice e.g. from engineers and valuation experts

• Given the above:

High likelihood that MEA/DORC values will vary significantly from one valuation firm to the next, one control period to the next

Difficult in assessing whether redundant assets have been excluded from the RAB

Information asymmetry that regulators normally operate under makes regular and robust MEA valuation unviable and unrealistic

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Suggested approach for MYPD 3

• What is the appropriate starting point for MYPD 3?

Recorded values in asset register uplifted to movements to inflation

An independent DORC valuation, excluding redundant assets

Present market valuation

• RAB should be rolled forward from one MYPD period to the next according to:

Actual capex and depreciation

Movements in the US electricity capital cost index (adjusted for $US/ZAR exchange rate movements)

Working capital movements

Works in progress excluding capitalised interest

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