ࡱ> ;=89:!` bjbj\\ .T>> [...B8jBh"$h`\...4JΜΜΜT..ΜΜΜ4.. p!) X>;L Ozh|.cxΜn,j^pBB $:F8BB FBBB...... Submission to Water Charge Rules Issues Paper for Charges Payable to Irrigation Infrastructure Operators From the Queensland Department of Natural Resource and Water July 2008 Part 1: Introduction This submission sets out the Queensland Governments response to the issues raised in the Water Charges Rules for Charges Payable to Irrigation Infrastructure Operators, the Issues Paper. This Issues Paper refers to fees and charges payable to operators of irrigation infrastructure. After discussions with the Water Branch of the ԭ, it is the Queensland Governments understanding that the Issues Paper refers solely to water delivered through an irrigation infrastructure operators irrigation distribution network for irrigation purposes. This application of the definition of regulated charges under Section 91 (1) of the Water Act 2007 (Cth) requires clarity given that water storage and delivery of water are both captured as water service infrastructure. A second Issues Paper, Water Charge Rules for Bulk Water, covers water taken from rivers for irrigation purposes. The Queensland Government will also be making a submission on this second Issues Paper. SunWater, the main irrigation provider, provides water to both channel and river irrigation customers from the same storage, they have the same cost base and they also use the same methodology to work out the charges for both irrigation customers. Therefore, the Queensland Governments submission on the Issues Paper on the Water Charge Rules for Bulk Water will build on what are preliminary comments on issues in the Irrigation Operators Issues Paper except on termination fees. It will be important therefore that both Queensland submissions be reviewed in their totality. Overview of water supply arrangements in Queensland The Queensland Water Act 2000 (Water Act) establishes a water planning process, under which strategic water resource plans (WRPs) are developed for a catchment and implemented through a resource operations plan ( ROP). The implementation of the ROP creates tradeable water allocations, separate from land title, and specifies relevant trading rules amongst other matters, that are designed to protect the environment and third parties. The supplemented (or regulated) water supply schemes are managed by a headworks infrastructure operator under a resource operations licence (ROL) or an IROL, in areas where a ROP or IROL has been implemented, or under an interim resource operations licence (IROL) in other areas. In Queensland, delivery of water is supported by a supply contract with the water storage infrastructure operator, that is the holder of the ROL or IROL. The delivery contract with the ROL or IROL holder (for example, SunWater) defines the service standards and delivery conditions as well as the rights and payment obligations of the water allocation holder. In a supplemented water supply scheme, the ROL may not only distribute water to a customer/water allocation holder on the river but also to a customer/water allocation holder on the off stream channel network. In this case, the ROL holder has a supply contract for the river supply and a separate supply contract for the channel distribution. Under a WRP or ROP, in the case where the channel distribution network is not the ROL holder, the channel distribution infrastructure operator holds a distribution operations licence (DOL) which authorises the distribution of water. The DOL holder and the water allocation holder have in place separate distribution arrangements to the ROL holder. Under the Water Act 2000, there is an obligation on the holders of water allocations distributed water by a DOL holder to pay the DOL holder a charge relating to the distributions costs and works. This arrangement is reflected in the DOL holders distribution arrangements with the allocation holder. A water allocation managed under the DOL has an administrative advice recorded on its title (in the Water Allocations Register) stating the allocation is one to which a DOL applies. This makes it known that the DOL holder can require a charge from the allocation holder. This charge allows the DOL holder to account for its ongoing fixed costs even if the water allocation is transferred out of the DOL holders distribution network. The obligation continues until the DOL holder agrees that the obligation has been satisfied, and if satisfied, the administrative advice is removed from the water allocation title. Murray Darling Basin Catchments in Queensland Within the Queensland MDB catchment, the water planning process has been completed for these catchments: 1. Border Rivers March 2008, 2. Warrego, Paroo, Bulloo & Nebine (January 2006) 3. Moonie (January 2006) The draft Condamine Balonne ROP, released in July 2007 has yet to be finalised. Within these water planning areas, the major infrastructure water provider of rural irrigation water is SunWater, a company government owned corporation. SunWater owns and operates a regional network of water supply infrastructure throughout Queensland where it provides water services to about 5500 irrigation, urban and industrial customers. Three other small water irrigation infrastructure operators in the Queensland part of the MDB are Yambocully Water Board, the Callandoon Water Board and the Condamine Plains Water Board. Supplemented (regulated) water is supplied by SunWater to the St George Water Supply Scheme (WSS), the Macintyre Brook WSS, Maranoa WSS, Chinchilla WSS and the Upper Condamine WSS. The Department of Natural Resources and Water (NRW) administers the Borders Rivers WSS. All of these water supply schemes are supplied from storages with releases of water in rivers except for St George WSS where there is also a channel distribution network. SunWaters charging regime SunWater charges irrigators a two-part tariff. Part A is a fixed charge, covering fixed operating, maintenance and refurbishment costs associated with assets. Part B is a variable charge, based on volume of water supplied. The Queensland Government determined the pricing policy for SunWater schemes for the five year period from 1 July 2006 to 30 June 2011. Under section 999 of the Water Act 2000, the Queensland Government provides a pricing direction notice to SunWater. The current rural irrigation water pricing policy is set out in the Rural Water Pricing Direction Notice (No. 1) 2006. An extract from the Direction Notice is attached in Attachment 1: SunWater schemes and movement toward upper bound SunWater owns and operates 27 water supply schemes, some of which are still transitioning to lower bound prices. Consistent with Queenslands obligations under the NWI, Queensland Government policy put in place a pricing framework in which SunWater negotiated five year price paths with its irrigation customers in each of its water supply schemes. The 27 water supply schemes can be divided into 54 scheme segments. Of these 54, 40 scheme segments will reach or have already reached lower bound prices by the end of the current 5 year price path, which is 30 June 2011. Those schemes that have already reached lower bound prices will increase prices annually by CPI only throughout the price path period. The remaining 14 scheme segments are small and in areas with low water availability and few customers, and will not reach lower bound by 30 June 2011. Queenslands economic regulatory environment for rural irrigation water Queensland has a different regulatory environment to other Murray Darling Basin (MDB) States. Unlike other Basin States, the economic regulator, the Queensland Competition Authority (QCA), does not have a direct role in determining rural irrigation prices. The issue of economic regulation has been raised is some detail in the Issues Paper: Charge Rules for Bulk Water and the Queensland Government will provide more detail comment on this issue in its Submission on that Issues Paper. Basin water charging objectives and principles The water charging objectives are set out in Section 3 of the Issues Paper. However, the water charging principles are only set out in Appendix B with no discussion. As the principles also govern the water charge rules, it would be useful to have the water charging principles set out in Section 3 of the Issues Paper and a discussion on the ԭs interpretation of the principles, similar to what has been done on the objectives. In terms of basin charging objectives and principles, commercial viability of the water service operator must also be considered. Commercial viability relates to a cost or revenue level which must be covered to ensure that existing and future volumes and levels of services, and all obligations including dividends, are provided in a financially sustainable manner. Both the COAG 1998 pricing principles, and the National Water Initiative (NWI) pricing actions (Section 66) explicitly take account of this objective/principle in that they provide for it in the concept of lower bound pricing. The COAG guidelines state that: to be viable, a water business should recover, at least, the operational, maintenance and administrative costs, externalities, taxes or TERs (not including income tax), the interest cost on debt, dividends (if any) and make provision for future asset refurbishment/replacement (as per the annuity renewal approach). Dividends should be set at a level that reflects commercial realities and stimulates a competitive market outcome (Lower Bound pricing). The COAG guidelines state that: an annuity approach should be used to determine the medium to long term cash requirements for asset replacement/refurbishment where it is desired that the service delivery capacity be maintained. to avoid monopoly rents, a water business should not recover more than the operational, maintenance and administrative costs, externalities, taxes or TERs (tax equivalent regime), provision for the cost of asset consumption and cost of capital, the latter being calculated using a WACC (weighted average cost of capital) (upper bound pricing). In general, it is important to acknowledge that the concept of lower bound pricing as set out in the COAG Principles and within the NWI (Section 66) has played a role in the development of Queensland rural irrigation water pricing policy. It is noted by Queensland that the Basin Water Charging Objectives and Principles as set out under Schedule 2 in the Water Act 2007 do not directly reflect either the COAG Principles and the NWI with respect to commercial viability for water service providers and lower bound pricing, however, Queensland notes that this may be implicit in the Water Charging Principle (Water Act 2007, Schedule 2, Part 3 (4)) as follows: Water charges in the rural water sector are to continue to move towards upper bound pricing where practicable. Termination fees A number of questions raised in the Issues Paper relate to Schedule E of the Murray Darling Basin Agreement (MDBA). Schedule D to the MDBA sets out that Queensland is a contracting party to the agreement, under the terms set out in the Schedule. Schedule D specifies those parts of the MDBA that do not apply to Queensland. However, given that Schedule E is concerned primarily with the southern position of the Murray-Darling Basin, Schedule E does not currently apply to Queensland. Part 2: Responses to Questions Question 1 Are there any matters not mentioned above that are relevant in establishing a methodology for determining prices consistent with the objectives and principles of the Act? The Section 4.1 of the Issues Paper addresses in broad terms all the necessary methodological issues satisfactorily. Question 2 Are there any issues the ԭ should be aware of in relation to service standards? Provide details including: a) to what extent the proposed level of service is or should be communicated to customers during the price-setting process. b) the role of customers when establishing service standards; c) the role of customers in determining the balance between the level of prices and the standard of service; d) the extent to which service standards are, or should be, reported publicly; and e) the extent to which service standards form, or should form, part of a customer service contract. Given that the price setting process in Queensland is through negotiations between SunWater and its customers within the Queensland Governments price direction notice, it is essential that customers are aware of the proposed service standards. Without clear and ongoing communication of service standards it will be difficult for stakeholders to engage in the price setting process from an informed position. The Queensland Government endorsed a joint industry and SunWater process for setting prices for a five year period from 1 July 2006 to 30 June 2011. This process involved significant customer representation including on the proposed level of service standards. For example, the first stage (over 10 months and 15 meetigns) involved a Statewide Irrigation Pricing Working Group (Tier 1), a group of fifteen people consisting of SunWater senior management and a cross section of SunWaters customer base and peak industry, considering issues including service standards that needed to be consistently applied to set prices in a fair and efficient way. The second stage of the price setting process involved the formation of working groups for each scheme, known as Tier 2 or Scheme Irrigation Pricing Working Groups, to resolve scheme specific issues. The Tier 2 discussions focused on: customer service standards as well as a number of other issues such as irrigation water usage forecasts, tariff structure, and form of price control revenue cap or price cap and drought tariff. In relation to service standards, Tier 1 considered customer service standards and resolved that each Tier 2 group could decide on how other scheme customers are consulted on the more significant issues, but any changes to customer service standards would need to be supported by a majority of the customers in the scheme. The Tier 2 groups considered changes in customer service standards or targets during the five year price path. All schemes opted to maintain the existing customer service standards/targets although one scheme (not in the MDB) did identify a number of customer service standards/targets that would be discussed on an ongoing basis at future meetings of the schemes Irrigator Committee. Customers agreed to SunWaters proposed customer service standards for the current price path period. Tier 1 had already agreed that if a Tier 2 group requested a significant change to customer service standards, this could not be implemented until the subsequent price path (commencing 1 July 2011). During the negotiations for the 2006/07 to 2010/11 price paths, customers at the Tier 2 level did not have an opportunity to negotiate a different set of service standards. Customers were informed that they could seek a change in service standards beyond 2011. This was because there was insufficient time within the price negotiations to plan and implement changes to service standards. There was also an understanding between SunWater and customers that significant changes to service standards could result in a change in prices As a change in service standards has an impact on prices, operators need to have regard for the service standard preference of customers and allow for sufficient time to analyse and implement such changes. Service standards should be reported publicly, for example, in the case of SunWater they can be found on their website. The service standards currently form part of the supply contract between SunWater and the customer. Queensland Government understands that SunWater has supplied the ԭ in its submission on this Issues Paper with a copy of the Supply Contract for the St George Channel. Question 3 Are there any issues the ԭ should be aware of in relation to legislative and regulatory obligations? Provide details, including: a) to what extent obligations are, or should be, clearly articulated by regulators and government; b) the types of obligations placed on operators; c) how the obligations currently placed on operators are, or should be, funded; and d) the extent to which obligations are applied consistently across the basin? The Water Act 2000 (Qld) established many of the arrangements which define the relationships between water institutions in Queensland. Consistent with COAG the roles of water resource management, standard setting, regulatory enforcement and commercial functions were separated. The Queensland Government is the regulator and SunWater, as a company government owned corporation under the Government Owned Corporations Act 1993, is responsible for commercial functions. The Water Act 2000 (Qld) and the Water Supply (Safety and Reliability) Act 2008 sets out two regulatory functions in relation to SunWater: SunWater has ROLs or IROLs for each water supply scheme that sets out how it operates its schemes. These are issued by the Chief Executive of the Department of Natural Resources and Water and not the Minister (who is the shareholder); and The Department of Natural Resources and Water is the regulator with respect to dam safety and asset maintenance requirements. The functions under point 1 above are set out under Chapter 2 of the Water Act 2000 (Qld). SunWater is required to comply withthe conditions specified in the respective Water Resources Plan, Resource Operation Plan/Interim Resource Operation Planand ROL / IROLfor each of its water supply schemes. The functions under point 2 above are set out under Chapter 2 of the Water Supply (Safety and Reliability) Act 2008. SunWater is required to have a System Asset Management Plan, Customer Service Standard/contracts, Drought Management Plan and System Leakage Management Plan in place. SunWater may be required to have a DrinkingWaterQualityManagementPlan and a RecycledWaterManagementPlan in place if SunWater meets the conditions specified in this Act to prepare these plans for producing and supply of recycled water, or supply of water for drinking purposes respectively. SunWater, as a company government owned corporation (GOC), is also regulated and governed by a series of legislations, policies and guidelines applied to all GOCs in Queensland. The Office of Government Owned Corporations, Queensland Treasury, has a lead role in coordinating and developing these legislative and regulatory obligations for all GOCs in Queensland. SunWaters regulatory costs are generally funded by the prices paid by its customers including irrigators. SunWater, as a GOC, is required to bear the costs of all the aboveregulatory obligations, with the exceptions of preparing a System Leakage Management Plan, Water Resources Plan, Resource Operation Plan/Interim Resource Operation Planand Resource Operation License/ Interim Resource Operation License. For the period of the current price path (to June 2011), Community Service Obligations are paid to SunWater towards the cost of development of these plans. Otherwise, the costs of these plans will be passed onto irrigators. Question 4 In transitioning towards upper bound pricing: a) What factors may influence the path or pace of transition? How might these factors be addressed? b) Are there circumstances in which upper bound pricing cannot or should not be achieved? As noted above, the COAG 1998 Principles and the NWI have shaped Queenslands rural irrigation pricing policy to date. In signing the NWI Intergovernmental Agreement 2004 the Queensland Government is committed to introducing a water pricing policy framework with the goal over time, of achieving lower bound pricing for all rural systems and continued movement towards upper bound pricing for all rural systems, where practical. The Queensland Governments own water pricing policy is required to work within the boundaries of the NWIs framework, however for it to be effective it also has to take account of the operating environment of Queensland irrigators. This environment is characterised by variable climatic conditions and fluctuating world prices and consequently farming incomes are unpredictable and can vary from year to year. The Queensland Governments overall water pricing strategy is to develop its policies so that over time they reflect the NWIs goals including charging for the cost of rural irrigation capital assets where practical. For the period of the current SunWater price path (1 July 2006 30 June 2011) the Queensland Government established a pricing framework that: did not include an additional rate of return on capital component in SunWaters rural irrigation prices; did not charge water users for the capital cost of upgrades on 3 high priority dam spillways; and provided community service obligations (CSO) to SunWater for those schemes transitioning to lower bound prices. Queensland policy at the time was to defer decisions on upper bound pricing until the issues of asset valuation and rates of return are considered as part of a more consistent, national approach. Importantly, these issues have to be understood within the context of the practicalities of transitioning to upper bound pricing. Therefore, as part of that national approach, the Queensland Government welcomes the ԭs questions with respect to transitioning to upper bound pricing and the circumstances in which upper bound pricing cannot or should not be achieved. It is appropriate that the ԭ should assess and question how appropriate the use of upper bound pricing is in the Murray Darling Basin for rural water irrigation pricing. In this regard, the Queensland Government would also like to point out that any assessment of the appropriateness of upper bound pricing in the Murray Darling Basin needs to be considered in the context of: asset valuation methodologies; and capacity to pay. Depending on how these issues are determined, there continues to be a legitimate role for lower bound pricing. The Issues Paper has not made any reference to lower bound pricing or the role that a well constructed lower bound price plays in setting prices. In circumstances where it may be inappropriate to implement upper bound prices given (a) and or (b) above there are sound economic and social reasons for maintaining irrigation services, then it would be appropriate to assess the role of lower bound pricing. Depending on the asset valuation methodology adopted, the revenue requirement determined through lower bound pricing will be broadly equivalent to upper bound prices derived form a line in the sand approach. In such circumstances, lower bound pricing should provide the same price signals and thus the same environmental outcomes as upper bound pricing. When considering transitional measures towards upper bound, it is important to note that even though all SunWater water supply schemes in the MDB will have reached lower bound prices by the end of the current price path (30 June 2011) with the exception of the small Maranoa Water Supply Scheme, these lower bound prices are based on pricing models developed in 2005/06 and hence may not have fully factored in the extent of any significant cost increases in such inputs as electricity and staffing which are reasonable and expected cost increase. It is important to acknowledge that the status of water supply schemes below lower bound will need to be reviewed at the end of the current price path in 2011. In this context, the pace and challenge in moving towards upper bound will depend on the asset valuation method chosen and how these impact on the quantum of upper bound prices. For example, transitioning towards upper bound prices using a line in the sand methodology combined with an opening Regulatory Asset Base Valuation (RAB) based on an economic valuation, would result in a limited impact on irrigation prices in comparison with using a replacement cost methodology such as Depreciated Optimised Replacement Cost (DORC) methodology. Question 5 To what extent are the two approaches applied consistent with the conditions listed above? Are there any issues that the ԭ should be aware of when considering the two approaches? Provide details, such as: a) the current approach, or what might be considered an appropriate approach, for determining forward-looking capital expenditure needs b) whether forward-looking expenditure programs are independently audited and, if so, at what frequency c) what type of expenditure is suited to the renewals annuity approach d) the period over which the renewals annuity and regulatory asset base expenditures are discounted and included in prices e) how often the renewals annuity and associated bank surpluses or deficits are adjusted f) what discount rate (or rate of return) is used under both approaches g) what factors should be taken into account in determining the discount rate h) whether there are any inhibitors to using the weighted average cost of capital as the discount rate and whether it is appropriate to use this approach In order to answer this question it is necessary to outline the concept of renewals annuity that is consistent with that defined in the COAG Guidelines for Water Pricing (1998) and also applied, by way of example, by SunWater. Queensland does not consider that the opening RAB value must equal zero. Renewals Annuity Definition The Queensland Government, regard the way in which the ԭ employ renewals annuity as generally inconsistent with that widely used in the water sector. The ԭ approach to estimating a renewals annuity gives a result equivalent to the RAB approach where the revenue requirement includes both the return of capital and the return on capital. The renewals annuity used for lower bound pricing as defined in the COAG Guidelines for Water Pricing (1998) ensures that sufficient revenue is set aside each year to maintain the service capacity of the asset through refurbishment and major maintenance but specifically excludes a return on capital. The ԭ notion of a renewals annuity is inclusive of a rate of return on capital, whereas the SunWater renewals annuity on irrigation customers does not include a rate of return on capital. This is because it only covers the costs of refurbishment and replacement of individual assets required to maintain current service potential and meet all compliance requirements. The SunWater concept of renewals is consistent with that defined in the COAG Guidelines for Water Pricing (1998). The ԭs annuity of $43m per year (in Appendix D of the ԭ Issues Paper) can be separated into 2 parts a renewals annuity of $30.7m per year plus a return on capital component of approximately $12.5m per year. The amount of $30.7m per year is consistent with the COAG definition of lower bound pricing. Where a renewals annuity is used within an upper bound pricing approach (as implied by the ԭ Issues Paper) the proposed approach (as outlined in appendix D) is generally appropriate. Value of the opening RAB The ԭ Issues Paper asserts that the RAB needs to be valued at zero at the time of regulation (p23). The reasoning that the ԭ gives is: because the renewals annuity represents a current contribution by customers to the future renewal of assets, not a contribution by the operator yet to be recovered through prices. The unique nature of the renewals annuity (where customers provide the financing for future renewals) means that a valuation of assets of greater than zero will result in customers providing compensation to the operator for assets in the ground that were originally financed by the customer and not the operator. Queensland consider that this statement means that double counting will occur if an irrigator pays a renewal annuity for an asset (as per the ԭs notion of renewals) and then is charged a rate of return on the value of the asset. However, Queensland considers that the issue of who paid for the asset needs to be more thoroughly analysed before the opening RAB is set at zero. The issue of who has paid for the initial capital contribution is relevant to this discussion. The ԭs argument that the opening asset value should be zero because customers have funded the assets through their renewals annuity charge ignores the fact that the assets were originally funded by the asset owners, not customers. In principle, there should be no difference in treatment of the asset base whether assets are being paid for under a renewals annuity approach or a RAB approach. In Queensland, the major infrastructure assets were generally funded by the government. The opening valuation of RAB at zero would mean that government could not get a rate of return on the assets it paid for. The issue of price signalling is also important. If assets are to have an opening value of zero then the opportunity cost of the asset is also zero. The operator of the asset is not able to realise any return on the asset. In order for investment and usage decisions to be properly made then the price of water needs to include an opportunity cost factor for the asset. A RAB of zero, sends no price signal to the market as the opportunity cost of the asset would not reflect the regulated asset value. In Queenslands case, it may also necessitate a reduction in asset values where current asset values may already include a return on assets (albeit modest). Queensland is concerned that adopting a zero RAB across the MDB is not soundly based as it is unlikely to reflect the performance of some of the assets. Question 6 Are there any issues that the ԭ should be aware of in relation to asset valuation? Provide details, such as: a) how operators currently finance capital investmentswhether it is solely through the renewals annuity or through a combination of the annuity and separate contracts with certain customers (maintaining a separate asset base for pricing purposes); b) under the regulatory asset base approach how existing assets should be valued; c) in what circumstances might it be reasonable to revalue assets under the regulatory asset base approach?; and d) Are there any characteristics of irrigation assets that lend themselves to any particular asset valuation methodology? SunWater currently charges a renewals annuity to fund capital investments in the irrigation sector. This renewals annuity does not include a rate of return on capital. Under economic theory, existing assets can be valued between scrap value to optimal replacement cost. As water trades for significant amounts in the MDB the value of the assets, based on their service potential, must be higher than the scrap value. However, as the service potential has diminished over time, the full optimal cost may over value the asset. Regular revaluations are appropriate when using Depreciated Replacement Cost (DRC) or Depreciated Optimised Replacement Cost (DORC) asset valuations, because these valuations will change over time and need to be adjusted accordingly. When revaluing assets, it needs to be acknowledged that a re-valuation will result in a windfall gain/loss to the operator. The objectives of water pricing need to be maintained in the long term and it is important that the prices have regard to the current value of the asset. If the asset valuation and the opportunity cost of the asset are significantly different, then prices will not be efficient and the market will not be operating optimally. In such cases, revaluation may be appropriate when sufficient consideration is given to the impact of a windfall gain/loss to the operator. Question 8 Expenditure Efficiency To what extent do operators prepare, or should operators prepare, plans and undertake consultation processes for future capital and operating expenditure requirements? Where possible, provide details, including details of: a) the consultation process undertaken by operators when developing capital and operating plans, and the role of customers in this process b) independent review of asset management plans and operating and capital plans, and to what extent these reviews ensure that prices are based on prudent and efficient expenditure c) how often independent reviews are undertaken d) the role, if any, of independent consultants in the preparation of plans e) to what extent the results of independent reviews are, or should be, made public and reflected in prices f) programs currently in place, or that should be in place, to improve productivity and efficiency over time. The process for developing SunWaters future capital and operational expenditure requirements is rigorous and transparent. This was evident in the recent Irrigation Pricing Review where future capital and operating expenditure was discussed with irrigators and industry stakeholders as part of the price path negotiation process. Independent consultants benchmarked operating expenses for the five year price path period. Indec Consulting undertook a benchmarking exercise in which it developed benchmarks specific to the utility sector and applied them to SunWater at a state-wide level and scheme level for comparison with SunWater actual cost data. The focus of this benchmarking analysis was on corporate costs and comparing SunWater to other similar businesses, both private and government owned. The benchmarking analysis suggested that SunWater compared favourably to the peer organisations. Indec Consulting also undertook a Cost and Efficiency Review of SunWaters business operations. This review was requested by Tier 1 to ensure that forecast costs were efficient prior to the setting of scheme revenue requirements and irrigation reference tariffs. Indec identified significant efficiency gains which totalled approximately $32M over the price path period. These efficiency gains were taken into account when calculating efficient lower bound costs. The Queensland Government would expect that efficiency reviews of expenditure are an integral part of price determinations and as such should be conducted as part of the price path process. In Queensland this is tending to be approximately every 5 years. Furthermore, the results of the independent efficiency reviews should be open to public scrutiny. Again this is the practice in Queensland, for example, a summary of the Indec Consulting review for SunWater as part of the price path negotiations was made public. This is especially important given the absence of market mechanisms for estimating the price of water storage and delivery and for ensuring stakeholders acceptance of prices. Question 9: What principles and approaches are most appropriate when allocating fixed or common costs of irrigation delivery services (i.e. those costs that do not vary with the volume of water supplied)? Provide details, including: a) to what extent embedded cross-subsidies or community service obligations (CSOs) currently exist within irrigation networks; in what circumstances and to what extent such cross-subsidies or CSOs should be maintained in perpetuity; and what processes are, or could be, used to reduce or eliminate cross subsidies and CSOs; b) to what extent current charges do, and whether they should, reflect a uniform or postage stamp pricing policy; and c) to what extent current charges do, and whether they should, reflect the costs of providing services to different segments of the market CSO payments are made to SunWater to: Assist irrigators in water supply schemes to transition to prices which reflect lower bound cost recovery by the end of the price path period (2010/11). and Assist Category 3 water supply schemes these schemes are identified as being unable to achieve lower bound cost recovery by the end of the 5 year price path period due to the burden on users, and requiring a longer period of support from government. The ongoing CSO payments for Category 3 schemes are continuing to reduce. The lower bound costs of schemes will be reviewed prior to the implementation of the next price path in 2011. This review will consider reasonable and expected cost increases in cost components such as wages and electricity. The status of schemes below lower bound in 2011 will need to be reviewed. In general, Queensland charges reflect the costs of providing services of irrigation services and this is the case in the water supply schemes in the Murray Darling Basin where postage stamp pricing is only applied at either the river or channel level. At that level there is only a relatively small number of customers paying postage stamp prices. In the MDB where there are mainly river based schemes, the majority of costs are common costs relating to storage. As there are minimal differences in costs between customers postage stamp pricing is appropriate. Question 10 To what extent and in what circumstances should the setting of fixed and volumetric charges be allowed to deviate from the underlying (fixed and variable) cost structure of the operator? Past practice in Queensland has allowed deviation from this principle especially to take account of consumer preferences for greater consumption charges and drought. For example, in the last price path negotiations in general SunWater calculated a Part A (fixed) charge that would recover 70% of the revenue requirement with the Part B (variable) charge recovering the remaining 30%.. This was despite the Indec Cost and Efficiency Review identifying that SunWaters fixed costs average around 93% of its lower bound costs. SunWater at the Tier 1 negotiations developed the drought tariff to be offered to all schemes. The drought tariff is an arrangement where the Part A charge is increased during periods of high water availability and decreased during periods of low water availability. The tariff structure ensures that the Part A charge gets paid back over time, and is not relief from the Part A charge. Only two schemes took up the option of the drought tariff and these were not in the Murray Darling Basin. The drought tariff subsequently got suspended when the Irrigators Fixed Water Charges Rebate Scheme was introduced in early 2007. All schemes paying above lower bound had their tariff structure modified so that they are paying mainly based on water use rather then allocation as long as 70% of their lower bound costs were met by the Part A charge. Question 12 What progress has been made in the implementation of the access, exit and termination fee protocol to schedule E of the Murray Darling Basin Agreementspecifically in relation to the creation of delivery entitlements? SunWaters current practice Access fees Irrigators currently pay an access fee to SunWater for their rights for delivery. The quantum of the access fee is determined by the volume of the entitlement. For channel irrigators who permanently transfer their water entitlements, they are given the option of continuing to pay the access fee (to maintain their delivery rights) or paying a termination fee (to terminate their delivery rights). Exit Fees SunWater does not charge an exit fee when a channel irrigator permanently transfers their water allocation from a channel to a river irrigator. SunWater practice is consistent with schedule E of the MDB agreement. Termination Fees SunWater does charge a termination fee on the transfer of a water entitlement if an irrigator chooses to surrender their delivery rights. The termination fee is equivalent to 10 years access fees (calculated as a net present value and discounted by the 10 year bond rate). If an irrigator transfers their water entitlement and wishes to maintain a delivery right they must continue to pay the access fee. If irrigators continue to pay the access fee then they are not required to pay the termination fee. Delivery rights Separate delivery rights are achieved through individual supply contracts between SunWater and its customers which agree a level of delivery. SunWater advises that the trading of delivery rights is not currently possible and there is little irrigator demand for this to occur. In most schemes, at most times, there is sufficient capacity for irrigators to be supplied the water they demand. Given that irrigation channels are rarely at peak capacity, there would be little market for tradeable delivery rights. Delivery rights and water entitlement rights have been unbundled in the sense that it is possible to have an access right but not a water entitlement. This is achieved by choosing continuing to pay the access fee but not having an entitlement. Question 13 To what extent and in what circumstances does the creation of explicit delivery entitlements impact the operation of irrigation networks? More specifically: a) are there expected benefits in terms of utilising spare capacity through trade in delivery entitlements? What advantages or disadvantages have resulted from the creation of explicit delivery entitlements? b) What practical issues and constraints might be involved in defining, measuring and monitoring explicit delivery entitlements? Can service standards (e.g. flow rates) be assigned to such entitlements? There is an unbundling between the delivery entitlement and the water entitlement, as SunWater customers have a supply contract with SunWater to deliver water that is separate to their entitlement. SunWater advises that tradable delivery rights would have a very limited benefit as periods of peak supply are infrequent in the St George water supply scheme distribution network (being the only SunWater distribution network in the Queensland MDB catchments), and there is currently sufficient capacity to ensure that irrigators are able to access their water most of the time. On the basis that few irrigators seek to trade their delivery rights, the costs of operating a trading framework would be greater than any potential benefits. The administration cost associated with maintaining a register of delivery entitlements is considerable and the risks associated with contentious or erroneous temporary and/or permanent transactions also need to be factored into costings. Question 14 To what extent have the specific provisions of schedule E for dealing with explicit delivery entitlements been met by operators? Provide details including: a) instances where specific requirements in relation to delivery entitlements are imposed upon the transfer of water access entitlements. If this is the case, in what circumstances and for what purpose have such arrangements been adopted? b) instances where operators do not offer the option of paying delivery access charges once a water access entitlement is traded. Customers on the channel must have a supply contract with SunWater before a transfer of a water allocation can be registered on the water allocations register. SunWater always offer the option to irrigators to continue to pay channel access fees or paying a termination change when a water access entitlement is traded out of the channel. Question 15 To what extent and in what circumstances are the security provisions within schedule E applied by operators? Provide details including: a) To what extent do irrigators who elect to maintain their delivery entitlement following the sale of their water entitlement present a risk to the revenue security of an operator? b) What security arrangements are currently used by operators? Do restrictions exist in terms of the percentage of a permanent water entitlement that can be traded before a termination fee is required? c) Do current security provisions reflect an appropriate balance between the credit risk faced by the operator and the interests of the irrigator? d) Are existing legal remedies for the recovery of debts adequate for operators to manage their credit risks? Are there impediments that limit an operators ability to enforce any contractual arrangements? e) Is there scope to use other forms of security such as unmortgaged land or bank guarantees where an irrigator elects to maintain their delivery right after the sale of their water entitlement? f) Should the amount of any security collateral requested be capped? If so, why and to what extent? g) Are operators in a position to assess the extent to which particular irrigators represent a credit risk? It is necessary for irrigation infrastructure operators to retain the ability to require alternative security from customers where water access entitlements are traded out of the distribution system to ensure the quality of credit does not deteriorate to an uncommercial position. SunWater advise that the security provisions outlined in Schedule E provide sufficient surety. Question 16 To what extent have the provisions of schedule E in relation to prohibiting the levying of exit fees been adhered to by operators? More specifically (where possible, provide details of current practices): a) are exit fees levied by operatorsfor instance, is a fee payable upon transfer of a permanent water entitlement rather than the surrendering or termination of a delivery entitlement? b) are there instances where operators require the termination of delivery entitlements, and payment of termination fees, as a condition for the transfer of a permanent water entitlement? SunWater is consistent with Schedule E, and does not levy exit fees. SunWater does not require the termination of delivery entitlements and payment of termination fees as a condition for the transfer of a permanent water entitlement. Irrigators are able to maintain their delivery right if they continue to pay the channel access fees. Question 17 In relation to the levying of fees and charges, do access fees recover an operators fixed costs and do operators calculate a separate levy for infrastructure service improvements? SunWater advise that channel access fees contribute to the fixed costs of channel operation and maintenance. SunWater does calculate a separate levy for infrastructure service improvements. These improvements are negotiated and the costs of the enhancement, including capital invested, would be recovered under a separate upper bound charge. The requirement to recover upper bound cost on such enhancements/extensions means they rarely eventuate in irrigation networks and services stay at current levels, with the customers capacity and willingness to pay being a limited factor. Question 19 Have all operators adopted a multiple of 15 times the annual access fee? SunWater charges a termination fee that is equivalent to the Net Present Value of 10 years of access fees. Question 20 Have any operators made an allowance in termination fees for avoidable costs associated with the surrendering or termination of a delivery entitlement? SunWater does not make an allowance in termination fees for avoidable costs. Question 21 Which multiple/number of years (if any) represents a reasonable balance between removing potential barriers to trade and providing a sufficient timeframe for operators to adjust to new trade patterns, receive the appropriate investment signals and efficiently rationalise irrigation networks? SunWater currently charges a termination fee that is the Net Present Value of 10 years of access fee. The applicable access fee is the difference between the Part A charge for the Channel and the Part A charge for the River. The 10 year timeframe on its termination fee helps to mitigate any risk of revenue inadequacy in its channel systems due to permanent trading of water entitlements out of channel networks. Question 22 Aside from transitional issues, are there any circumstances under which a shadow access fee should be retained? This is not applicable to SunWater Question 23 Are there instances where termination fees or charges applying to delivery entitlements are calculated on a basis other than an actual or shadow access fee as specified in schedule E? What practical or other reasons account for such practices? This is not applicable to SunWater Question 24 Would operators be at a competitive disadvantage by having lower actual delivery access and termination fees? Provide details. In the case of SunWater and within the Queensland MDB catchments, this situation does not arise. Question 25 Are taxation adjustments made to termination fees? On what basis are they made? SunWater advise that taxation has nil effect on the termination fees. The payout is based on lower bound costs and no tax liabilities or tax credits arise. Question 27 To what extent and in what circumstances, should the water charge rules apply to all operators to the same degree? More specifically: a) should any distinctions between classes of operators be based on the number of customers serviced, the volume of entitlements held, the size of the irrigation network or another characteristic of the operator? b) is there merit in a delayed application of the water charge rules for specific classes of operators? If so, on what basis should operators be classified? There are a number of very small irrigation water service providers in the Murray Darling Basin in Queensland, namely, Yambocully and Callandoon Water Boards. Their charges would be regarded as bulk water charges as these water boards do not operate an irrigation infrastructure network. Therefore, the Queensland Government will comment in more detail on these water boards in its submission on the Water Charge Rule for Bulk Water Issues Paper. As general statement however, the Queensland Government would only endorse the application of the water charge rules in situations where it was cost effective to do so. Question 28 What factors should be considered when making rules about transition arrangements? More specifically: a) what length of time between the making of water charge rules and the commencement of water charge rules would provide adequate opportunity to operators and their customers to adjust to new arrangements? b) are there any other transitional matters that the water charge rules should take into consideration? SunWater currently has a price path in place until 30 June 2011 and the Queensland Government would expect that this price path would be honoured. Beyond that a key consideration would be alignment of the application of the water charge rules in the Murray Darling Basin with the implementation of the new price paths in the remainder of Queensland. . Question 31 What considerations are relevant to establishing measures to mitigate the risk of perverse or unintended outcomes? More specifically: a) how long after the commencement of the water charge rules should a comprehensive review of the water charge rules as a whole occur? Who should undertake this review, and should the process for changing the water charge rules to address the outcomes of the review be the same as the current process for developing the rules? b) if the water charge rules were to confer a decision-making power onto some entity (for example, the determination of termination fees by the ԭ), what criteria should that entity use in deciding whether to vary or revoke a decision? In the initial development of the Water Charge Rules it is important that the Basin States and other Stakeholders are given the opportunity to comment on the ԭs draft Charges Rules prior to the Ministers for Climate Change and Water final endorsement of the Charge Rules. The current position in the draft Water Regulations 2008 does not allow for consultation in the event that the Minister accepts the advice from the ԭ. Once the Water Charge Rules are implemented a comprehensive review of the process and how effective the Charge Rules are in meeting the objectives as set out in the Water Act 2007 should be undertaken as part of the process of price determination. It is expected that some independent analysis should inform such review Disclaimer While every care is taken to ensure the accuracy of this information, the Department of Natural Resources and Water makes no representations or warranties about it accuracy, reliability, currency, completeness or suitability for any particular purpose and disclaims all responsibility and liability (including without limitation, liability in negligence) for all expenses, losses, damages (including indirect or consequential damage) and costs which might be incurred as a result of the information being inaccurate or incomplete in any way and for any reason. Attachment 1 Rural Water Pricing Direction Notice (No. 1) 2006 Extract Price setting process SunWater will set the new price paths by negotiation with its customers, on a scheme by scheme basis, and in accordance with a two-tier process: Tier 1 a committee of customer, industry and peak body representatives will negotiate with SunWater on the pricing principles, establish agreed efficient lower bound costs and set reference tariffs that will apply to each scheme; and Tier 2 scheme level customer committees will negotiate scheme level prices with SunWater, in accordance with principles agreed at Tier 1. If SunWater and its customers are unable to reach agreement, the government will determine the prices to be charged. Price setting rules Prices for rural irrigation water in all SunWater water supply schemes will achieve lower bound by the end of the new price path period, apart from the Category 3 schemes and tariff groups. There will be no price decreases from the prices applying at the end of the previous price path. Annual cumulative CPI adjustments will apply on 1 July of each year commencing on 1 July 2006 based on the Brisbane-All Groups CPI result published by the Australian Bureau of Statistics for the 12 month period ending 31 May prior to the annual indexation. Prices will not include any capital contribution for the high priority dam spillway upgrades of Fred Haigh, Bjelke-Petersen, Borumba or Tinaroo Dams. Community Service Obligation payments will continue to be provided to SunWater during the new price path period and must be taken into account in the price setting process. SunWater will not levy any additional charge to recover a further return on its rural irrigation assets during the price path. At a minimum, there will be annual CPI adjustments. SunWater accounts to irrigators will state that SunWater non-irrigator customers pay a rate of return and that, under the National Water Initiative Agreement, federal, state and territory governments are committed to a policy of charging a rate of return on rural water assets, where practical. to negotiate prices for the price path period with its customers; All prices above lower bound will remain (with CPI adjustments) there will be no price decreases; An explicit upper bound charge will not be levied. Under the NWI agreement, Queensland is committed to recovering a rate of return on rural irrigation assets, where practical. The Queensland Government supports the development of a national approach to rural water prices. SunWater will not levy any additional charge to get a further return on its rural irrigation assets (above that already received from WSS already paying above lower bound prices). Price path period The period for the new price paths will be five years, from 1 July 2006 until 30 June 2011.  In Queensland, a water allocation is a water access entitlement  Please note that the Bulloo catchment is not part of the Murray-Darling Catchment.  Category 3 Water Supply Schemes are those which will not reach lower bound prices within the current price path.     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