department of finance private sector merger briefing merger implementation group 26 september 2013...
TRANSCRIPT
Department of Finance
Private Sector Merger Briefing
Merger Implementation Group
26 September 2013
Merger of Synergy and Verve Energy
© State of Western Australia
Merger Implementation Group
Topics of discussion
Overview Rationale and transaction design Key events in the merger process Reform and market objectives Merger processo Appointments o Consultationo Key dates
Ring-fencing Ring-fencing - structure Information flows o Accessibility and ‘restricted information’ Methodologyo Physical separation and secured access IT
system o Use of ‘restricted information’o Height of ring-fencing
Transfer pricing Mechanismo Non-discriminatory pricingo Standardised, and customised products Methodology o Pricingo Risk allocation
Compliance Penalties Auditing
Merger Implementation Group
Merger Objectives
Reduce costs Security of supply Facilitate private sector investment
A successful merger that meets these objectives needs to provide for transfer pricing and ring-fencing/information protocols
Merger Implementation Group
Generation Activities
• Power stations (operations and maintenance)
Wholesale Activities• Nominations• Fuel management• Portfolio management• Wholesale procurement• Trading with the retail division and third parties
Retail Activities
Franchise
Contestable
Information + MWh
Nominations for MWh
Cost stackCost stack Transfer pricingTransfer pricing
• Third Party generators PPAs• Third party retailers ESCs• STEM and the balancing market
Dai
ly O
per
atin
g A
ctiv
itie
sA
nc
illa
ry
Act
ivit
ies • Organisational
development• Non-energy procurement and facilities
Corporate Shared Services
• Information technology • Communications • Human resources• Corporate risk management
• Planning and strategy• Legal• Regulatory and compliance
• Industrial relations • Accounting and finance• Records and information
* The above diagram is for illustrative purposes only and is not necessarily reflective of the final organisational design or structure for the purposes of accounts/records and financial reporting
Merger Implementation Group
Ring-fencing – ‘restricted information’
Information Who has access?
Who does not?
Reason for restriction Potential structure of restriction
Information provided by a third party generator pursuant to contract (pricing, volume, capacity credits)
Wholesale
Corporate Services
Generation
Retail
Could provide the generation division an unfair advantage in future tender processes
Could provide the retail division with access to information about competitor portfolio positions and costs
• Restrict the use of confidential information• Physical separation of relevant staff (separate office floors with secured access)• Information access controls within IT system
Third party retailer volumes and prices
Wholesale
Corporate Services
Retail Could provide the retail division with a means of undercutting third party retailers in the market
• The wholesale and retail divisions to have separate financial accounts• Physical separation of relevant staff (separate office floors with secured access)• Information access controls within IT system
Third party generation procurement tenders
Wholesale
Corporate Services
Generation
Retail
Could allow the generation division to submit tenders that are commercially better than third party generators
Could provide the retail division with access to information about competitor portfolio positions and costs
• Physical separation of relevant staff (separate office floors with secured access)• Restrictions on the use of confidential information• Separation of wholesale and retail divisional decision makers
Merger Implementation Group
Ring-fencing – key decisions
Key decision Decision maker
Information the decision maker will not have access to
Entering into a customer retail contract
Retail • Existing third party retailer contract prices and volumes held by the wholesale division
Determining the retail price curve
Retail • Existing third party retail contract prices and volumes held by the wholesale division
Pricing and tenders submitted by the generation division to the wholesale division as a part of the generator’s procurement process
Generation • Contractual information between the wholesale division and third party generators• Any generation procurement tenders submitted by third party generators to the wholesale division
The purpose of the aforementioned restrictions is to ensure that certain information is not available to the decision maker when key decisions are made for example:
Merger Implementation Group
Contractual relationship
MWh and fuel costs
Nominations for MWh
Wholesale Activities
Power generation cost stack
Lowest
Highest
Retail Activities
Franchise (cost plus)
Contestable(mark-to-model)
3rd Parties
Note:
All existing contracts with third parties will be honoured and minimum quantities will be nominated
All existing contractual arrangements between Verve Energy and Synergy will effectively fall away from a legal perspective
o Existing contracts between Verve Energy and Synergy will be replaced by internal arrangements between the wholesale and retail divisions (these arrangements will have regard to the terms of existing contractual arrangements)
Standardised/customised products
Buy/sell spread
Audit
Penalties
Generator 2
Generator 1
PPA Commitments & Verve “must-run” generation
Generator 3
Merger Implementation Group
Transfer pricing principles
Principle Purpose Intended outcomes
Non-discrimination • Ensure prices and terms are on a non-discriminatory basis between third parties and the retail division (subject to credit)
• The wholesale division should be equally incentivised to deal with MergeCo’s retail division and third parties, but also to buy and sell (subject to risk policy requirements)
• Sustain competition in the market
• Does not hinder private sector investment
Transparency • Provide adequate information to third parties and broader market to evidence non-discrimination and enable price discovery
• Sustain competition in the market
Cost and risk reflective
• Ensure that the wholesale division is able to recover costs (contractual and modelled) and risks to maximum extent possible
• Allows for transitional considerations for existing PPAs
• Fair value of State’s assets
Merger Implementation Group
Transfer pricing principles (continued)
Principle Purpose Intended outcomes
Market reflective for the contestable market
• Ensure that the wholesale division’s prices are determined on a non-discriminatory and cost reflective basis
• May require a portion of portfolio benefits to be passed through in transfer price
• Sustain competition in market
• Does not hinder private sector investment
Facilitate competition through equitable access to prices and products
• Ensure that the wholesale division provides prices in a timely manner and with other elements (volume, duration, product type etc) that meets market needs (subject to risk policy requirements)
• Ensures that the wholesale division provides market liquidity as required in wholesale market
• Sustain competition in the market
• Does not hinder private sector investment
No cross subsidisation between franchise and contestable
• No cross subsidies between contestable and non-contestable customers
• Sustain competition in the market
Merger Implementation Group
Core operational considerations Take or pay requirements
o Possible transitional adjustment relating to take or pay obligations between the wholesale and retail divisions to facilitate a smoother commencement and assist in alleviating broader market concerns
Energy Trading
o There will be a single trading desk as of 1 January 2014
• The wholesale division will manage the portfolio(s)
• Only the wholesale division will trade in the Wholesale Electricity Market
• The wholesale division will still be required to bid volume into the STEM
• The retail division will not provide nominations in the STEM
o The wholesale division will provide nominations to its generation division and will have full control of its assets subject to operational and maintenance requirements
• The wholesale division bears all the risk and will use the generation division’s plant as required
• Plant outages to be managed between the wholesale and generation divisions
Merger Implementation Group
The transfer pricing methodology
Calculation
A transfer price is theoretically calculated as: o Underlying price + Shape premium + Risk premiums + Profit
margin Elements of a transfer price – price, volume, timeframes, terms &
conditions, process Potential for a segmented approach
o Franchise: cost pluso Contestable: mark-to-model with management judgement
Merger Implementation Group
Core components
1. Standardised/customised products
2. Buy/sell spread
3. Audit
4. Penalties
Merger Implementation Group
Standardised Products
Merger Implementation Group
Customised Products
Electricity, capacity, gas and renewables – ‘bilateral contract style only’
Priced on the requirements and risk of the specific transaction
No buy/sell spread required
Obligation for the wholesale division to provide response within specific timeframes
Arrangements (including volume, timeframe and other idiosyncrasies) to be negotiated
o These arrangements will allow for the formation of structured products (for example load-following products)
Within the first 12 months of operating there will be a positive obligation on MergeCo to investigate the potential to offer financial products
Merger Implementation Group
1 January 2014
o New entity in existence
o Ring fencing
o Non-discriminatory principle
o Customised products - similar process and approach to Verve current offerings
o Audit of compliance & penalties
o The wholesale division is continuing to develop standard products and a new process for offering to market by 1 July 2014
Merger Implementation Group
Merger implementation project phases
Legislation
Regulation
Methodology
Calculation Legislative instruments Regulationso The segregation of functions and reporting of performance is made pursuant to s 62 of the Electricity Corporations Act 2005
(WA)o Prescribes the segmentation of MergeCo’s functions/operationso Provides the broad mechanics for ring-fencing and transfer pricing Subsidiary instrumentso Outlines the methodology for ring-fencing, transfer pricing and standard productso Setting of the capacity cap via Ministerial Directions
Compliance Regime External auditingo An independent authority will be responsible for independently auditing compliance with the regulatory regime Penalties for non-compliance to regulationo An appeals mechanism will be established
Merger Implementation Group
Objectives
Objectives Achievement of objectives
Cost reductions Corporate overhead savings Portfolio optimisation Maximisation of fuel purchasing and fuel aggregation opportunities
Security of supply Maintained
Private sector investmentNo discrimination or misuse of informationNo price shocks
Structure Transition to new arrangements
- Non-discrimination- Ring-fencing- Transfer pricing - Compliance regime
Merger Implementation Group
Key messages
1. Start 1 January 2014: ring-fencing and non-discriminatory pricing in place
o From 1 January to 1 July 2014 MergeCo will continue to offer wholesale products in the same manner as Verve did (prior to the merger)
2. 1 July 2014: standardised products with protocols
3. Buy/sell spread is not a market – it facilitates price discovery and keeps prices efficient
4. Standardised/customised products are not a market
Merger Implementation Group
Feedback and consultation
The Merger Implementation Group is open to feedback and to engage in consultations any time prior to COB 8 October 2013
Key contact people Peter Oates
o Email: [email protected] Mobile: 0414 690 341
Ray Challen o Email: [email protected] o Mobile: 0408 321 262
Simon Middleton o Email: [email protected] o Mobile: 0409 581 482
Merger Implementation Group
Questions