accc final determination - hvau annual compliance 2014 final... · assessment of artc’s...

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Final Determination

Australian Rail Track Corporation’s compliance with the Hunter Valley Coal Network Access Undertaking financial model for the 2014 calendar year

31 March 2017

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Contents

Executive summary ............................................................................................................... 3

1. Introduction .................................................................................................................... 8

1.1. HVAU financial model ............................................................................................. 8

1.2. ACCC’s annual compliance assessment ................................................................. 9

1.3. ARTC’s initial submissions for the 2014 Compliance Period ................................... 9

1.4. Consultation process ............................................................................................ 10

1.4.1. Requests for additional information from ARTC ...................................... 10

1.5. ARTC’s revised submission for the 2014 Compliance Period ................................ 11

1.6. Further information ................................................................................................ 11

2. Key issues .................................................................................................................... 12

2.1. Prudency of capital expenditure ............................................................................ 13

2.1.1. ARTC’s September 2016 Compliance Documentation ............................ 13

2.1.2. Stakeholders’ submissions...................................................................... 15

2.1.3. Further information provided by ARTC .................................................... 16

2.1.4. ACCC’s Final Determination ................................................................... 17

2.2. Calculation of incremental costs ............................................................................ 22


2.2.2. Stakeholder submissions ........................................................................ 24


2.2.4. WIK approach to calculating incremental cost ......................................... 28


2.3. Efficiency of operating expenditure ....................................................................... 40





2.4. True-Up Test audit ................................................................................................ 55



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3. ACCC’s Determination ................................................................................................. 57

3.1. RAB roll forward for Pricing Zone 3 ....................................................................... 57

3.1.1. ARTC’s Compliance Submission ............................................................ 57

3.1.2. ACCC determination ............................................................................... 59

3.2. RAB Floor Limit roll forward .................................................................................. 59

3.2.1. ARTC’s Compliance Submission ............................................................ 59


3.3. Comparison of the RAB and RAB Floor Limit for Pricing Zone 3 .......................... 61

3.4. Reconciliation of revenues with the applicable Ceiling Limit .................................. 62

3.4.1. ARTC Compliance Submission ............................................................... 62


3.5. Allocation of unders and overs amount to access holders ..................................... 63

Appendix A: Annual compliance assessment provisions in the HVAU ................................. 64

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Executive summary

The Australian Rail Track Corporation’s (ARTC’s ) Hunter Valley rail network is regulated through the Hunter Valley Coal Network Access Undertaking (HVAU). The HVAU was accepted by the Australian Competition and Consumer Commission (ACCC) in June 2011.

Under the HVAU, ARTC is required to annually submit documentation to the ACCC for an assessment of its compliance with the HVAU financial model. The HVAU financial model allows ARTC to recover revenue equivalent to its efficient costs in each calendar year for the Constrained Network (currently comprising of rail segments in Pricing Zones 1 and 2). The model also allows ARTC to capitalise revenue shortfalls for Pricing Zone 3 into its regulatory value of assets for recovery in future years.1

This current assessment relates to the period from 1 January 2014 to 31 December 2014 (the 2014 Compliance Period ).

1 The Constrained Network is defined in section 14.1 of the HVAU as the group of Segments within the Network bounded by

the mine loading points and the Newcastle port where access revenue on those Segments is likely to reach or exceed Economic Cost for those Segments on a stand-alone basis. The Constrained Network currently comprises the Network in Pricing Zones 1 and 2 where ARTC is expected to be able to recover its full Economic Cost.

Pricing Zone 3 is the part of the Network where the mines are newest. During the development of the HVAU, ARTC proposed the loss capitalisation model as a way to encourage investment in new assets where there was limited initial demand due to the start-up phase of the mines in that part of the Network.

ARTC initially provided compliance documentation for the 2014 Compliance Period to the ACCC in May 2015 as required under the HVAU. However, at that time the ACCC’s assessment of ARTC’s compliance for the previous period was ongoing due to a complex matter relating to ARTC’s approach to cost allocation and methodology for calculating its revenue ceiling limits for the Constrained Network. Accordingly, the ACCC’s assessment for the 2014 Compliance Period was delayed until the assessment for the previous period was completed in June 2016.

In September 2016, ARTC submitted to the ACCC further compliance documentation for the 2014 Compliance Period (2014 Annual Compliance documentation ), including its confidential financial model underpinning the submission, that took account of the outcomes of the ACCC’s assessment for the previous period.

ARTC then submitted a revised confidential financial model (Revised 2014 Compliance documentation ) to the ACCC on 27 February 2017 that included corrections to a small number of errors contained in the September 2016 submission. These corrections were identified by ARTC in the course of it responding to the ACCC’s queries in relation to that earlier submission (set out in more detail below and throughout this document).

The ACCC’s Final Determination, based on the Revised 2014 Compliance documentation, is that ARTC has:

• undertaken prudent capital expenditure and incurred efficient operating expenditure in accordance with the requirements set out in the HVAU

• applied the appropriate methodology for calculating its revenue ceiling limits for the Constrained Network with the exception of its treatment of one capital project in the calculation of the incremental cost of Pricing Zone 3 Access Holders’ use of Pricing Zone 1. Additionally, the ACCC has identified one instance where the treatment of a further capital project should be adjusted for consistency.

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A summary on key issues of this assessment is outlined below.

Prudency of capital expenditure

The ACCC has determined that ARTC has demonstrated the prudency of its net capital expenditure and that it is appropriate for ARTC to roll forward total net capital expenditure of $210.8 million into its regulatory value of assets for the 2014 Compliance Period.

This amount comprises of ‘major’ capital expenditure of $147.8 million plus ‘minor’ capital expenditure of $63.7 million plus interest during construction of $14.1 million less loss on disposals of $14.7 million. Of the total net capital expenditure, $50.1 million is attributed to Pricing Zone 3.

These amounts have been determined from ARTC’s Revised 2014 Compliance documentation, which included a revision to the calculation of interest during construction for one capital project compared to ARTC’s September 2014 submission. Further detail on this aspect of the assessment is provided in section 2.1.4 of this document.

Efficiency of operating expenditure

The ACCC notes that for the 2014 Compliance Period, ARTC’s operating expenditure in particular reflects the inclusion of the additional rail segments from the Gap to Turrawan into Pricing Zone 3 under the HVAU. This follows on from the ACCC consenting to an application by ARTC to vary the HVAU to extend the coverage of the HVAU to include the rail segments from the Gap to Turrawan in the Gunnedah Basin.

The ACCC has determined that ARTC’s operating expenditure has been incurred on an efficient basis and that ARTC may include the full amount for recovery for the 2014 Compliance Period. This includes:

• $106.5 million for the Constrained Group of Mines (consisting of $77.9 million in maintenance expenses, $2.6 million in expensed project costs, $4.4 million net loss on disposals and $21.6 million in network control costs and corporate overheads);

• $44.0 million for Pricing Zone 3 (consisting of $27.6 million in maintenance expenses, $3.9 million in expensed project costs, $6.5 million net loss on disposals and $6.0 million in network control costs and corporate overheads).

These amounts have been determined from ARTC’s Revised 2014 Compliance documentation, which included a small correction to ARTC’s operating expenditure contained in ARTC’s September 2016 submission. Further detail on this aspect of the assessment is provided in 2.3.4 of this document.

After amending for the treatment of the two capital projects noted above, the ACCC’s Final Determination is that ARTC has over recovered $23.4 million from Constrained Coal Customers for the 2014 Compliance Period, which should be refunded to Constrained Coal Customers in accordance with section 4.9 of the HVAU.

The ACCC has also determined that the value of cumulative losses capitalised into the Pricing Zone 3 asset base as at the end of the 2014 Compliance Period for future recovery is $76.9 million.

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Assessment of ARTC’s calculation of incremental cos t

As previously noted, ARTC’s Revised 2014 Compliance submission sought to take into account the outcomes of the ACCC’s assessment for the previous compliance period. In particular, the ACCC’s Final Determination for the 2013 Annual Compliance assessment found that the methodology set out in a report by WIK-Consult (WIK) should be used to calculate the incremental costs associated with Pricing Zone 3 Access Holders’ use of Pricing Zone 1. This in turn informs the methodology for calculating the revenue ceiling limit for the Constrained Network and thus the costs to be collected from Constrained Coal Customers.

The ACCC notes that the WIK methodology to calculate incremental cost is thorough and robust and is supported by economic theory.2 The ACCC also notes that the approach applied by WIK is conservative, as it did not consider cost elements to be incremental if there was any doubt.3

For the 2014 Compliance Period, ARTC largely adopted the principles, values and allocation methods applied by WIK for the 2013 Annual Compliance assessment. The exception to this is where ARTC’s own consultant engaged to assist with applying the WIK model, Bull Head Services Pty Limited (Bull Head Services ), considered there were inconsistencies in the WIK model and recommended an adjustment to the treatment for a small number of capital projects.

The ACCC has considered and accepts Bull Head Services’ and ARTC’s adjustment to the treatment for all but one capital project. This project is a Bi-directional signalling project between Maitland and Branxton. Additionally, the ACCC identified one further minor capital project, relating to a turnout renewal, where the incremental treatment should be adjusted for consistency with the WIK approach.

The ACCC notes that the result of not accepting ARTC’s proposed treatment of the Bi-directional signalling project between Maitland and Branxton project, and adjusting the treatment of one further turnout renewal project, has a small impact on the calculation of the revenue ceiling test for the Constrained Network. This in turn impacts upon the calculation of any under- or over-recovery of revenue to be reconciled with Constrained Coal Customers. Specifically, the incremental cost of Pricing Zone 3 Access Holders’ use of Pricing Zone 1 increases by $445 356 to $19.7 million and the costs to be collected from the Constrained Group of Mines reduces by the same amount.

The ACCC notes that ARTC remains able to recover these costs from Pricing Zone 3 Access Holders with the timing of the recovery deferred to future periods, which ARTC is compensated for through its loss capitalisation model.

The ACCC also notes that ARTC’s Revised 2014 Compliance documentation also includes a small correction to which marginally increases in the incremental cost of Pricing Zone 3 producers’ use of Pricing Zone 1.

Further detail on this aspect of the assessment is provided in 2.2.5 of this document.

2 ACCC, Final Determination - Australian Rail Track Corporation’s compliance with the Hunter Valley Coal Network Access

Undertaking financial model for the 2013 calendar year, 6 June 2016, p. 6 3 WIK-Consult, Assessment of the Incremental Costs of Pricing Zone 3 Access Holders’ Use of Pricing Zone 1 and 2 of the

Australian Rail Track Corporation’s Hunter Valley Rail Network (WIK report ), 30 September 2015, p. 44.

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Unders and overs accounting and the Ceiling Test

The calculation of the ‘unders and overs’ amount for a calendar year and ARTC’s components of Economic Cost (including incremental cost) for the 2014 Compliance Period are shown below in Figure 1.

Figure 1: Calculation of the ‘unders and overs’ am ount for a calendar year and components of Economic Cost for the 2014 Compliance Period

After amending for the treatment of the two capital projects noted above, the ACCC’s Final Determination is that ARTC has over recovered $23.4 million from Constrained Coal Customers for the 2014 Compliance Period, which should be refunded to those customers as outlined above.

Loss capitalisation account

The balance of the capitalised losses in a period is the difference between the Regulatory Asset Base (RAB ) and RAB Floor Limit for Pricing Zone 3 (as defined in section 4.4 of the HVAU). The ACCC has determined that the balance of capitalised losses as at the end of the 2014 Compliance Period is $76.9 million

Unders/Overs account balance at 1 January for given year (typically the beginning account balance is zero).

Total revenue paid by Constrained Coal Customers regarding actual coal traffic

Positive ”Over” amount

Negative ”Under” amount

Result of ARTC’s ex-post Ceiling Test for Constrained traffic for the calendar year:

Refund to Constrained Coal Customers *

Collectable by ARTC from Constrained Coal Customers *

* Refund/collection is based on the % of Access revenue

* in relation to coal traffic collected from Access Holders

Economic Cost (Ceiling Limit for Constrained Traffic) - see below

IF

IF

Economic Cost (Ceiling Limit for Constrained Traffic) is equal to:

Incremental costs of

Constrained Customer traffic

• Operating costs related to incremental

maintenance activities

• Capital (depreciation) costs related to incremental

assets

• Return on assets related to incremental assets

Fixed costs for the

Constrained Network

• Total maintenance activity costs less costs related

to incremental maintenance activities

• Total capital (depreciation) costs less depreciation

related to incremental assets

• Total return on assets less return on assets

related to incremental assets

Operating costs for the

Constrained Network

• Shared maintenance

• Expensed project costs

• Net loss on disposals

• Network control

• Corporate overheads

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Figure 2 represents a simplified expression of the change in the loss capitalisation balance from one year to the next, in this case from the end of the 2013 Compliance Period to the end of the 2014 Compliance Period.

Figure 2: Change in the loss capitalisation balance from end 2013 to end 2014

Figure 2 shows that at the end of the 2013 Compliance Period (i.e. the opening balance for the start of the 2014 Compliance Period) the loss capitalisation balance was $24.1 million.4

After accounting for various components of the RAB and the RAB Floor Limit for the 2014 year, which take into account the inclusion of the Gap to Turrawan rail segments under the HVAU from 1 January 2014, the loss capitalisation balance increased to $76.9 million at the end of the 2014 Compliance Period.

The ACCC notes that the inclusion of the Gap to Turrawan rail segments had a considerable impact on the change in the loss capitalisation balance over the two periods. For example, more than half of the $79.0 million ‘Return on opening RAB’ component shown in Figure 2 is attributable to the return on the opening RAB value for the Gap to Turrawan rail segments. The value of the Gap to Turrawan assets is based on a depreciated optimised replacement cost (DORC) assessment which was accepted by the ACCC under the related variation to the HVAU in June 2014.5


Undertaking financial model for the 2013 calendar year, 6 June 2016, p. 7. 5 ACCC, Decision - Australian Rail Track Corporation’s variation of the Hunter Valley Access Undertaking to include the Gap

to Turrawan Segments, 25 June 2014.

76.9

-14.2

-95.8

24.1

79.0

43.9

36.8

3.0

$ million

50

100

150

200

Loss

capitalisation

balance, end

2013 / start

2014

Return on

opening RAB

2014 operating

expenditure

2014

depreciation

costs

Return on net

2014 capital

expenditure

CPI on opening

RAB Floor Limit

Revenue

attributed to

Pricing Zone 3

Loss

capitalisation

balance, end

2014

Including the Gap to Turrawan rail segments

Not including

the Gap to

Turrawan rail

segments

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1. Introduction

ARTC is a Commonwealth Government-owned corporation that was established in 1998 and provides a single point of contact for parties seeking to run trains on the National Interstate Rail Network across Australia and the Hunter Valley Rail Network in New South Wales (NSW). ARTC is vertically separated, providing ‘below-rail’ services (such as the rail track infrastructure) but not ‘above-rail’ services (such as haulage). The National Interstate Rail Network and the Hunter Valley Rail Network are currently subject to separate access undertakings that were accepted by the ACCC in relation to each network in 2008 and 2011 respectively.

The Hunter Valley Rail Network is predominantly used to transport coal from mines in the Hunter Valley region to the Port of Newcastle for export and to transport coal to domestic customers, such as power stations. The network is also used by non-coal traffic, including general and bulk freight services (such as grain) and passenger services.

The Hunter Valley Rail Network was previously subject to the NSW Rail Access Undertaking (NSWRAU) administered by the NSW Independent Pricing and Regulatory Tribunal (IPART). However, access to the Hunter Valley Rail Network has been regulated through the HVAU since the ACCC accepted the undertaking in June 2011.

The HVAU was initially accepted for a five year period to the end of June 2016, but has since been extended twice:

• On 22 June 2016, the ACCC consented to the ARTC’s 16 June 2016 application to vary the HVAU to extend the term of the undertaking to 31 December 2016

• On 23 November 2016 the ACCC consented to a further application from ARTC (lodged in October 2016) to extend the term of the undertaking to 30 June 2017.

The ACCC is currently assessing a proposed replacement HVAU submitted by ARTC on 9 December 2016, which is proposed to commence on 1 July 2017.

Capitalised terms used in the remainder of this paper that are not defined in this paper are terms as defined in section 14.1 of the HVAU.

1.1. HVAU financial model

Section 4 of the HVAU regulates the amount of revenue that ARTC is entitled to recover from Access Holders for the Hunter Valley Rail Network by implementing revenue floor and ceiling limits. Section 4.2 of the HVAU links the minimum revenue that ARTC is to receive from Access Holders to the ‘direct costs’6 and ‘incremental costs’ of providing services. Section 4.3 of the HVAU caps the maximum amount of revenue that ARTC is entitled to receive from Access Holders at the Economic Cost of providing services.

The Economic Cost of providing services is calculated using a ‘building block model’ and incorporates allowances for return on assets, return of assets (depreciation) and efficient operating expenditure.

The calculation of the Economic Cost, therefore, also requires a regulatory valuation of assets. The regulatory value of assets is rolled forward each year to account for depreciation and prudent capital expenditure.

6 The HVAU defines ‘direct costs’ at section 14.1 to mean efficient maintenance expenditure and other costs that vary with

the usage of the network but excluding depreciation and ‘incremental costs’ as all costs that could be avoided in the medium term if a segment was removed from the network.

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Reconciliation of revenues received from Access Holders with the ceiling revenue limits is applied differently for the various parts of the Hunter Valley Rail Network:

• For the Constrained Network, the HVAU applies an ‘unders and overs’ accounting framework that enables ARTC to recover the full Economic Cost of providing services in each compliance period.

Under the HVAU and the ‘unders and overs’ accounting framework, if ARTC’s revenue from Coal Constrained Customers is less than the relevant Economic Cost (being the Ceiling Limit for Constrained Group of Mines) in a compliance period, then ARTC is entitled to recover the ‘under’ from Constrained Coal Customers.7 Conversely, if ARTC’s revenue exceeds the relevant Economic Cost, then ARTC is required to refund the ‘over’ to Constrained Coal Customers.

• For Pricing Zone 3 only, the HVAU allows for loss capitalisation. This applies to Pricing Zone 3 because there is currently relatively lower demand for rail services due to the start-up nature of coal mines in the region and, therefore, ARTC is not expected to recover its Economic Cost.

Under the loss capitalisation mechanism in the HVAU, until such time as ARTC is able to recover the Economic Cost of Pricing Zone 3, ARTC is allowed to capitalise revenue shortfalls into the Pricing Zone 3 regulatory value of assets for recovery in future periods.

Once ARTC is able to recover the Economic Cost of Pricing Zone 3 and has recovered the losses capitalised from previous years, then Pricing Zone 3 will become part of the Constrained Network and the ‘unders and overs’ accounting framework takes effect.

1.2. ACCC’s annual compliance assessment

Section 4.10 of the HVAU provides for the ACCC to conduct an annual assessment to determine whether ARTC has complied with the HVAU financial model for the calendar year. In particular, the ACCC is required to determine whether:

• ARTC has undertaken prudent capital expenditure and incurred efficient operating expenditure in accordance with the requirements set out in the HVAU

• ARTC has rolled forward the regulatory value of its assets in accordance with the HVAU

• Pricing Zone 3 forms part of the Constrained Network or whether ‘loss capitalisation’ continues to apply for that pricing zone

• ARTC has reconciled revenues with the applicable revenue floor and ceiling limits and determined the allocation of any under- or over-recovery of revenue to Constrained Coal Customers in accordance with the HVAU.

The relevant provisions of the HVAU relating to the annual compliance assessment are outlined in Appendix A of this Final Determination.

1.3. ARTC’s initial submissions for the 2014 Compli ance Period

ARTC initially submitted its annual compliance documentation for the 2014 Compliance Period in May 2015. At that time however the ACCC’s assessment of ARTC’s 2013 annual compliance documentation was ongoing. As the opening balances for each compliance 7 A Constrained Coal Customer is defined in section 14.1 of the HVAU as an Access Holder: (a) who holds Coal Access

Rights under a current written access agreement with ARTC; and (b) who paid ARTC for access to the Constrained Network and such payments, other than for Direct Costs, formed part of the annual coal access revenue for the Constrained Group of Mines.

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period are based upon the closing balances of the previous compliance period, an assessment for the 2014 Compliance Period was delayed until the ACCC’s assessment of the previous compliance period was completed.

Following the conclusion of the 2013 annual compliance assessment in June 2016, ARTC resubmitted its 2014 annual compliance documentation in September 2016 (2014 Annual Compliance documentation ). The documentation includes ARTC’s financial model (provided to the ACCC on a confidential basis) that details the allocation of the ‘unders and overs’ amount to each Constrained Coal Customer for the 2014 Compliance Period.

In this submission, ARTC made some amendments to its initial compliance documentation provided in May 2015 to take account of the ACCC’s findings and determination in relation to the 2013 annual compliance assessment. Details on the key components of this submission are set out in section 2 of this document.

ARTC’s full submission to support its 2014 Annual Compliance documentation is available on the ACCC’s website at: https://www.accc.gov.au/regulated-infrastructure/rail/annual-compliance-assessment-2014/revised-compliance-submission

1.4. Consultation process

The ACCC’s public consultation process regarding this assessment included a four week period where the ACCC invited views from industry stakeholders.

On 29 September 2016 the ACCC published a Consultation Paper inviting comments from interested parties on ARTC’s revised 2014 Annual Compliance documentation. The ACCC received submissions from:

• Hunter Valley Energy Coal (HVEC), a subsidiary of BHP Billiton

• Idemitsu

• Whitehaven

The Consultation Paper and submissions are available on the ACCC’s website at: https://www.accc.gov.au/regulated-infrastructure/rail/annual-compliance-assessment-2014/consultation-paper.

1.4.1. Requests for additional information from ART C

In addition to ARTC’s initial submissions, on three occasions the ACCC sought further information from ARTC regarding its compliance documentation.

On 16 September 2016, the ACCC sought information from ARTC and its engineering consultant, Bull Head Services Pty Limited (Bull Head Services ) relating to proposed adjustments to the incremental cost model. ARTC provided this information on 28 October 2016. Further detail is set out in section 2.2 of this Final Determination.

On 16 November 2016, the ACCC requested additional information from ARTC in response to certain stakeholder queries as well as to clarify and seek further explanation of aspects of ARTC’s 2014 Annual Compliance documentation. This related to certain major and minor project capital expenditure, details around ARTC’s interest during construction and disposals processes and more specific information to assess the efficiency of ARTC’s operating expenditure. ARTC provided the ACCC with a confidential response to this request on 16 December 2016.

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On 2 February 2017, the ACCC then sought further clarification from ARTC regarding certain aspects of its 16 December 2016 response. ARTC provided a confidential response to the ACCC on 27 February 2017.

Further detail on what the ACCC sought from ARTC in these requests is set out in sections 2.1.3 and 2.3.3 of this Final Determination.

1.5. ARTC’s revised submission for the 2014 Complia nce Period

On 27 February 2017, ARTC also submitted a revised confidential financial model for the 2014 Compliance Period (Revised 2014 Compliance documentation ). The Revised 2014 Compliance documentation corrected a small number of errors that were in ARTC’s 2014 Annual Compliance documentation submitted to the ACCC in September 2016. The revisions are:

• ARTC amended the split of expenditure for three major capital projects across rail Segments to be consistent with the split applied in previous annual compliance assessments. The impact of this correction was an increase in the incremental cost of Pricing Zone 3 Access Holders’ use of Pricing Zone 1 and, therefore, a reduction in the costs to be recovered (i.e. the Ceiling Limit) from Constrained Coal Customers (see section 2.1.4 for further detail).

• ARTC revised down its calculation of Interest During Construction for the Scone Reconfiguration project in Pricing Zone 3. The impact of this revision is a reduction in costs to be recovered from Pricing Zone 3 Access Holders (see section 2.1.4 for further detail).

• ARTC adjusted the allocation of resurfacing maintenance costs across Segments within Pricing Zone 3. The impact of this adjustment is a reduction in costs to be recovered from Pricing Zone 3 Access Holders as some of the costs were allocated to non-coal traffic also traversing those Segments within Pricing Zone 3 (see section 2.3.4 for additional detail).

The ACCC has taken all the information provided by ARTC and stakeholders into consideration in this final determination.

1.6. Further information

If you have any queries about any matters raised in this document, please contact:

Ms Renée Coles Infrastructure & Transport—Access & Pricing Branch Infrastructure Regulation Division Phone: +61 3 9290 6921 Email: [email protected]

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2. Key issues

This chapter outlines the ACCC’s views on the following key issues relating to ARTC’s Revised 2014 Compliance documentation:

• prudency of capital expenditure (section 2.1)

• calculation of incremental costs (section 2.2)

• efficiency of operating expenditure (section 2.3)

• True-Up Test audit (section 2.4)

• any other relevant matters (section 2.5).

The ACCC notes that this assessment of ARTC’s compliance documentation involves consideration of two particular matters for the first time:

• ARTC’s adoption of the outcome from the ACCC’s 2013 compliance assessment for the 2014 Compliance Period; and

• The inclusion of assets related to the portion of the rail network between Gap and Turrawan into the RAB value for Pricing Zone 3.

Adoption of the ACCC’s 2013 annual compliance asses sment

As previously noted, ARTC’s 2014 Annual Compliance documentation incorporated some amendments to take account of the ACCC’s findings and determination in relation to the 2013 annual compliance assessment.

The amendments largely relate to the calculation of the incremental costs associated with Pricing Zone 3 Access Holders’ use of Pricing Zone 1, in accordance with an assessment undertaken by independent consulting firm WIK-Consult (WIK) engaged by the ACCC.8 The calculation of incremental costs then informs the revenue Ceiling Limit test (set out at section 3.4 of this document) and ultimately the under- or over-recovery of revenue for the compliance period.

Details around ARTC’s adoption of the WIK approach to calculating incremental costs are set out in section 2.2 of this document.

Addition of rail assets between Gap and Turrawan to the RAB

For the 2014 Compliance Period, ARTC has also included in the RAB value for Pricing Zone 3 the assets related to the portion of the rail network between Gap and Turrawan. This follows on from the ACCC consenting to an application by ARTC to vary the HVAU to extend the coverage of the HVAU to include the Segments from Gap to Turrawan in the Gunnedah Basin. This inclusion of these Segments under the HVAU applies from 1 January 2014.9

The inclusion of these rail segments to the RAB value for Pricing Zone 3 for the 2014 year is considered throughout section 2 of this document in relation to the prudency of ARTC’s capital expenditure and its efficiency of operating expenditure for Pricing Zone 3.

8 For background see: ACCC, Final Determination - Australian Rail Track Corporation’s compliance with the Hunter Valley

Coal Network Access Undertaking financial model for the 2013 calendar year, 6 June 2016. 9 ACCC, Decision - Australian Rail Track Corporation’s variation of the Hunter Valley Access Undertaking to include the Gap


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2.1. Prudency of capital expenditure

Subsections 4.4(a) and (b) of the HVAU define net capital expenditure as capital additions, plus interest costs incurred during construction, less the written down value of any disposals.

The HVAU requires that, for capital expenditure to be included in the regulatory value of assets, it must be incurred on a ‘prudent’ basis.

Subsection 4.10(d)(iii) of the HVAU explicitly provides that, if capital expenditure has been endorsed by the RCG in accordance with the consultation obligations set out in section 9 of the HVAU, then the ACCC will accept that capital expenditure as prudent. The RCG is a representative group made up of a range of stakeholders, including access holders and above rail operations and the Hunter Valley Coal Chain Coordinator (HVCCC) (in a non-voting capacity).

The HVAU also provides that ARTC can recover interest costs incurred during construction up until 1 July in the calendar year that the asset was commissioned (and determined by reference to the appropriate rate of return) as well as the written down value of disposals all incurred on a prudent basis.10

2.1.1. ARTC’s September 2016 Compliance Documentati on

For the 2014 Compliance Period, ARTC has sought to roll forward into its regulatory value of assets total net capital expenditure of $210.8 million as set out in table 2.1 below.

Table 2.1: Net capital expenditure for the 2014 Co mpliance Period - Dollars ($) 11

Pricing Zone 1

Pricing Zone 2

Pricing Zone 3 Total

Major capital expenditure 138 806 902 - 59 468 9 028 647 147 776 081

Minor capital expenditure 12 325 430 4 044 667 47 282 256 63 652 353

Interest during construction 13 006 518 1 101 446 14 107 964

Disposal value reduction - 6 378 233 - 1 087 674 - 7 265 331 - 14 731 237

Net capital expenditure 157 760 617 2 897 525 50 147 018 210 805 160

ARTC submitted that net capital expenditure in Pricing Zone 3 for the 2014 Compliance Period amounted to $50.1 million. ARTC noted that this takes account of work required to implement 30 tonne axle load (30 TAL ) operation in Pricing Zone 3, which commenced in January 2015.12

Major capital expenditure and associated interest d uring construction

ARTC noted that six major capital projects were commissioned during the 2014 calendar year, with post-commissioning spending occurring on a number of other projects commissioned in prior years.13 With the exception of the Mt Thorley Branch Signalling Enhancement, where all expenditure occurred within the 12 month period, ARTC submits

10 See section 4.4 of the HVAU. 11 ARTC, Hunter Valley Coal Network Access Undertaking – 2014 Compliance Submission, September 2016, p. 16. 12 Ibid, p. 12. 13 Ibid, p. 19.

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that the other five major projects accrued various levels of interest during construction as set out in table 2.2 below.

Table 2.2: ARTC’s major project expenditure and in terest during construction costs proposed to be included in the asset base for 2014 - Dollars ($) 14

Project Name Project Spend Interest Total Cost

Pricing Zone 3

Scone Reconfiguration 6,619,846 1,101,446 7,721,292

Pricing Zone 1

Hexham Relief Roads Stage 1 109,289,157 11,367,297 120,656,454

Drayton Down Relief Hub 21,291,677 1,350,793 22,642,470

K‟gang Arr. Rds Signal Optim. 4,327,996 263,138 4,591,134

Hexham to K‟gang Resignalling 396,199 25,289 421,488

Mt Thorley Branch Signalling 684,039 - 684,039

Sub-total 142,608,913 14,107,964 156,716,876

Post-commissioning 5,167,168 - 5,167,168

Total Major Projects 147,776,081 14,107,964 161,884,045

Minor capital expenditure

Regarding the minor capital works (also referred to by ARTC as corridor capital), ARTC submitted that:

During 2014, ARTC undertook a process with the RCG in relation to the Corridor Capital programme, where the programme was presented for endorsement, indicative works and costings within that programme were provided, the programme was endorsed, and the works delivered.

It is noted that changes at the detailed project level can occur in terms of the scope, priority and timing depending on prevailing circumstances such as identified network conditions and access to the network. During 2014, ARTC kept the RCG informed of the progress of the endorsed Corridor Capital program where material variations were identified. That is, projects showing a forecast variance to cost to complete of +/- $50,000 of the amount endorsed or have encountered material change to timely delivery. Updates regarding delivery of the Corridor Capital programme were provided on a six monthly basis.15

ARTC provided the ACCC with confidential evidence of RCG endorsement for major and minor capital expenditure amounts.

14 ARTC, Hunter Valley Coal Network Access Undertaking – 2014 Compliance Submission, September 2016, p. 20. 15 Ibid, p. 19.

15

Disposals

ARTC submitted that capital works resulted in asset disposals for the compliance period amounting to $14.7 million.16 Table 2.3 sets out further detail on ARTC’s asset disposals and the net loss on the disposal of those assets by Pricing Zone.

Table 2.3: ARTC’s proposed Asset Disposals and Los s On Disposals - Dollars ($) 17

Pricing Zone 1

Pricing Zone 2

Pricing Zone 3

All Pricing Zones

Assets disposed 6 378 233 1 087 674 7 265 331 14 731 237

Disposal proceeds 2 839 139 182 351 793 689 3 815 178

Loss on disposal 3 539 094 905 323 6 471 642 10 916 059

Note: Pricing Zone 1 disposals includes a group of property related assets which account for $2 523 182, or almost 90 per cent of the disposal proceeds for Pricing Zone 1.

2.1.2. Stakeholders’ submissions

The ACCC received stakeholder comments related to the prudency of ARTC’s capital expenditure from HVEC, Idemitsu and Whitehaven. Stakeholders comments focused on ARTC’s calculation of interest during construction, and ARTC’s procedures around disposals. These comments are summarised below.

Interest during construction

Pricing Zone 3 producers (Idemitsu and Whitehaven) raised an issue regarding ARTC’s application of interest incurred during construction for the Scone Reconfiguration project.

Idemitsu queried why ARTC is claiming interest during construction from the 2008-09 period for the Scone Reconfiguration project (commissioned in 2014), when ARTC only received RCG approval in October 2010.18 Idemitsu was of the view that no interest should have been incurred prior to that RCG approval.19

Whitehaven also queried the interest during construction for the Scone Reconfiguration project, including why a relatively high interest rate was used.20

Disposals

Idemitsu commented that while disclosure of disposals have improved compared to previous years, further information on how ARTC adjusts its inventory could be beneficial for Access Holders.21 Idemitsu also flagged that it was unclear how ARTC valued items removed from the RAB for future use as part of its inventory.22 Otherwise, Idemitsu considers the principle adopted by ARTC that assumes all disposals are related to fixed assets is reasonable given the complexity and practicality of alternative approaches.

16 ARTC, Hunter Valley Coal Network Access Undertaking – 2014 Compliance Submission, September 2016, p. 20. 17 Ibid, p. 21. 18 Idemitsu, Submission on ACCC’s consultation paper, 28 October 2016, p. 4. 19 Ibid. 20 Whitehaven, Submission on the ACCC’s consultation paper, 2 November 2016, p. 4. 21 Idemitsu, Submission on the ACCC’s consultation paper, 28 October 2016, p. 8. 22 Ibid.

16

Whitehaven queried the magnitude of the difference between the RAB value of assets disposed, and the total proceeds earned from the disposal:

Total 2014 RAB asset value of $14.7m were disposed of with total proceeds being $3.8m or 26% of RAB value. This would suggest that the ARTC network may be significantly overvalued and should be adjusted accordingly.23

Furthermore, Whitehaven noted the following areas around ARTC’s disposals that it believed warranted further investigation:24

• ARTC’s property acquisition and sale processes with $1.0m (29 per cent) of value lost on property sales in a climate of increasing property prices

• ARTC’s rerailing activity resulting in less than 30 per cent of RAB values in all cases and rail with over $2 million RAB value disposed of with zero proceeds

• all Turnouts with disposal proceeds of less than 10 per cent of RAB value.

2.1.3. Further information provided by ARTC

The ACCC requested further information from ARTC on the following aspects, informed by stakeholders’ queries and the ACCC’s own preliminary assessment:

• For three major capital projects, clarification around major capital projects where the spilt of expenditure between rail segments was inconsistent with prior years

• For minor capital projects, further information to demonstrate the prudency of capital expenditure for certain projects where:

o specific RCG endorsement had not been provided; or

o the amount ARTC proposed to roll into the regulatory value of assets is more than 10 per cent higher than the value endorsed by the RCG and the justification for over expenditure had been either relatively brief, unclear or not provided

• Clarification on some expenditure values as well as on the allocation of expenditure amounts for activities relating to the 30 TAL works program in Pricing Zone 3

• Further information to understand the appropriateness of ARTC’s application of interest during construction for the Scone Reconfiguration project

• On disposals, further information to explain ARTC’s decision process and procedures around the disposal and recovery methods for its assets in 2014.

On 16 December 2016, ARTC provided its confidential response to the ACCC’s first information request. ARTC provided further specific details and clarification on some of these aspects on 27 February 2017.

As noted in section 1.5, on 27 February 2017 ARTC submitted its Revised 2014 Compliance documentation including a small number of corrections on the allocation on major capital expenditure across Segments and the calculation of Interest During Construction.

23 Whitehaven, Submission on the ACCC’s consultation paper, 2 November 2016, p. 4. 24 Ibid.

17

2.1.4. ACCC’s Final Determination

Taking into account ARTC’s 2014 Annual Compliance documentation and Revised 2014 Compliance documentation, stakeholder submissions and further information provided by ARTC, the ACCC’s views on ARTC’s prudency of capital expenditure are set out below regarding each of the following:

• Major capital expenditure additions

• Minor capital expenditure additions

• Interest During Construction

• Disposals

• ACCC’s overall view on prudency of ARTC’s capital expenditure

Major capital expenditure additions

The HVAU explicitly provides that, if capital expenditure has been endorsed by the RCG, the ACCC must accept that the capital expenditure is prudent.

The ACCC has reviewed the confidential documents provided by ARTC as evidence of RCG endorsement for major capital expenditure additions. These additions include six major projects commissioned in 2014 as well as post-commissioning spending that occurred in 2014 on several other projects.

As previously noted, the ACCC sought some clarification from ARTC for three capital projects where ARTC split the relevant expenditure across two rail Segments.

In its response to the ACCC’s information requests, ARTC noted that for two projects it had incorrectly aligned previous RAB amounts with proportions of segment costs for post-commissioning works that incurred in 2014. ARTC noted that addressing these inconsistencies does not affect the calculation of the regulatory value of assets for 2014 or in prior year compliance submissions.25

ARTC also noted that for one project it had included an inconsistency in the allocation of expenditure compared to the 2013 ACCC annual compliance assessment. ARTC had split a portion of the costs across two Segments rather than allocating to a single Segment. The ACCC notes that addressing this particular inconsistency impacts on the costs attributed to the Constrained Network and, ultimately, the ‘unders and overs’ calculation. Specifically, the impact of this correction was an increase in the incremental cost of Pricing Zone 3 Access Holders’ use of Pricing Zone 1 and, therefore, a reduction in the costs to be recovered (i.e. the Ceiling Limit) from Constrained Coal Customers.26

The ACCC considers that these corrections result in a consistent treatment of project costs and are accurate with respect to the requirements under the HVAU.

Accordingly, the ACCC is satisfied that ARTC has shown evidence of RCG endorsement for $147 776 081 and that this amount may be rolled into the regulatory value of assets for the 2014 Compliance Period.

25 ARTC, Confidential response to ACCC information request, 16 December 2016. 26 Based on ARTC’s revised spreadsheets detailing its financial model, submitted to the ACCC on 27 February 2017.

18

Minor capital expenditure additions

Minor capital expenditure additions for the 2014 Compliance Period related to 190 individual capital projects. Almost half of these projects related to the 30 TAL works program in Pricing Zone 3.

ARTC provided evidence that RCG endorsement was given in respect of most minor capital projects in 2014. This included endorsement for the package of 30 TAL works in Pricing Zone 3 where the amount ARTC proposed to add to the regulatory value of assets in relation to 30 TAL projects was less than the RCG endorsed amount.

For most non-30 TAL minor capital projects in 2014, the RCG endorsement documents provided by ARTC reconciled with its 2014 compliance documentation.

As noted above, there were a small number of minor capital expenditure projects where either ARTC did not provided evidence of RCG endorsement or where the RCG endorsed amounts did not reconcile with the amounts ARTC sought to roll into the regulatory value of assets. The ACCC subsequently requested further information from ARTC to confirm the prudency of expenditure for these projects.

In response to the ACCC’s request ARTC noted generally that, in some instances, new projects or variations to previously endorsed values had not been expressly endorsed or reviewed by the RCG.27 ARTC also noted that in each case such variations are only approved by ARTC management where it can be demonstrated that additional cost will not cause ARTC to exceed the overall RCG endorsed corridor capital works value for the period.28

ARTC also provided specific responses in relation a total of 22 minor capital projects the ACCC sought further information on:

• In relation to nine minor capital projects identified by the ACCC where specific RCG endorsement was not provided, ARTC provided additional detail setting out the rationale and funding arrangements for these projects, including where funds approved by the RCG for expenditure in relation to other minor projects had been reallocated.

• In relation to 13 minor capital projects identified by the ACCC where the amount ARTC proposed to add to the regulatory value of assets was more than 10 per cent higher than the value endorsed by the RCG, ARTC provided an explanation for the increased expense for each project. For some projects ARTC explained that higher costs were incurred following competitive tender processes. For other projects higher costs were due latent site conditions being discovered upon work commencing (i.e. post RCG endorsement) or higher costs resulting from increased project scope.29

The ACCC reviewed the additional information provided by ARTC, as well as more detailed information on the breakdown of expenditure amounts for individual activities relating to the 30 TAL works program in Pricing Zone 3. The ACCC notes that for some of the projects referred to above, the additional expenditure (where explicit RCG endorsement was not provided) was funded by underspends in other minor capital projects. The ACCC also notes that, overall, the capital expenditure incurred by ARTC during 2014 was less than the aggregate amount endorsed by the RCG for minor capital works for the period.

27 ARTC, Hunter Valley Coal Network Access Undertaking – 2014 Compliance Submission: Attachment 1 Capital

Consultation, September 2016, p. 7. 28 Ibid, p. 8 29 ARTC, Confidential response to ACCC information request, 16 December 2016.

19

Given the additional explanation and justification provided by ARTC, the ACCC is satisfied that ARTC has shown evidence to demonstrate prudent expenditure of $63 652 353 for minor capital projects for the 2014 Compliance Period. Accordingly, the ACCC considers that ARTC may roll this amount into the regulatory value of assets.

Interest during construction

ARTC has sought to roll forward total Interest During Construction of $14 107 964 into the regulatory value of assets for the 2014 Compliance Period. This included $13 006 517 relating to capital projects in Pricing Zone 1 and $1 101 446 relating to the Scone Reconfiguration project in Pricing Zone 3.

Pricing Zone 3 producers queried ARTC’s application of interest during construction for the Scone Reconfiguration project which had been deferred for an extended period prior to it being commissioned in 2014. ARTC sought to begin accumulating Interest During Construction in the 2008-09 financial year.

The ACCC sought further information from ARTC to confirm the timing of various stages and RCG approval for this project. In its response of 27 February 2017, ARTC noted that upon further review of historical financial information it was clarified that costs for this project began being incurred from August 2009. ARTC therefore revised the calculation of Interest During Construction for this project in its Revised 2014 Compliance documentation to begin accumulating these costs in the 2009-10 financial year. The ACCC notes that ARTC also demonstrated that RCG approved the costs of the first phase of this project, which was completed in April 2010.30

The ACCC has reviewed ARTC’s calculation for Interest During Construction as set out in its Revised 2014 Compliance documentation, including ARTC’s revision to the calculation for the Scone Reconfiguration project. The revision results in a reduction of $44 245 in Interest During Construction for this project to $1 057 201, and an reduction in total Interest During Construction claimed by ARTC to $14 063 719.

The ACCC also reviewed other calculations and consider that they have been undertaken according to the formulas set out in the HVAU.

Accordingly, the ACCC considers that ARTC may roll forward Interest During Construction of $14 063 719 into the regulatory value of assets for the 2014 calendar year.

Disposals

ARTC submitted total disposal value reduction of $14 731 237 and total net loss on disposals of $10 916 059. For Pricing Zone 3, ARTC submitted a disposal value reduction of $7 265 331 and net loss on disposals of $6 471 642.

Compared to the 2013 year, ARTC disposed of a significantly larger number of assets in 2014. ARTC noted that this was partly due to the 30 TAL program of works in Pricing Zone 3, which led to disposals associated with rerailing and turnout renewals.

The ACCC notes that ARTC did not include any proceeds for disposals relating to the Gap to Turrawan segments. The ACCC understands that the decision to not include any of these proceeds relates to ARTC’s revised proposal (that was developed in consultation with industry and was accepted by the ACCC) to vary the HVAU to extend coverage of the undertaking to include the segments from Gap to Turrawan.31

30 ARTC, Confidential responses to ACCC information request, 16 December 2016 and 27 February 2016. 31 ARTC, Gap to Turrawan Segments – Application to vary the ARTC Hunter Valley Access Undertaking, Supporting

Documentation (Appendix B), 24 March 2014, p. 24.

20

Following the public consultation process and a query raised by Whitehaven, the ACCC sought further information from ARTC relating to its asset disposals processes and procedures in 2014. Whitehaven expressed concern about the difference between the RAB value of assets disposed of and the total proceeds earned from disposals, inferring that this may reflect an overvaluation of ARTC’s assets. In its submission Whitehaven specifically questioned ARTC’s disposal proceeds relating to rerailing, turnout renewal and property sales.32

ARTC provided additional information to the ACCC explaining the processes ARTC undertook and considerations it took into account when disposing of different assets. The ACCC also reviewed ARTC’s financial model to consider the values ARTC recovered from its disposals associated with rerailing and turnout replacement activities.

ARTC noted that the primary reason that asset disposals result in a net loss is due to the RAB value representing the depreciated optimised replacement cost of the assets in situ at the time of valuation rather than the scrap value.33

In relation to rerailing activities, ARTC noted that disposal proceeds for scrapped rail are calculated with reference to the quantity of rail disposed and the market rate for scrapped steel.34

The ACCC’s own analysis shows that, on average, in 2014 ARTC recovered about 32 per cent of the RAB value from rerailing disposals in the non-Gap to Turrawan Pricing Zone 3 Segments and about 21 per cent from similar disposals in Pricing Zones 1 and 2. For all Pricing Zones, this represents a greater recovery of proceeds from rerailing activities compared to the previous year. With reference to the quantity of rail disposed of, the ACCC notes that disposal proceeds per rail metres disposed of were relatively constant across all Pricing Zones.

In 2014, ARTC recovered varying amounts from turnout renewal disposal activities, which almost all related to Pricing Zone 3. The ACCC notes that ARTC’s historical turnout renewal disposal proceeds represented a relatively small proportion of the RAB value for these assets. In 2014 ARTC recovered similar amounts for such asset disposals as it did in the previous year.

Regarding property sales, ARTC’s losses on disposals in 2014 related to property acquired as part of the Maitland to Minimbah Third Track (Stage 2) major capital project. This project was endorsed by the RCG in 2010, and commissioned in late 2012. As part of the previous annual compliance assessments the ACCC was satisfied with the prudency of capital expenditure for this project (which included expenditure on property acquisitions) on the basis that it had been endorsed by the RCG. As such ARTC was able to include that expenditure in the RAB. ARTC is therefore able to treat these assets as it would other assets determined prudent under the HVAU.

Generally speaking the ACCC would expect land assets to be treated differently to other asset classes, such as equipment, as land does not ordinarily involve the application or otherwise of depreciation. Additionally, when the Gap to Turrawan Segments were incorporated into Pricing Zone 3, DORC calculations presented by ARTC and the ACCC’s consultants excluded land costs.35 Nevertheless, as noted above, the ACCC accepts that the RCG has provided its endorsement.

32 Whitehaven, Submission on the ACCC’s consultation paper, 2 November 2016, p. 4. 33 ARTC, Confidential response to ACCC information request, 16 December 2016. 34 Ibid. 35 https://www.accc.gov.au/system/files/ARTC%20HVAU%20-%20Variation%20-%20Gap%20to%20Turrawan%20-

%20Application%20-%20Attachment%20C%20-%20valuation%20report.pdf;

21

In relation to the manner of ARTC’s property disposals, ARTC outlined in its response to the ACCC’s information request that land parcels that were surplus to project requirements were disposed of in arm’s length open market transactions through an independent licenced real estate agent. Non-marketable parcels of land were sold to an adjoining landlord. ARTC also noted that sale prices were supported by market valuations, and that valuations of this type of land are often impacted by noise and vibration consideration.36

Overall, taking into account the additional contextual information received from ARTC outlining its disposals processes around property as well as the comparative values of proceeds for steel related assets compared to other years, the ACCC is satisfied that ARTC has demonstrated prudency in this regard for 2014.

The ACCC notes that, in light of the concerns raised by Whitehaven and Idemitsu, there would be significant benefit in ARTC making additional information available to industry through the RCG to assist understanding of ARTC’s arrangements for disposing of assets.

ACCC’s overall view on ARTC’s prudency of capital e xpenditure

The ACCC’s assessment of ARTC’s prudency of capital expenditure has had regard to the relevant factors in the definition of “Prudent” in the HVAU.

Given the ACCC’s views on the above matters, the ACCC has determined that ARTC has demonstrated prudency of its net capital expenditure and it is appropriate for ARTC to roll forward total net capital expenditure of $210 760 915 million into its regulatory value of assets. This amount comprises of:

• ‘major’ capital expenditure additions of $147 776 081 plus

• ‘minor’ capital expenditure additions of $63 652 353 plus

• interest during construction of $14 063 719 less

• asset disposals of $14 731 237.

Of the total net capital expenditure, $50 102 773 million is attributed to Pricing Zone 3.

http://www.accc.gov.au/system/files/Consultants%20report%20-%20HVAU%20variation%20-%20Gap%20to%20Turrawan%20-%20Marsden%20Jacob%20Associates%20Review%20of%20DORC%20valuation.pdf

36 ARTC, Confidential response to ACCC information request, 16 December 2016.

22

2.2. Calculation of incremental costs

As previously noted, ARTC intends that its September 2016 submissions implements the WIK approach to calculating the incremental cost of Pricing Zone 3 Access Holders’ use of Pricing Zone 1 for the 2014 year. This calculation is based on the accepted definition of incremental cost to avoid cross-subsidy, so that a firm that offers a set of services receives revenue for each service or a group of services that is no more than the standalone cost of providing that service or group of services.37


ARTC submitted that it has largely adopted the values and allocation methods recommended by WIK for Corridor Capital and Major Projects up to and including December 2013 except in minor instances where there was inconsistent treatment of projects.38

ARTC noted that it engaged an engineering consultant, Bull Head Services, to assist with its assessment of the incremental costs of projects commissioned in the 2014 period. As outlined below, ARTC has also proposed some adjustments to the allocation method for projects up to and including December 2013 in some instances where, based on the Bull Head Services report, it considered there was an inconsistent treatment of projects.39

Treatment of capital projects up to end December 20 13 (i.e. projects previously assessed by WIK)

ARTC submitted that, in conducting its engineering assessment, Bull Head Services recommended making a small number of adjustments to the financial model to improve internal consistency in the treatment of projects that were considered by WIK.

The nature of the proposed adjustments by ARTC stemming from the Bull Head Services report relate to the proportion of the cost considered to be incremental (hence the amount of the cost to be allocated across all Access Holders) and the cost driver for the incremental component (i.e. GTK or Train Km).

Bull Head Services’ recommendations for the treatment of certain pre-2014 capital projects are set out in table 2.4 below.

37 ACCC, Draft Determinations, Australian Rail Track Corporation’s compliance with the Hunter Valley Coal Network Access

Undertaking financial model for the 2013 calendar year, 30 October 2015, p. 38. 38 ARTC, Hunter Valley Coal Network Access Undertaking – 2014 Compliance Submission: Attachment 1 Capital

Consultation, September 2016, p. 6. 39 ARTC, Hunter Valley Coal Network Access Undertaking – 2014 Compliance Submission: Attachment 1 Capital

Consultation, September 2016, p. 6.

23

Table: 2.4: Bull Head Services’ recommended adjust ments to WIK determined incremental proportions and cost drivers for capita l projects

WIK treatment Bull Head Services’ recommendation

Minor capital projects % incremental (cost driver)

0947I3 Turnout renewal 75% (Train Km) 75% (GTK)

095591 Fit nose rollers: Singleton SNX’s

50% (Train Km) 0% 094873 Fit nose rollers: Minimbah crossovers

0956G7 Install switch rollers at Mount Owen

092632 Hanbury Junction to Sandgate Nose Rollers

0936B5 182.781km Replace culvert 75% (GTK) 0%

Major capital projects

3584 Bi-directional signalling Maitland to Branxton 100% (Train Km) 50% (Train Km)

3576 Ulan line signalling and CTC 100% (GTK) 50% (Train Km)

Note: No cost driver has been assigned where the incremental proportion is considered to be 0%.

Treatment of maintenance and capital projects post December 2013 (i.e. not previously assessed by WIK)

To cover those activities and projects for which WIK did not provide an assessment (including post-December 2013 commissioned projects), ARTC submitted that it commissioned Bull Head Services to prepare an independent assessment:

Bull Head Services has provided ARTC with an independent assessment of the incremental values that should apply to the activities for maintenance and Corridor Capital projects and an assessment of each Major Project in Pricing Zone 1 for 2014 as well as for subsequent years to 2016.40

Bull Heads Services’ incremental treatment of all ARTC’s maintenance and capital projects is set out in detail in its 21 July 2016 report, provided as Attachment 4 of ARTC’s submission.41 ARTC’s submission summarises the approach that Bull Head Services took to evaluate the incremental nature of capital projects:

the consultant adopted an approach that drew on the precedents established in the WIK Report for projects of a similar nature where these were available. In the absence of useful precedent, the consultant applied a logic consistent with the WIK approach. This can be summed up as:

1. Where the main purpose of a project is to deliver higher Network capacity, the project would be considered to be 100% incremental.

2. Where a project had a substantial benefit in optimising the efficiency of operations or capacity at a coal terminal or otherwise was directed more at

40 Ibid, p. 6. 41 Bull Head Services, Independent Engineering Assessment of Incremental Costs – ARTC HVAU – 2014 to 2016 (Bull

Head Services report ), 21 July 2016, https://www.accc.gov.au/system/files/HVAU%202014%20Compliance%20Assessment%20Submission%20Attach%204%20Bull%20Head%20Services%20Report.pdf

24

coal chain efficiency rather than primarily for Network capacity, then the project would be considered 50% incremental.

3. A project directed solely for the benefit of coal chain efficiency, without delivering a direct increase in Network capacity would been considered as 0% incremental.42

2.2.2. Stakeholder submissions

HVEC submitted that, consistent with its previous submissions to ARTC and the ACCC, it agrees with the WIK position – that ‘the proportion of the efficient costs incurred within Pricing Zones 1 and 2 should reconciled with revenues from Pricing Zone 1 and 2 users by subtracting the incremental cost associated with Pricing Zone 3 user’s use of Pricing Zone 1 from the total efficient costs of Pricing Zones 1 and 2’.43

Pricing Zone 3 producers expressed their disagreement with the WIK approach. Idemitsu submitted that:

[it] did not agree with a number of the principles and concepts in the [ACCC’s] final determination [for the 2013 Annual Compliance process], but encourages both the ACCC and ARTC to enshrine these principles and concepts for the remainder of the current HVAU and new HVAU in the interest of understanding, regulatory certainty and continuity for all stakeholders.44

Regarding the application of the incremental cost method in ARTC’s 2014 Annual Compliance documentation, stakeholders raised two main issues in their submissions:

• proposed alternative treatment for three major capital projects; and

• use of contracted volumes rather than actual volumes for allocating incremental costs.

Treatment of major capital projects

Whitehaven Coal and Idemitsu submitted that the following three major projects should be treated differently than what is proposed by ARTC based on the Bull Head Services report. The proposed adjustments by Pricing Zone 3 producers principally relate to the proportion of the cost considered to be incremental and are set out in table 2.5 below.

42 ARTC, Hunter Valley Coal Network Access Undertaking – 2014 Compliance Submission, September 2016, p. 7. 43 HVEC, Submission on the ACCC’s consultation paper, 28 October 2016, p. 2. 44 Idemitsu, Submission on the ACCC’s consultation paper, 28 October 2016, p. 3.

25

Table: 2.5: Pricing Zone 3 producers proposed adj ustments to Bull Head Services’ recommended incremental proportions for major proje cts

Major capital projects Year commissioned

Bull Head Services’

recommendation

Proposed alternative by PZ3

producers

% incremental (cost driver)

6387 Hexham Relief Roads Stage 1 2014 100% (GTK) 50% (GTK)

Whitehaven & Idemitsu

9924 Mt Thorley Branch Signalling Enhancement 2014 50% (Train Km)

0% Whitehaven &

Idemitsu

6928 Drayton Junction Upgrade 2013 100% (GTK) 50% (GTK) Whitehaven

Idemitsu submitted that the proposed incremental proportions for the Hexham Relief Roads and Mt Thorley Branch Signalling Enhancement projects are inflated. Idemitsu is of the view that the portion of these projects costs to be assigned as incremental should be amended downwards to 50 per cent and 0 per cent respectively.

For the Hexham Relief Roads project, after outlining portions of the ARTC’s Post Implementation Reports presented to the RCG, Idemitsu submitted:

[I]t is apparent the Hexham Relief Road’s purpose and objective was not to provide a significant increase to Network capacity…The focus of the project was to integrate with other port related projects and provide improved operation efficiencies in and around KCT and NCIG…45

Idemitsu concluded that:

[I]t is Idemitsu’s view that this project’s [sic] satisfies the second criteria [sic] provided by WIK when classifying PZ1 projects, the Hexham Relief Road’s incremental percentage should be reduced from 100% to 50%.46

For the Mt Thorley Branch Signalling Enhancement project, after reviewing ARTC’s Closeout Report presented to the RCG in October 2015, Idemitsu submitted:

This project provides no increase to Network capacity, provides very limited operational efficiency from mainline Access Holders and the project was not constructed for any volume increase from PZ3.47

Idemitsu disagrees with Bull Head Services (and ARTC’s) incremental percentage portion for this project and proposes the incremental portion for project should be reduced from 50% to 0%.48

Whitehaven raised similar concerns in relation to the Hexham Relief Roads and Mt Thorley Branch Signalling Enhancement projects.

45 Idemitsu, Submission on the ACCC’s consultation paper, 28 October 2016, p. 6. 46 Ibid, p. 7. 47 Ibid. 48 Ibid.

26

For the Hexham Relief Roads project, Whitehaven submitted that:

[T]he project was undertaken to optimise the efficiency of operations or capacity at the coal terminals and should be considered a 50% incremental cost project as defined under the WIK methodology.49

In terms of the Mt Thorley Branch Signalling Enhancement project, Whitehaven submitted that this project should be treated as a Segment Specific Asset, where the relevant costs are allocated to mines using that segment, including capital returns. Whitehaven considers that the inclusion of this project runs against the principle of producers only paying for sections of the rail network that they utilised, and is against the Stand Alone cost principle established in the ACCC’s Final Determination for the 2013 Annual Compliance assessment.50

Whitehaven also submitted that a further major capital project – the Drayton Junction Upgrade project – requires review. For this project, Whitehaven submitted:

Analysis of the RCG approval paper shows the primary objective of lowering maintenance costs. As this is an efficiency objective, Whitehaven believes the project should be considered as a 50% incremental cost project as defined under the WIK methodology.51

Whitehaven submitted that all other major capital projects other than the three discussed in its submission should be included in the Pricing Zone 1 RAB.52

Method to allocate incremental costs

Under the WIK methodology, incremental costs are allocated to Access Holders based on their actual usage of Pricing Zone 1, measured by gross tonne kilometres (GTK) for the majority of cost categories and by train kilometres (Train Km) for other cost categories.

For instance, WIK considered the cost associated with investment and maintenance on rail track infrastructure such as junction upgrades, track duplications, third roads and most track maintenance to be related to the volumes measured by GTK’s utilising and causing wear on the rail tracks. WIK considered that costs associated with investments such as signalling enhancements were more associated with Train Km to better represent the actual usage of that infrastructure.53

In relation to the use of actual versus contracted volumes to allocate incremental costs, HVEC submitted that:

to enable a consistent approach for past and future decisions of the determination and allocation of incremental costs regard must be had to Access Holders current and prospective contractual positions (at the time of the investment decision) rather than actual Train Km or GTK in each compliance period.54

HVEC is concerned that the incremental cost methodology for Pricing Zone 1 (based on the WIK recommendation) where incremental costs are allocated on the basis of actual tonnage within the year as opposed to contracted tonnage creates pricing

49 Whitehaven, Submission on the ACCC’s consultation paper, 2 November 2016, p. 3. 50 Ibid, p. 2. 51 Ibid, p. 3. 52 Ibid, p. 2. 53 WIK report, pp. 23-32. 54 HVEC, Submission on the ACCC’s consultation paper, 28 October 2016, p. 2.

27

uncertainty for producers and has the potential to skew take or pay pricing between producers that are fully utilising their contracted position and those that are not.55

Idemitsu similarly disagreed with WIK’s methodology of using actual GTK as an allocator of incremental cost, particularly in relation to Major and Corridor Capital Projects.56

Idemitsu submitted that contracted GTK is a more appropriate allocator:

The development and growth of the Network’s capacity requires the commitment of significant capital to long term rail infrastructure which often has construction and commissioning periods of up to three years. The expectation of ARTC carrying such infrastructure risk on a usage basis would seem unreasonable given the nature of such projects.57

Idemitsu further submitted that since the inception of the HVAU, the contractual approach has underpinned the premise of building infrastructure to support capacity on the Hunter Valley network.58 Under this approach, parties are bound by their respective obligations:

ARTC is required to provide the contracted capacity in a timely manner and the Access Holders have obligation to fund the infrastructure indirectly through take or pay obligations.59

Whitehaven also submitted that it does not agree with the principle of utilising actual rather than contracted GTKs.60 Whitehaven submitted that contracted tonnes must be used because:

[T]he use of contracted tonnes was understood by all producers at the time of capital approval and this is aligned with the long term capacity framework…61

Whitehaven further submitted that:

The voting process for [major and minor capital] Pricing Zone 1 projects is based on gross tonne kilometres Contracted [sic] with ARTC in Pricing Zone 1.This also reflects the long term capacity framework which provides the mechanism for capacity projects to be requested and approved.

If at the time of approval, Whitehaven had been aware that capital recovery of Pricing Zone 1 projects would be based on actual tonnes rather than contracted tonnes, approval would not have been granted by Whitehaven.62

Other issues relating to the incremental cost calcu lation

Idemitsu raised concern with the potential future behaviour of RCG, and its role in approving major capital projects as:

It is conceivable for an Access Holder to endorse a large infrastructure project but having no need for the additional capacity and having no financial accountability for the decision.63

55 HVEC, Submission on the ACCC’s consultation paper, 28 October 2016, p. 2. 56 Idemitsu, Submission on the ACCC’s consultation paper, 28 October 2016, p. 3. 57 Ibid. 58 Ibid. 59 Ibid. 60 Whitehaven, Submission on the ACCC’s consultation paper, 2 November 2016, p. 1. 61 Ibid, p. 4. 62 Ibid.

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Referencing Table 2 of ARTC’s September 2016 submission regarding incremental maintenance costs, Idemitsu sought clarity on the magnitude of the discount factor applied by ARTC in the 2014 Annual Compliance documentation, and how the factor was determined.

Idemitsu sought confirmation that an appropriate discount factor has been applied across all relevant maintenance activities.64

Idemitsu also welcomed ARTC’s breakdown of the Incremental Capital Charges of Pricing Zone 3 Access Holders in Pricing Zone 1, specifically into depreciation and return on assets.65


On 16 September 2016, the ACCC sought further information from ARTC relating to Bull Head Services’ adjustments to incremental proportions and cost drivers for certain capital projects.

ARTC provided an additional report from Bull Head Services to the ACCC on 28 October 2016. This report set out a more complete explanation of the reasons for Bull Head Services’ recommendations.

On 27 February 2017, ARTC provided some outstanding RCG documentation in relation to one of the capital projects where Bull Head Services proposed an adjustment.

2.2.4. WIK approach to calculating incremental cost

The WIK approach to calculating incremental cost was set out extensively in the ACCC’s Draft and Final Determinations for the 2013 Annual Compliance assessment.66 Two particular aspects of the WIK approach that were considered in that assessment, and have been raised in relation to the 2014 Annual Compliance assessment, relate to:

• the assessment and treatment of capital projects; and

• the method to allocate incremental costs.

As noted in the WIK report, ARTC’s CAPEX projects are differentiated into two main categories:

• Major CAPEX projects refer to projects related to investment into capacity. The capital expenditures in these projects are related to asset enhancements driven by the need for a higher network capacity.

• Minor CAPEX projects are deemed to be more reinvestments into the infrastructure, i.e. the replacement and renewal of assets.67

Regarding the assessment and subsequent treatment of major capital projects, the WIK report sets out:

Since per definition Major CAPEX is mainly linked to capacity enhancement projects the different projects were assessed questioning their sole necessity to facilitate capacity growth…68

63 Idemitsu, Submission on the ACCC’s consultation paper, 28 October 2016, p. 4. 64 Ibid. 65 Ibid. 66 See, ACCC, Final Determination - Australian Rail Track Corporation’s compliance with the Hunter Valley Coal Network

Access Undertaking financial model for the 2013 calendar year, 6 June 2016. 67 WIK report, p. 25.

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The major CAPEX projects are almost all asset enhancement driven projects propelled by the need for a higher network capacity due to higher transport volumes needed.

In this respect reducing maintenance impacts respectively increasing operational flexibility are also seen as a form of capacity enhancement.

Since those projects are generally not required in case of no increase of traffic volume they are deemed to be 100% volume related, hence incremental.69

As evidenced in the ACCC’s Final Determination for the 2013 Annual Compliance assessment, the ACCC considers that capacity enhancement can take the form of a range of diverse capital activities, including (but not limited to) track duplications, third roads and junction upgrades.70 These types of investments may add to the size of the network, make the existing network more efficient, or ease congestion. All of these enhance capacity for users and accommodate increases in traffic volume.

As noted above, once the WIK methodology is applied to calculate incremental cost, it is then allocated among Access Holders based on actual volumes (either actual GTK or actual Train Kms).


This section sets out the ACCC’s views on ARTC’s application of the incremental cost method in its 2014 Annual Compliance documentation.

The ACCC notes that ARTC’s 2014 Annual Compliance documentation largely adopts the principles, values and allocation methods recommended by WIK and determined appropriate by the ACCC in the 2013 Annual Compliance assessment. The minor exception to this is where ARTC’s consultant, Bull Head Services, considered there were inconsistencies in the WIK model and recommended an alternative treatment for a small number of capital projects that WIK had assessed.

Given that ARTC has largely adopted the WIK methodology and values from 2013 Annual Compliance assessment, the ACCC’s views are focused on Bull Head Services’ proposed alternative treatment to certain capital projects, as well as on the issues raised by stakeholders regarding ARTC’s application of the incremental cost method for 2014.

As such the ACCC’s views on the following items are set out below:

• Bull Head Services’ treatment of capital projects and maintenance activities

• Treatment of major capital projects raised by Pricing Zone 3 producers

• Method to allocate incremental costs

• Other matters

• ACCC’s view on ARTC’s overall application of the incremental cost method.

Bull Head Services’ treatment of capital projects a nd maintenance activities

The ACCC considers that Bull Head Services has applied the WIK approach in a consistent way with respect to the majority of capital projects and maintenance activities that contribute

68 Ibid. 69 WIK report, pp. 31, 32. 70 ACCC, Final Determination - Australian Rail Track Corporation’s compliance with the Hunter Valley Coal Network Access

Undertaking financial model for the 2013 calendar year, 6 June 2016, pp. 73-89.

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to incremental cost. Bull Head Services concurred with the WIK treatment of almost all capital projects and maintenance activities that WIK had assessed. For projects and activities that WIK did not assess, Bull Head Services has outlined the reasons behind its treatment, which appear consistent with the WIK approach.71

In its review and extension of the WIK approach, Bull Head Services identified a total of eight capital projects (six minor and two major projects) in the WIK model that it considered were not treated in a consistent way compared to other projects considered by WIK, or for which the conclusions did not follow.72 For each of these projects, Bull Head Services recommended an alternative treatment.

The ACCC’s views on the treatment of these particular projects are outlined below.

Turnout renewal

Bull Head Services identified that for minor project number 094713, which relates to a turnout renewal, WIK applied Train Km as the cost driver. However, Bull Head Services observed 11 other minor projects relating to turnout renewal where WIK applied GTK as the cost driver, and recommended the same treatment should be applied to project 094713.73

The ACCC has reviewed the WIK model and report and is satisfied that for consistent treatment of similar turnout renewal minor projects it is appropriate for the cost driver for project number 094713 to be GTK. The ACCC notes that the WIK approach to the treatment of turnout renewal projects is set out on page 30 of the WIK report.74

In its review, the ACCC identified that a further minor project relating to turnout renewal, project number 0937M8, should also be amended to have GTK as the cost driver (rather than Train Km). This amendment is consistent with the WIK approach and with Bull Head Services recommendation on the treatment of turnout renewal projects.

Switch roller fitting

Bull Head Services identified four minor projects (095591, 094873, 092632 and 0956G7) that relate to the fitting of nose rollers to swing-nosed crossing (SNX) turnouts.75 For these projects WIK applied an incremental proportion of 50 per cent noting that ’the need for point machine replacement resp. point motor renewal is caused by both, time and volume likewise.’76

Bull Head Services observed 10 other projects described in terms of spherolocks, which it considers are of a similar nature to projects 095591, 094873, 092632 and 0956G7.

For the 10 projects noted regarding spherolocks, WIK assigned a 0 per cent incremental proportion. Bull Head Services therefore claims that as projects 095591, 094873, 092632 and 0956G7 are of a similar nature, they should be treated the same way.

Bull Head Services explains that:

[Spherolocks] are a form of switch roller and can be used on both SNX and fixed nosed crossings (FNX). Accordingly, Spherolocks, SNX Rollers, FNX Rollers, Nose

71 Bull Head Services report, 21 July 2016, pp. 15-18. 72 Bull Head Services, report, 21 July 2016, p. 2. 73 Bull Head Services, Response to ACCC query seeking clarification of projects identified in Appendix B of Bull Head

Services independent engineering report, 27 October 2016, p. 2. 74 WIK report, p. 30. 75 Bull Head Services, Response to ACCC query seeking clarification of projects identified in Appendix B of Bull Head

Services independent engineering report, 27 October 2016, p. 2. 76 WIK report, p. 74.

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Rollers and Switch Rollers are similar and the terms are often interchangeable with respect to describing such turnout componentry. Accordingly, the treatment of them should be consistent.77

Further, Bull Head Services believes that:

all of the above [14] projects should be treated consistently and that the reason for the replacement of nose rollers is often not related to traffic volumes but other circumstances such as reliability e.g. the avoidance of contamination from coal dust, or that they were purchased following and fitted independently to the turnout’s procurement / installation, and therefore the incremental proportion of the cost is 0%.78

The ACCC notes Bull Head Services’ relatively technical argument justifying the proposed adjustments, and considers it reasonable to accept such adjustments to provide for a more consistent approach across projects.

Culvert replacement

Bull Head Services identified that WIK applied an incremental proportion of 75 per cent to minor project number 0936B5, which is described as relating to a culvert replacement. However, Bull Head Services observed 13 other minor projects relating to culvert works that WIK did not consider incremental and assigned a 0 per cent incremental proportion.

Bull Head Services notes that:

It would appear that the WIK value is an unintended inconsistency and that WIK intended to agree with ARTC that culvert replacement is not dependent on traffic.79

…in normal circumstances, culverts should not degrade due to traffic. Rather culverts will degrade due to the state of the embankment and environmental issues, e.g. floods. The incremental value should therefore be 0% and incremental the cost allocator “n/a”.80

The ACCC has reviewed the WIK model and report and is satisfied that for consistent treatment of similar culvert replacement/extension/modification projects, it is appropriate to assign project number 0936B5 a 0 per cent incremental proportion.

Bi-directional signalling between Maitland and Bran xton

The major capital project ‘Bi-directional signalling between Maitland and Branxton’ (code 3584) related to signalling works between Maitland and Branxton so as to allow trains to operate on either (at the time there were only two) of the coal lines in either direction. Prior to this project, the tracks were unidirectional, meaning that trains could only travel in one direction on a particular line.81 This project was implemented in 2009.

WIK applied an incremental proportion of 100 per cent and Train Km as the cost driver for this project.

77 Bull Head Services, Response to ACCC query seeking clarification of projects identified in Appendix B of Bull Head

Services independent engineering report, 27 October 2016, p. 2. 78 Ibid, p. 3. 79 Ibid, p. 3. 80 Ibid, p. 4. 81 Bull Head Services, Response to ACCC query seeking clarification of projects identified in Appendix B of Bull Head

Services independent engineering report, 27 October 2016, p. 4.

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Bull Head Services, however, considers that this project should be assigned an incremental proportion of 50 per cent (with Train Km as the cost driver) and that this would be consistent with WIK’s treatment of other signalling related projects. Bull Head Services references three minor capital projects associated with signalling system upgrades where WIK assigned a 50 per cent incremental proportion.

The ACCC had considered this project in detail as part of the 2013 Annual Compliance assessment and agreed with the WIK position.82

In light of Bull Head Services’ recommendation the ACCC revisited relevant documentation regarding this project, including HVCCS and Rail Infrastructure Group (RIG) documents and other publicly available information.

The ACCC considers that, while this project does relate to capital expenditure on signalling infrastructure, the project was clearly to facilitate capacity growth. The ACCC notes the following in support of the WIK position:

Analysis of the capacity benefits of bi-directional signalling has been undertaken by both ARTC and the Hunter Valley Coal Chain Logistics Team. The analysis suggests that bi-directional signalling of the Maitland – Branxton section would deliver at least 1.5 million tonnes of capacity that will contribute directly to increasing the capacity of the entire coal chain, as it will feed trains to the port unloaders when they would otherwise be idle.83

The Maitland to Branxton Bi-Directional Signalling Upgrade project is one of a number of related major projects required to improve capacity of the Hunter Valley network to meet projected growth of coal exports. The Maitland to Branxton section of the Main North Line is a major constraint in the current line coal carrying capital due to the need for on-track maintenance.84

The new signalling has been designed for full bi-directional traffic. Eight minute headways on both lines meet current capacity targets for loaded coal trains running at 60km/h. The design will also allow a future increase in permissible speed for loaded coal trains to 80km/h following track and structural strengthening works, reducing train transit time and further increasing capacity.85

As such, under the WIK approach to defining incremental cost and for consistency with WIK’s treatment of other major projects identified by ARTC that relate to capacity enhancement, the ACCC remains of the view that this project should be considered 100 per cent incremental with Train Km as the cost driver.

Ulan line signalling and Centralised Train Control

The major project ‘Ulan line signalling and Centralised Train Control’ (code 3576) related to upgrading signalling and providing Centralised Train Control to be remotely controlled from ARTC’s Network Control Centre North. ARTC notes that this project was a key component of ARTC’s Hunter Valley Capacity Improvement Strategy.86

This project was assessed by WIK and included in WIK’s report. The ACCC however notes that this project relates to Pricing Zone 2 and was treated as such within WIK’s incremental


Undertaking financial model for the 2013 calendar year, 6 June 2016, p. 78. 83 ARTC, 2007-2012 Hunter Valley Corridor Capacity Strategy – Consultation Document, 29 November 2007, p. 29. 84 ARTC, Maitland to Branxton Bi-Directional Signalling – Project Evaluation, October 2008, p. 3. 85 Arup, Maitland to Branxton rail signalling, See http://www.arup.com/Projects/Maitland_to_Branxton_Rail_Signalling.aspx. 86 ARTC, RIG submission: Ulan Line Introduction of Centralised Traffic Control, Project Evaluation, 2 March 2007, p. 1.

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cost modelling. In particular, the incremental proportions and cost drivers assigned to the project did not affect the calculations or values of the incremental cost of Pricing Zone 3 Access Holders’ use of Pricing Zone 1.

ARTC’s 2014 Annual Compliance documentation has taken the same approach and the ACCC is satisfied that this project falls outside the scope of the incremental cost for Pricing Zone 3 Access Holders.

Treatment of capital projects raised by Pricing Zon e 3 producers

Pricing Zone 3 producers raised three major projects in ARTC’s 2014 Annual Compliance documentation that they considered should be treated differently.

Two of these projects were commissioned in 2014 and have been assessed by Bull Head Services on behalf of ARTC. One project was commissioned in 2013 and was assessed by both WIK, as part of the 2013 Annual Compliance assessment, and by Bull Head Services for the 2014 Annual Compliance assessment.

The ACCC’s views on the appropriate treatment of each project, having regard to the WIK approach, are set out below.

Hexham Relief Roads project

The Hexham Relief Roads project (code 6387) involved the design and construction of new train lines (relief roads), and associated infrastructure, near the existing Up Coal line at Hexham.87

According to ARTC, a relief road is a rail track that sits beside and connects to a network line. These sections of track are known as ’relief roads’ because they relieve network congestion by allowing trains to be diverted off the main line and onto the spare track, if needed.88 The Hexham Relief Roads are accessible from the Up Coal line, meaning that trains travelling from mines towards the Newcastle port terminals can access the relief roads.89

Bull Head Services considers this project to be 100 per cent incremental with GTK the appropriate cost driver. Bull Head Services states that its view on this project is consistent with the approach adopted in the WIK Report for Major CAPEX projects of a similar nature which are primarily required to service additional coal volumes.90

Bull Head Services also notes in its consideration of the Hexham Relief Roads projects that:

The major issues affecting the Operating Capacity and mitigating congestion for unit coal trains entering ‘Terminal Areas’, can be improved using infrastructure solutions such as the provision of holding roads, third tracks, associated re-signalling projects.91

The ACCC notes submissions from Idemitsu and Whitehaven that this project should be treated as 50 per cent incremental because it was mainly to relieve congestion, improve operations in and around the coal terminals and allow resequencing of trains.92 This relates

87 ARTC/Upper Hunter Valley Alliance, http://www.uhva.com.au/projects/hexham/ 88 Ibid. 89 Bull Head Services report, 21 July 2016, p. 8. 90 Ibid, p. 8. 91 Ibid, p. 8. 92 Idemitsu, Submission on the ACCC’s consultation paper, 28 October 2016, p. 6; Whitehaven, Submission on the ACCC’s

consultation paper, 2 November 2016, p. 3.

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to an assessment that WIK made regarding the No. 3 Departure Road at Kooragang Coal Terminal project (code 8665) in the 2013 Annual Compliance process which WIK treated as 50 per cent incremental. For that project WIK explained that ‘the investment into a departure road is mainly driven by asset enhancement for higher network capacity but some share is also to provide higher buffering capacities at port’.93

The ACCC undertook analysis of relevant HVCCS, RCG and publicly available information regarding this project to inform how the WIK approach should apply.

As noted above, the WIK approach considers relieving congestion and increasing operational flexibility a form of capacity enhancement. The capacity enhancement related to the Hexham Relief Roads project is evident in various ARTC Hunter Valley Corridor Capacity Strategy documents which set out that:

resequencing of trains would become both increasingly necessary and increasingly difficult at higher volumes…

the strategy recommends the construction of 3 holding tracks at Hexham. As volume moves above 200 mtpa, there is an increasing justification for a fourth holding track.

The HVCCC is undertaking more ‘whole-of-system’ modelling to validate the number of holding tracks required at Hexham,94

The HVCCC continues to highlight the congestion consequences of resequencing and has been increasingly flagging the congestion consequences of provisioning, crew changes and empty train stabling. The HVCCC argues that these issues are leading to growing system capacity losses.95

The ACCC also refers to submissions from Idemitsu and Whitehaven where capacity enhancements are also noted:

The capacity benefit that the project has had on the system is greater than 15mtpa.96

The ACCC recognises that a result of the increase in network capacity provided by the project may have reduced congestion in and around the port zone. However the ACCC considers that these benefits are a result of the increase in network capacity provided by the project, which was required to facilitate capacity growth.

Further, as the project connects to the main line and caters to trains travelling along Pricing Zone 1 towards the port district, the ACCC considers that it services additional volumes from producers originating in Pricing Zones 1, 2 and 3 travelling to the Newcastle Port Zone. As noted by Bull Head Services, this aligns with the WIK approach to assessing projects such as the Nundah Bank third track, which also provided resequencing capacity.97

In contrast, the No. 3 Departure Road at Kooragang Coal Terminal project is specifically linked to the rail operations within that coal terminal, where benefits to the terminal’s operation can be directly associated.

Overall, the ACCC agrees with Bull Head Services’ assessment of this project as 100 per cent incremental with GTK as the cost driver.

93 WIK report, p. 85. 94 ARTC, 2011 Hunter Valley Corridor Capacity Strategy Consultation Document, March 2011, p. 14. 95 ARTC, 2012 Hunter Valley Corridor Capacity Strategy, June 2012, p. 26. 96 Idemitsu, Submission on the ACCC’s consultation paper, 28 October 2016, p. 6. 97 ARTC, 2011 Hunter Valley Corridor Capacity Strategy Consultation Document, March 2011, p. 17.

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Mount Thorley branch signalling enhancement project

The Mount Thorley branch signalling enhancement project (code 9224) related to improving the signalling at three mine spur lines on the Mount Thorley branch line. The Mount Thorley branch line connects to the main line at Whittingham.

Bull Head Services assessed this project as 50 per cent incremental with Train Km as the cost driver. According to Bull Head Services ’this was based of the WIK assessment for similar projects relating to the efficiency for entry and exit to the branch line’.98

The ACCC notes Idemitsu’s submission arguing that this project should be treated as 0 per cent incremental, as well as Whitehaven’s submission that the project should not be included based on the related capital works being carried out on segments of the rail network that Pricing Zone 3 producers do not traverse.99

The ACCC undertook analysis of relevant HVCCS, RCG and other publicly available information regarding this and related projects to inform how the WIK approach should apply.

The ACCC understands from the relevant documents that the Mount Thorley branch signalling enhancement project was part of a wider ARTC strategy to facilitate a process at the port and reduce congestion impacts on capacity through more effective management of trains. ARTC’s 2014 HVCCS explains that:

An issue that was first highlighted in the 2012 Strategy is empty train management. This issue is essentially one of what to do with empty trains while they await departure for their next outbound trip.

To ensure that the departure roads at KCT and NCIG are kept clear to allow trains to dump, the HVCCC reports against a target that all trains should depart within one hour. Essentially the issue that arises is where these trains go to if there is no load point ready to receive them.

HVCCC identified a proposal for a number of down relief hubs to address this issue. Since the 2012 Strategy, the primary focus has been on:

• Drayton Down Relief Hub, which is a single holding track adjacent to the mainline immediately before the Drayton Branch and connecting directly to both the mainline and the Drayton branch.

• Whittingham Down Relief Hub, which is a set of up to two holding tracks adjacent to the Whittingham branch somewhere between the junction and the Golden Highway overbridge.100

The ACCC notes that the Drayton Down Relief Hub (code 8669) was a major project commissioned in 2014. The Whittingham Down Relief Hub project, however, was put on hold and the Mount Thorley branch signalling enhancement project was seen as a more cost effective option to overcome existing limitations and improve operational efficiency. ARTC’s 2015 HVCCS explains:

The Whittingham facility has had concept design completed. ARTC has also completed a minor signalling reconfiguration on the balloon loops joining the

98 Bull Head Services report, 21 July 2016, p. 18. 99 Idemitsu, Submission on the ACCC’s consultation paper, 28 October 2016, p. 6; Whitehaven, Submission on the ACCC’s

consultation paper, 2 November 2016, p. 3. 100 ARTC, 2014 Hunter Valley Corridor Capacity Strategy, July 2014, pp. 28-29.

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Whittingham branch which has increased the flexibility of operations in this area and by extension the capacity.

The signalling reconfiguration together with the initiatives discussed elsewhere to reduce system variability levels may obviate the need for the relief hub. As such the project is currently on hold and will be reviewed once the HVCCC completes its work on system variability.101

Given this background the ACCC is of the view that the Mount Thorley branch signalling enhancement project was to provide additional capacity in order to address congestion issues. In accordance with the WIK approach, the ACCC considers that the project should be considered incremental to all users of Pricing Zone 1.

The ACCC notes that Bull Head Services has treated the Mount Thorley branch signalling enhancement project and the Drayton Down Relief Hub project on a comparable basis, and assigned them an incremental proportion of 50 per cent.

The ACCC recognises while the Mount Thorley branch signalling enhancement project was to address congestion issues, the enhancements also provided certain flexibilities specifically for those producers using the Mount Thorley branch line.

Accordingly, the ACCC considers that Bull Head Services’ recommendation of a 50 per cent incremental proportion is reasonable. Consistent with the WIK allocation of cost drivers to other signalling related projects, the ACCC considers using Train Km’s as the cost driver in this case is appropriate.

Drayton junction upgrade project

The Drayton Junction was a high maintenance junction with slow junction speeds. According to ARTC this led to reliability issues and the time for maintenance reduced the capacity of the network. The Drayton junction upgrade project (code 6928) involved relaying the junction with a high-speed, low-maintenance turnout.102

This project was assessed by WIK as part of the 2013 Annual Compliance process. WIK considered this project as 100 per cent incremental with GTK as the cost driver.103 Bull Head Services agreed with WIK’s assessment.104

Whitehaven, however, submitted that this project should be treated as 50 per cent incremental as lowering maintenance costs is an efficiency objective.105

The ACCC notes Bull Head Services’ assessment of this project that:

Drayton Junction (as well as Newdell Junction) have been upgraded with high-speed, low maintenance turnouts. While this was primarily maintenance driven, the speed upgrade means that these junctions are now highly efficient as they provide operational enhancements.

The operational capacity increase for coal trains utilising Drayton Junction was achieved and improved by asset enhancements using Turnout Renewals, through High Speed Turnout Installation.

101 ARTC, 2015 Hunter Valley Corridor Capacity, July 2015, p. 27. 102 ACCC, Final Determination - Australian Rail Track Corporation’s compliance with the Hunter Valley Coal Network Access

Undertaking financial model for the 2013 calendar year, 6 June 2016, p. 85. 103 Ibid, pp. 85-86. 104 Bull Head Services report, 21 July 2016, p. 9. 105 Whitehaven, Submission on the ACCC’s consultation paper, 2 November 2016, p. 3.

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The Consultant concurs with the approach adopted in the WIK Report for this project “We assume that junction upgrade is mainly driven by asset enhancement for higher network capacity”, noting that the need for improved maintenance is driven primarily by the increasing volumes of traffic.106

As noted in the ACCC’s Final Determination for the 2013 Annual Compliance assessment:

A number of projects related to upgraded sections of the main Pricing Zone 1 line. These included the Newdell Junction Upgrade and the Drayton Junction Renewal projects which provided benefits of reduced future maintenance downtime and therefore more constant capacity for all Access Holders.

The ACCC notes ARTC’s 2007 HVCCS which states that “[the] Newdell and Drayton Junctions also have high maintenance turnouts, necessitating excessive track maintenance and producing additional train delays”.107

Therefore, consistent with both WIK and Bull Head Services’ assessments, the ACCC remains of the view that Drayton Junction upgrade project is 100 per cent incremental with GTK as the cost driver.

Method of allocating incremental costs

The ACCC notes from the 2013 Annual Compliance assessment that WIK’s approach to assessing incremental cost is thorough and robust, and supported by economic theory. In the 2013 assessment the ACCC determined that a usage based allocation method (such as that adopted in WIK model to allocate incremental costs based on actual volumes) is appropriate.108 This method was applied in ARTC’s 2014 Annual Compliance documentation.

The ACCC notes submissions from HVEC, Idemitsu and Whitehaven that the allocation of incremental costs to be changed from actual volumes to contracted volumes. Idemitsu and Whitehaven submit that allocating costs based on contracted commitments better represents the long term capacity framework for the Hunter Valley, noting that capacity is provided and approvals for investment programs are given based on contracted commitments.109 HVEC notes that an actual volumes allocation method has the potential to skew take or pay pricing between producers that are fully utilising their contracted position and those that are not.110

On this issue the ACCC’s Final Determination for the 2013 Annual Compliance assessment noted:

The ACCC considers that its annual compliance assessments are ex post assessments of ARTC’s costs to determine the ceiling revenue limits, any ‘unders and overs’ amounts for Constrained Coal Customers and the amounts of any revenue shortfalls for Pricing Zone 3 Access Holders to be carried over for future years. In this context it is appropriate to take into account the available information on the actual usage of the network by Access Holders and to allocate costs between users based on what they actually used rather than what users were contracted to use.111

106 Bull Head Services report, 21 July 2016, p. 9. 107 ACCC, Final Determination - Australian Rail Track Corporation’s compliance with the Hunter Valley Coal Network Access

Undertaking financial model for the 2013 calendar year, 6 June 2016, p. 64. 108 Ibid, p. 59. 109 Idemitsu, Submission on the ACCC’s consultation paper, 28 October 2016, p. 3; Whitehaven, Submission on the ACCC’s

consultation paper, 2 November 2016, p. 1. 110 HVEC, Submission on the ACCC’s consultation paper, 28 October 2016, p. 2. 111 ACCC, Final Determination - Australian Rail Track Corporation’s compliance with the Hunter Valley Coal Network Access

Undertaking financial model for the 2013 calendar year, 6 June 2016, p. 59.

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Additionally, the ACCC is of the view that allocating incremental costs based on contracted commitments would result in Access Holders not necessarily being liable for their actual consumption of the network as it would not be fully reflective of the volume related costs that are actually caused to the network by their usage. The concept of incremental cost applied through the WIK methodology relates the actual consumption of below rail services to the costs caused by producers. In this way, the ACCC considers that it is reasonable for a producer who uses more below rail services than another to be expected to pay a greater share of the associated costs, rather than potentially the other way around.

As noted above, ARTC has adopted the WIK methodology in its 2014 Annual Compliance documentation and allocated incremental costs based on actual volumes. The ACCC does not intend to depart from that in its annual compliance assessments under the 2011 HVAU.

The ACCC notes that some producers have also raised this issue in the context of ARTC’s proposed 2017 Hunter Valley Access Undertaking, in which ARTC is proposing to switch allocation methods from actual to contracted volumes. The proposed undertaking is currently under assessment by the ACCC.

Other matters

In its submission Idemitsu sought clarity on the magnitude of the adjustment factor applied by ARTC in the 2014 Annual Compliance documentation. This adjustment takes account of the different impact of axle loads and speeds on maintenance costs in Pricing Zone 3 where there was a maximum 25 TAL in 2014, compared to 30 TAL for other parts of the network.

For the 2013 Annual Compliance process, WIK applied ARTC’s adjustment factor of 0.969 for Pricing Zone 3 trains with maximum 25 TAL.112 This was accepted by the ACCC.

The ACCC has reviewed ARTC’s incremental cost modelling for the 2014 year and confirms that ARTC has applied the same adjustment factor for Pricing Zone 3 hauls. In turn, ARTC has applied the adjusted GTK figures to calculate incremental costs for those maintenance activities with GTK cost drivers. This is consistent with the WIK approach, and the ACCC considers that it is appropriate.

ACCC’s overall view on ARTC’s application of the in cremental cost method

Given the analysis set out above the ACCC considers that ARTC has appropriately adopted the incremental cost methodology from the 2013 Annual Compliance assessment with the exception of its treatment of the Bi-directional signalling between Maitland and Branxton project. The ACCC considers that Bull Head Services’ change to this project should be reversed back to reflect to WIK position. As such, the incremental proportion for this project should be 100 per cent and the cost driver should be Train Km (consistent with the WIK approach).

Additionally the ACCC identified one further capital project (Minor project number 0937M8), relating to a turnout renewal, that should be amended to have GTK as the cost driver rather than Train Km (consistent with the WIK approach and Bull Head Services recommendation regarding other turnout renewal projects). Accordingly, the proportion incremental and allocation mechanism for this project should be 75 per cent and cost driver should be GTK.

The ACCC notes that the result of not accepting ARTC’s proposed treatment of the Bi-directional signalling between Maitland and Branxton project has a small impact on the calculation of the revenue ceiling test for the Constrained Network and, therefore, the calculation of any under- or over-recovery of revenue for Constrained Coal Customers.

112 WIK report, pp. 36-37.

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Once amending the treatment of the Bi-directional signalling between Maitland and Branxton and making the change to the turnout renewal project noted above for consistency, the incremental cost of Pricing Zone 3 Access Holders’ use of Pricing Zone 1 increases by $445 356 to $19.7 million and the costs to be collected from the Constrained Group of Mines reduces by the same amount.

These amendments are detailed further in chapter 3 where the ACCC has set out its determined values for the RAB roll forward for Pricing Zone 3 (section 3.1), and the application of the Ceiling Limit (section 3.4).

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2.3. Efficiency of operating expenditure

Subsection 4.10(e) of the HVAU provides for the ACCC to assess the efficiency of ARTC’s operating expenditure. Efficient costs and operating expenditure in turn informs the determination of the Economic Cost and the maximum amount of revenue that ARTC is entitled to receive.

Subsection 2(c) of Schedule G of the HVAU requires ARTC to submit, amongst other particulars, a detailed breakdown of the Economic Costs for the review period into standard operating cost line items, return and depreciation, as well as provide comparative values from the previous review period.


For the 2014 Compliance Period, ARTC has sought to recover operating expenditure of $106 565 523 for the Constrained Group of Mines and $43 954 433 for Pricing Zone 3.

Constrained Network

Table 2.6 below shows a breakdown of ARTC’s submitted operating expenditure for the Constrained Group of Mines for the 2014 Compliance Period compared to the 2013 Compliance Period. Figures 3 and 4 that follow provide an overview of the percentage contributions of each element to total operating expenditure.

Table 2.6: Operating expenditure for the Constraine d Group of Mines for the 2013 and 2014 Compliance Periods - millions ($) 113

Operating expenditure 2013 2014

Maintenance costs (including shared maintenance) 73.5 77.9

Expensed project costs 9.0 2.6

Net loss on disposals 4.5 4.4

Network control 9.3 9.4

Corporate overheads 10.7 12.2

Total operating expenditure 106.9 106.6

113 ARTC, Hunter Valley Coal Network Access Undertaking – 2014 Compliance Submission, September 2016, Table 16,

p. 22.

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Figure 3: Operating expenditure for the Constraine d Group of Mines for the 2013 Compliance Period

Figure 4: Operating expenditure for the Constraine d Group of Mines for the 2014 Compliance Period

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Maintenance (including shared maintenance) costs 114

ARTC submitted that the total cost of maintenance work for the Constrained Group of Mines for the 2014 Compliance Period was $77.93 million, compared to $73.53 million in the previous year. ARTC submitted that the higher maintenance costs in 2014 were:

driven by higher levels of activities such as ballast cleaning, mud hole rectification and resurfacing in the Constrained Network.115

Expensed project costs

In relation to the expensing of project costs, ARTC submitted that:

During 2014 the forecast growth in coal export volumes continued to ease. Combined with the introduction of 30TAL capabilities in Pricing Zone 3 (30TAL operations commenced in Pricing Zone 3 in January 2015) and longer trains, a number of proposed infrastructure projects in the early stages of development were deferred beyond the foreseeable future.116

ARTC submitted that for the Constrained Group of Mines it expensed projects totalling $2.63 million compared to $9.0 million in 2013. These costs related to two projects:

• Project 8574 Hexham to Kooragang Third Track Phase 1

• Project 8814 Kooragang Arrival Roads Stage 3.

ARTC noted that:

[these projects] were initially progressed in accordance with ARTC’s annual Hunter Valley Corridor Capacity Strategy document, in consultation with the Hunter Valley Coal Chain Coordinator (HVCCC) and endorsed by the RCG. Work on the projects was suspended once it became clear that there was no longer a requirement for the resulting capacity within the initial timeframes.117

ARTC further submitted that:

as there is no intention to progress these works in the foreseeable future, it expensed the actual costs associated with the nominated projects, and that the decision to expense these projects in the 2014 accounts was advised to the RCG in April 2015.118

Network control costs

ARTC noted that its network control includes labour and materials associated with the delivery of train control and signalling functions, train planning and programming, operations and customer management and train communication costs.119

ARTC submitted that network control costs for the Constrained Network for the 2014 Compliance Period were $9.4 million, compared to 2013 costs of $9.3 million.120

114 Shared maintenance incorporates the non-segment specific tasks associated with infrastructure maintenance such as

planning, project management, administration and provisioning centre costs. 115 ARTC, Hunter Valley Coal Network Access Undertaking – 2014 Compliance Submission, September 2016, Table 16,

p. 24. 116 Ibid. 117 Ibid. 118 Ibid. 119 Ibid, p. 25. 120 Ibid.

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Corporate overheads

ARTC set out that corporate overheads include labour and materials associated with the following functions:

• human resources;

• information technology, finance and procurement;

• legal risk and safety;

• property; and

• CEO office.121

ARTC submitted that corporate overhead costs for the Constrained Network were $12.2 million, compared to 2013 costs of $10.7 million.

ARTC submitted that:

The increase in this category of costs reflects higher insurance and safety accreditation costs attributable to the Hunter Valley network and increased labour costs.122

Pricing Zone 3

Table 2.7 below shows ARTC’s submitted a breakdown of operating expenditure for Pricing Zone 3 and figures 5 and 6 that follow provide an overview of the percentage contributions of each element to total operating expenditure. It should be noted that operating expenditure for the 2014 Compliance Period takes into account the extension to include additional rail segments from the Gap to Turrawan into Pricing Zone 3. As such, comparisons between 2013 and 2014 should be treated with care.

Table 2.7: Operating expenditure for Pricing Zone 3 for the 2013 and 2014 Compliance Period - millions ($) 123

Operating expenditure 2013 2014

Maintenance (including shared maintenance) 14.3 27.6

Expensed projects* 3.9

Loss On Disposals** 6.5

Network Control 1.7 3.3

Corporate Overheads 1.3 2.7

Total operating expenditure 17.3 44.0

Note: *There were no expensed projects for Pricing Zone 3 in 2013. **Prior to 2014, loss on disposals was not included in Out-turn Opex for the RAB calculation due to oversight by ARTC.

121 ARTC, Hunter Valley Coal Network Access Undertaking – 2014 Compliance Submission, September 2016, pp. 25-26. 122 Ibid, p. 26. 123 Ibid, Table 6, p. 12.

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Figure 5: Operating expenditure in Pricing Zone 3 for the 2013 Compliance Period

Figure 6: Operating expenditure in Pricing Zone 3 for the 2014 Compliance Period

Maintenance (including shared maintenance) costs

ARTC submitted that the total cost of maintenance work for Pricing Zone 3 for the 2014 Compliance Period was $27.6 million, compared to $12.9 million in the previous year.

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Loss on disposals

In relation to the loss on disposals, ARTC submitted that:

This element has been recognised in the Ceiling Test for the RAB Floor Limit since the commencement of the HVAU. However, in previous years, Loss On Disposal has not been included in Out-turn Opex for the RAB calculation due to oversight.124


ARTC submitted that network costs for Pricing Zone 3 were $3.3 million in 2014, compared to $1.7 million in 2013.

Corporate overheads

ARTC submitted that corporate overheads for Pricing Zone 3 were $2.7 million in 2014, compared to $1.3 million in the previous year.


The ACCC received stakeholder comments on the efficiency of ARTC’s operating expenditure from Idemitsu and Whitehaven. Their comments in relation to various components of ARTC’s operating expenditure are summarised below.

Transparency and reporting

Idemitsu submitted that more consistency and timeliness in ARTC’s reporting methodology would enhance transparency to Access Holders and assist them in better understanding costs incurred by ARTC.

In relation to forecast operating expenditure for 2014 contained in the 2014 Annual Pricing correspondence issued to Access Holders by ARTC in October 2013, Idemitsu stated that:

[It] was extremely inadequate and provides limited opportunity for Access Holders to make any meaningful comparisons against the information provided by ARTC in the 2014 Annual Compliance information.125

Idemitsu submitted that ARTC should:

[P]rovide Access Holders with a more detailed budget or forecast (rolling 3yr estimate) of the coming year’s operating expenditures (basis for establishing pricing for the coming year) prior to the commencement of that Contract Year at a moderately detail [sic] level.126

In relation to forecasts, Idemitsu suggests a minimum reporting level similar to that of the Annual Compliance Assessment. Idemitsu considers:

[C]omparative reporting (budget v actual) in addition to comparisons to prior years’ costs will greatly assist in ensuring efficient operating expenditures.127

124 ARTC, Hunter Valley Coal Network Access Undertaking – 2014 Compliance Submission, September 2016, p. 12. 125 Idemitsu, Submission on the ACCC’s consultation paper, 28 October 2016, p. 8. 126 Ibid. 127 Ibid.

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While acknowledging that ARTC provided an additional operating cost memorandum that had not been provided in previous years, Idemitsu commented:

[T]he limited material and commentary provided by ARTC still makes it difficult for Access Holders to conduct any meaningful analysis to properly determine if ARTC has incurred efficient operating costs and will still require more fulsome explanations by ARTC.128

Idemitsu also encouraged ARTC to provide greater transparency and explanation of 2014 Network Control costs for Pricing Zone 3.129

Finally, Idemitsu submitted that it would welcome immediate changes to ARTC’s reporting methodology by establishing standard operating cost definitions, being more consistent with terminology between years and pricing zones (i.e. avoid interchangeable terms), and having capital/operating cost guidelines.130

Increases in operating expenditure

Idemitsu sought further clarification on why operating expenditure for Pricing Zone 3 increased significantly between 2013 and 2014, when the overall network operating expenditure remained relatively stable over the same period.131

Specifically, Idemitsu requested further explanation on what the $11.8 million of the $26.7 million increase in operating expenditure is attributable to, and whether the $14.9 million attributed to the Gap to Turrawan extension is reasonable.132

Maintenance costs

Idemitsu supported ARTC’s disclosure of costs for the top six maintenance activities and encouraged ARTC to provide similar disclosures for other operating cost categories.133 Idemitsu was also supportive of ARTC’s approach to assigning incremental maintenance costs to non-coal traffic despite WIK not explicitly undertaking allocation in the 2013 Annual Compliance process.134

Whitehaven raised concerns about the overall 10 to 20 per cent increase in incremental track maintenance between 2013 and 2014, and sought further investigation by the ACCC into the matter.135 Whitehaven queried how the cost increase could be significantly greater than the tonnage increases by zone over the same period.136

Corporate overheads

Idemitsu stressed the need for better transparency and explanation for Pricing Zone 3 corporate overheads.137

Whitehaven is concerned more broadly with the 14 per cent ($1.5 million) increase in corporate overheads for the Constrained Network compared to 2013 Compliance Period. 128 Idemitsu, Submission on the ACCC’s consultation paper, 28 October 2016, p. 8. 129 Ibid, p. 9. 130 Ibid. 131 Ibid. 132 Ibid. 133 Ibid. 134 Ibid, p. 5. 135 Whitehaven, Submission on the ACCC’s consultation paper, 2 November 2016, p. 5. 136 Ibid. 137 Idemitsu, Submission on the ACCC’s consultation paper, 28 October 2016, p. 9.

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Whitehaven submits that without further information, it is difficult to reconcile the increase in line with tonnage increases.138

Whitehaven queried ARTC’s assertion that the higher corporate overheads related to higher insurance and rail safety accreditation costs, given that they had not seen similar increases in the industry more broadly.139


After a preliminary analysis of ARTC’s 2014 Annual Compliance documentation and stakeholder submissions, on 16 November 2016 the ACCC sought further information and clarification from ARTC on the following aspects:

• For corporate overheads:

o further explanation on the costs attributed to the Gap to Turrawan segments;

o further information on how insurance, safety accreditation, and labour costs have changed between 2013 and 2014, and how these costs are applied to the Hunter Valley and Interstate network; and

o further information on corporate overhead costs across the Hunter Valley and Interstate networks in 2014.

• For network control costs, further explanation on costs attributed to the Gap to Turrawan segments.

• For maintenance costs:

o further information on increases in maintenance activities by zone and activity between 2013 and 2014;

o clarification and context around some maintenance activities and the reasons for those activities in 2014; and

o further information on historical and forecast figures for ARTC’s top six maintenance activities for 2014 including the number of Gross Tonne Kilometres (GTKs) traversing each pricing zone.

ARTC provided a confidential response to this information request on 16 December 2016. The ACCC then sought further clarification from ARTC regarding certain aspects of ARTC’s 16 December 2016 responses on operating costs. ARTC provided a follow up confidential response to the ACCC on 27 February 2017.


The ACCC’s consideration on the efficiency of ARTC’s operating expenditure is set out below under five categories:

• maintenance costs

• expensed projects costs

• network control costs

• corporate overheads

• other matters.

138 Whitehaven, Submission to the ACCC’s consultation paper, 2 November 2016, p. 5. 139 Ibid.

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Maintenance costs

As noted above in Figures 4 and 6, maintenance costs represented about 73 per cent of operating costs for the Constrained Group of Mines, and about 63 per cent of operating costs for Pricing Zone 3 in 2014.

Maintenance costs increased for the Constrained Group of Mines by about 5 per cent to $77.9 million. For Pricing Zone 3 these costs increased by around 93 per cent to $27.6 million. The ACCC notes that a significant proportion of this was due to the inclusion of the Gap to Turrawan Segments in Pricing Zone 3 for the first time. Pricing Zone 3’s proportion of total maintenance costs increased from 16.2 per cent in 2013 to around 28.6 per cent in 2014.

In previous Annual Compliance assessments the ACCC has assessed the efficiency of ARTC’s maintenance costs by conducting a trend analysis to consider expenditure amounts in the context of maintenance cycles and forecasts advised to industry and making comparisons to appropriate benchmarks where possible. The ACCC has also further investigated specific expenditure amounts as raised by stakeholders and where the ACCC’s own analysis has raised cause for further explanation from ARTC. As part of these assessments, the ACCC ordinarily requested from ARTC historical and forecast expenditure amounts for the top six maintenance activities in terms of the amount of expenditure, which typically account for over half of ARTC’s annual maintenance costs..

For the 2014 Annual Compliance assessment the ACCC has undertaken a similar approach to assessing maintenance costs. The ACCC sought detailed contextual information from ARTC to explain changes in expenditure from previous years and reasons for significant variances from forecasts. The ACCC also analysed certain maintenance costs at the segment level and sought additional justification from ARTC regarding maintenance expenditure in particular segments of the network.

The ACCC is of the view that the combination of this information has enabled a robust consideration of ARTC’s maintenance costs and provides context around how expenditure relates to forward looking and reactive maintenance works.

In 2014 the top six activities accounted for over half of ARTC’s total maintenance costs, with each of the remaining maintenance activities, of which there were over 100, contributing only a relatively small proportion to total maintenance costs. ARTC’s top six maintenance activities in 2014 were:

• ballast cleaning

• rail grinding

• maintenance resurfacing (tamping)

• mud hole full track reconditioning

• turnout steel component replacement

• rail defect removal.

The costs associated with the top six maintenance activities increased by $11.5 million or 32 per cent from $35.9 million to $47.4 million between 2013 and 2014. According to ARTC, a sizeable portion of this increase was due to the inclusion of the Gap to Turrawan Segments into Pricing Zone 3 for the first time in 2014. ARTC also noted that a predominant driver of the increase in many of its maintenance activities is the volume or tonnage being hauled across the network.

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The ACCC identified that after excluding the effect of the additional Gap to Turrawan Segments, there were significant increases in expenditure on the following activities in 2014:

• maintenance resurfacing (tamping), increasing by around 65 per cent; and

• turnout steel component replacements, increasing by around 67 per cent.

Maintenance resurfacing

The increase regarding maintenance resurfacing relates mainly to activities in Pricing Zone 3. The ACCC sought additional information from ARTC on this increase. ARTC noted that Pricing Zone 3 required higher levels of maintenance resurfacing in 2014 because of increased coal volumes traversing the zone, and poor track formation issues that necessitated work to be undertaken for better track stability.

ARTC provided evidence showing that the frequency and severity of temporary speed restrictions tonnages increased significantly in Pricing Zone 3 from 2012/13 to 2014/15, which ARTC states is a result from poor formations unable to perform under increased coal tonnages.140

The ACCC also notes in relation to maintenance resurfacing costs that in its Revised 2014 Compliance documentation submitted on 27 February 2017, ARTC adjusted the allocation of resurfacing maintenance costs across Segments within Pricing Zone 3. The impact of this adjustment is a reduction in costs to be recovered from Pricing Zone 3 Access Holders as some of the costs were allocated to non-coal traffic also traversing those Segments within Pricing Zone 3.

After considering the additional information provided by ARTC setting out the specific increases in volumes and track condition of Pricing Zone 3, as well as noting the error ARTC had corrected, the ACCC is satisfied that maintenance resurfacing expenditure has been incurred on an efficient basis in 2014.

Turnout steel component replacement

Most of the turnout steel component replacement activity took place within Pricing Zone 1. The ACCC sought addition clarification from ARTC on the increase, noting that in previous years this activity was not part of the top six activities in terms of expenditure. ARTC submitted that the costs for this activity increased due to increases in tonnes, as well as the steel components themselves being more expensive than previous years.141

ARTC noted that it had previously forecast a 3 to 4 year life for a new turnout, but because of higher tonnages, it instead experienced a shorter turnout life of 1 to 2 years. ARTC provided the ACCC with further contextual information outlining the typical component replacement costs for different types and sizes of turnouts as well as setting out the number of turnout replacements that occurred in 2014.142

Regarding the prices of steel components, ARTC noted that this is dependent upon the prevailing market conditions at the time of procurement.

Based on the additional supporting information provided by ARTC, the ACCC accepts that increased tonnages have affected the expected lifespan of turnouts in Pricing Zone 1. Most of the replacement activity has taken place in that zone, which experiences the greatest volumes and subsequently the highest wear rates.

140 ARTC, Confidential response to ACCC second request for additional information and clarification, 27 February 2017 141 ARTC, Confidential response to ACCC request for additional information and clarification, 16 December 2016 142 ARTC, Confidential response to ACCC second request for additional information and clarification, 27 February 2017

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Other maintenance activities

The ACCC’s observations from analysis of ARTC’s expenditure on the remaining top six maintenance activities in 2014 are as follows.

• Level of expenditure on ballast cleaning is linked to the size of the segment being cleaned, and coal volumes. Ballast cleaning expenditure increased in 2014 and was more concentrated in Pricing Zone 2 (which is part of the Constrained Network). Both actual GTKs and coal volumes increased between 2013 and 2014 both across the network and specifically in Pricing Zone 2.

• Rail grinding costs were similar to the previous year, with the small year on year increase in these costs being due to maintenance activities on the Gap to Turrawan segments being included under the HVAU in 2014.

• Higher than expected mud hole full track reconditioning works were carried out in the Constrained Network in 2014. The ACCC understands that these works can at times be carried out instead of ballast cleaning, and so the ACCC considered the correlation of these activities in various rail segments. Generally speaking, the ACCC observed that segments did not undergo high levels of both ballast cleaning and full track reconditioning works. Further, the ACCC notes that while Pricing Zone 3 experienced a significant level of full track reconditioning maintenance in 2014, it did not receive any ballast cleaning over the same period.

• Rail defect removal activity increased from the previous year in Pricing Zone 3. ARTC notes that this was largely to repair defects caused by the significant increase in volumes traversing this zone throughout 2012 and 2013 and causing wear on the track.

The ACCC also notes that after accounting for the addition of the Gap to Turrawan Segments, the level of expenditure on all other maintenance activities was broadly comparable to the previous year.

Overall, the ACCC considers that the information provided by ARTC, including the additional confidential material provided to the ACCC, has allowed for a robust consideration of its maintenance costs for the 2014 year. Where the ACCC raised queries and requested further information in relation to its maintenance expenditures, ARTC either provided sufficient justification or corrected the allocation error (which resulted in less maintenance costs being attributed to the Hunter Valley Network).

On this basis, the ACCC is satisfied that maintenance costs incurred by ARTC in the 2014 year are appropriate.

Expensed project costs

ARTC submitted that for the 2014 year it expensed costs totalling around $6.5 million, including $2.6 million for the Constrained Network and $3.9 million relating to Pricing Zone 3. ARTC sought to include these expenses as part of its operating expenditure.

ARTC noted that it expensed actual costs associated with the Constrained network projects and that the decision to expense these projects in the 2014 accounts was advised to the RCG in April 2015.143

143 ARTC, Hunter Valley Coal Network Access Undertaking – 2014 Compliance Submission, September 2016, p. 24.

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Idemitsu submitted that it acknowledges the projects were presented to the RCG for review.144 No other stakeholders commented on ARTC’s expensing of project costs for 2014.

The ACCC notes that ARTC advised the RCG about expensed project costs and that stakeholders have not raised any concerns with ARTC’s approach.

The ACCC also notes that the HVAU allows ARTC the discretion to expense costs associated with a project on a one off basis in the year the cost is incurred. This allows ARTC to recover the associated costs in the current period, but not receive an ongoing return on capital.

Accordingly, the ACCC considers that ARTC’s expensed project costs for the 2014 year are appropriate.


ARTC submitted that network control costs for the Constrained Network increased by 1 per cent to $9.4 million. For Pricing Zone 3 network control costs increased by 94 per cent to $3.4 million in 2014. The ACCC notes that a large portion of the network control cost increases results from the inclusion of the Gap to Turrawan Segments, and sought further explanation from ARTC on costs attributed to these segments.

In response to requests for further information from the ACCC, ARTC provided more detailed data in relation to network control costs for the Gap to Turrawan Segments in 2013 and 2014. According to ARTC, its Network Control Centre North located in Broadmeadow controls the train movements for the entire Hunter Valley. This network is controlled by a series of Network Control Boards which manage defined areas and are required to be staffed 365 days, 24 hours a day.

ARTC noted that the number of Network Control Boards needed to operate Pricing Zone 3, including the Gap to Turrawan Segments, had remained steady. However, ARTC explained that the costs of operating them increased somewhat between 2013 and 2014 due to increased wages in line with workplace agreements.145

Based on the additional information supplied by ARTC, the ACCC is satisfied that the level of network control costs in 2014 are appropriate.

Corporate overhead costs

Total corporate overheads for the Hunter Valley Coal Network (Pricing Zones 1, 2 and 3) increased overall by about $2.9 million to $14.9 million.

For the Constrained Network, corporate overheads increased by 14 per cent, from $10.7 million in 2013 to $12.2 million in 2014. For Pricing Zone 3, incorporating the Gap to Turrawan Segments, these costs increased by 108 per cent, from $1.3 million to $2.7 million.

According to ARTC the total increase of $2.9 million is a combination of:

• an approximate $1.1 million increase attributable to the inclusion of the Gap to Turrawan Segments into Pricing Zone 3;

• $0.7 million attributable to a change in the allocation of insurance and safety accreditation costs; and

144 Idemitsu, Submission on the ACCC’s consultation paper, 28 October 2016, p. 9. 145 ARTC, Confidential response to ACCC second request for additional information and clarification, 27 February 2017.

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• higher labour costs arising from pay increases in line with workplace agreements and a net increase in employee numbers largely due to the insourcing of IT and technical support functions.

As noted above, the ACCC sought additional material from the ARTC on the allocation of these costs within the Hunter Valley Coal Network and across ARTC’s business (i.e. apportionment to Hunter Valley versus Interstate rail networks). The ACCC also sought more detailed information regarding specific year on year increases in corporate overheads.

Allocation of corporate overheads including to the Gap to Turrawan Segments

The ACCC notes that Pricing Zone 3 corporate overheads increased by $1.4 million from 2013 to 2014, with the Gap to Turrawan Segments accounting for $1.1 million (or 79 per cent) of this increase.

The ACCC reviewed ARTC’s allocation of the costs attributed to the Gap to Turrawan Segments to ensure that they were appropriately applied in accordance with the rules set out in the HVAU.

ARTC submitted that corporate overhead costs of the Hunter Valley Business Unit are generally allocated based on the proportion of total Train Kms attributable to each Pricing Zone, and that costs are allocated to the Gap to Turrawan Segments on the same basis.

The ACCC’s review of ARTC’s financial model has found that corporate overheads assigned to the Hunter Valley network have been allocated to various pricing zones (including the Gap to Turrawan Segments) in line with the proportion of Train Km. The ACCC also notes that as a proportion of total Train Kms in the Hunter Valley, Train Kms for Pricing Zone 3 (when accounting for the Gap to Turrawan Segments) increased between 2013 and 2014. With this the ACCC notes that the inclusion of the Gap to Turrawan Segments into Pricing Zone 3 has resulted in some reductions in costs on a unit basis (i.e. per Train Km).

The ACCC also considered the broader allocation of corporate overhead costs across ARTC’s Hunter Valley and Interstate networks. ARTC submitted that Train Kms are used as the primary allocator and GTK for a select range of costs such as Communications, Engineering Services, Property costs, Rail Grinding Contract Management, Wayside Systems and Track Monitoring Services.146

Based on the Train Km and GTK figures provided by ARTC across its Hunter Valley and Interstate Networks, the ACCC has been able to confirm that the total corporate overhead costs allocated to the Hunter Valley Network largely reflects the relevant proportions of Train Km and GTKs.

Increases in corporate overhead costs

ARTC noted that increases in corporate overheads for the Hunter Valley were affected by:

• changes ARTC made to the way it allocated insurance and safety accreditation costs; and

• increased labour costs.

Regarding insurance and safety accreditation costs, ARTC explained that until 2013, these costs were allocated across ARTC business units based on Train Kms. ARTC noted, however, that an internal review in 2014 found that it was more appropriate to directly cost insurance premiums and safety accreditation costs to the Hunter Valley and Interstate

146 ARTC, Confidential response to ACCC request for additional information and clarification, 16 December 2016.

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business units rather than across both units and then apportioning it using the Train Km allocator.147

The ACCC sought additional justification from ARTC regarding the change in the basis of how insurance costs were allocated in the 2014 year. ARTC subsequently provided information setting out its various classes of insurance, the cost allocators used for the particular insurance policy, and the proportions of the relevant insurance costs allocated to the Hunter Valley and Interstate Networks. Across most insurance categories, the Hunter Valley Network was allocated approximately a third of the relevant costs. ARTC noted that it directly costed NSW safety accreditation costs using Train Kms.148

Regarding the increased labour costs, ARTC’s responses to the ACCC’s information request also set out specific details around wage and superannuation increases as well as the net increase in employees for the 2014 Compliance Period. The ACCC considers that increasing wages and superannuation to be in line with workplace agreements is appropriate.

Overall, based on the additional information provided by ARTC, the ACCC is satisfied that ARTC’s corporate overhead costs for the 2014 Compliance Period have been efficient. In particular, the ACCC considers:

• ARTC has allocated corporate overheads within the Hunter Valley (i.e. to various Pricing Zones) appropriately, in accordance with Train Kms.

• ARTC’s allocation of overall corporate overhead costs to the Hunter Valley Network and the Interstate Network does not appear unreasonable. The ACCC will continue to seek similar information from ARTC in future annual compliance assessments as a means of assessing operating expenditure.

• the year on year increases in Hunter Valley corporate overhead costs for 2014 appear reasonable. The ACCC assessed these three drivers and the supporting evidence provided by ARTC and is satisfied that ARTC has substantiated the increases in corporate overhead costs for 2014.

Other matters

Idemitsu's submission notes that more transparency and improvements to the clarity and timeliness of information on ARTC's costs would assist Access Holders’ understanding.

The ACCC notes Idemitsu’s submission, as well as similar points raised in submissions relating to previous annual compliance assessments.

Overall, from the ACCC’s perspective, the level of transparency ARTC has provided around its costs has improved over time.149 A positive step regarding the 2014 Annual Compliance assessment was an additional brief on operating costs that ARTC provided to Access Holders prior to the public consultation process of this assessment. The ACCC however, notes that some Access Holders considered the information was limited and sought for further detail to be provided to facilitate greater understanding. The ACCC notes that further information regarding cost drivers and allocation methods would be of assistance.

The ACCC is in the process of assessing ARTC’s proposed 2017 HVAU, which is intended to include an incentive mechanism for operating expenditure. As part of the development of this part of the proposed 2017 HVAU, the ACCC understands that a relatively high level of

147 Ibid. 148 ARTC, Confidential response to ACCC second request for additional information and clarification, 27 February 2017 149 Idemitsu, Submission on the ACCC’s position paper in relation to ARTC’s compliance with the financial model in the HVAU

– 2013 calendar year, 30 January 2015, pp. 4-5.

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detail around ARTC’s operating expenditure will be made available to Access Holders to inform both the initial and future level of costs.

While the proposed incentive mechanism is being developed, the ACCC continues to encourage ARTC to make as much information as possible available to allow Access Holders to provide them with sufficient understanding of the costs incurred. This includes throughout assessment processes regarding annual compliance with the HVAU, as well as other occasions where appropriate.

ACCC’s overall view on ARTC’s efficiency of operati ng expenditure

The ACCC’s assessment of ARTC’s efficiency of operating expenditure has had regard to the relevant factors in the definition of “Efficient” in the HVAU.

Given the ACCC’s views on the above matters, overall, the ACCC considers that ARTC’s operating expenditure has been incurred on an efficient basis and it is appropriate for ARTC to include the full amount (as advised to the ACCC in its Revised 2014 Compliance documentation) for recovery for the 2014 calendar year. This includes:

• $106.5 million for the Constrained Group of Mines (consisting of $77.9 million in maintenance expenses, $2.6 million in expensed project costs, $4.4 million net loss on disposals and $21.6 million in network control costs and corporate overheads);

• $44.0 million for Pricing Zone 3 (consisting of $27.6 million in maintenance expenses, $3.9 million in expensed project costs, $6.5 million net loss on disposals and $6.0 million in network control costs and corporate overheads).

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2.4. True-Up Test audit

The HVAU incorporates liability arrangements in the Indicative Access Holder Agreement that provides for the payment of rebates to users for ARTC’s failure to deliver contracted path usages. The payment of these rebates occurs following the completion of an annual reconciliation process, which is informed by the True-Up Test.

The True-Up Test determines whether there was sufficient capacity available on ARTC’s rail network in a given period to meet all contracted entitlements, taking into account reductions in capacity caused by maintenance, usage by non-coal trains and other factors.

Subsection 4.10(f) of the HVAU requires an independent audit of ARTC’s compliance with the True-Up Test, to ensure the integrity of the test and avoid perceptions of conflicts of interest on the part of ARTC.

ARTC engaged BDO (SA) Pty Ltd (BDO) as auditor for the True-Up Test, which the ACCC approved in accordance with subsection 4.10(f)(ii) of the HVAU.


ARTC submitted that a ‘True-Up Test was conducted for each month and quarter (as applicable) during the [2014] Compliance Period’.150

BDO prepared a final audit report regarding ARTC’s True-Up Test for 2014, which was provided to the ACCC in September 2016 as part of ARTC’s revised compliance submission. ARTC submitted that BDO’s final audit report concluded that ARTC was not liable for any rebates for the 2014 calendar year. BDO’s report is available on the ACCC website.

Additionally, ARTC submitted that:

a number of the issues identified in the 2014 report are the same as for the 2013 Final Audit Report. This arose due to the timing of the relevant activities. The 2013 report was received in April 2014 and the issues identified were resolved. However, many aspects of the 2014 True Up Test are finalised as part of the preparation for the commencement of the calendar year in order for ARTC to meet its obligations under the Access Holder Agreements.

Therefore, elements such as the “sculpting” of train path usages, Network Path Capability and Monthly Tolerance Cap were advised to Access Holders in late 2013, i.e. prior to the receipt of the BDO Final Audit Report for calendar 2013 and therefore the errors identified could not be addressed without interfering with contract entitlements already published. As the identified errors were not material to the operation of the True Up Test, it was felt more appropriate to leave matters as they stood for 2014 and address the issues in the 2015 process.151


No stakeholders made specific comments on the True-Up Test conducted in relation to the 2014 Compliance Period.

150 ARTC, Hunter Valley Coal Network Access Undertaking – 2014 Compliance Submission, September 2016, pp. 28-29. 151 Ibid. p. 29.

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The True-Up Test is subject to audit by an independent party with the appropriate qualifications in order to ensure the integrity of the test. The ACCC notes that BDO’s final audit report concludes that:

In our opinion, ARTC has complied, in all material respects, with Schedule 2 of the Access Holder Agreements under the HVAU for the year ended 31 December 2014.152

The ACCC specifically notes BDO’s comments that:

No system availability shortfall was recorded for any period during the year meaning no accruals were required to be paid.153

The ACCC notes that there were no stakeholder comments on the outcome of the True-Up Test. Accordingly, on the basis of BDO’s report, the ACCC considers that it is appropriate to accept the outcome of the True-Up Test, being that ARTC is not liable for any rebates for the 2014 calendar year.

152 ARTC, Hunter Valley Coal Network Access Undertaking – 2014 Compliance Submission; Attachment 3; 2014 True-Up

Test Audit Report, September 2016, p. 1. 153 Ibid, p. 2.

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3. ACCC’s Determination

This section sets out the ACCC’s Final Determination regarding the annual compliance assessment under ARTC’s HVAU for the 2014 calendar year for each of the following components:

• RAB roll forward for Pricing Zone 3 (section 3.1)

• RAB Floor Limit roll forward for the entire network and for Pricing Zone 3 (section 3.2)

• Comparison of the RAB and RAB Floor Limit for Pricing Zone 3 (section 3.3)

• Reconciliation of revenue with the applicable Ceiling Limit (section 3.4)

• Allocation of ‘unders and overs’ amount to access holders (section 3.5).

In each of the sections below, values are set out relating to:

• ARTC’s 2014 Annual Compliance documentation, submitted to the ACCC in September 2016

• ARTC’s Revised 2014 Compliance documentation, submitted to the ACCC on 27 February 2017

• the ACCC’s Final Determination, taking into account ARTC’s Revised 2014 Compliance documentation as well as two further amendments regarding the incremental cost calculation, as set out in section 2.2.5 (see pages 38 and 39).

3.1. RAB roll forward for Pricing Zone 3

Section 4.10(d)(i) of the HVAU requires the ACCC to determine whether ARTC has undertaken the roll forward of the RAB in accordance with the HVAU. The RAB is rolled forward in Pricing Zone 3 for comparison with the RAB Floor Limit to determine if ‘loss capitalisation’ applies.

Section 4.4(a) of the HVAU outlines how the RAB is to be rolled forward annually.

3.1.1. ARTC’s Compliance Submission

For this period, ARTC has also included in the RAB value for Pricing Zone 3 the assets related to the portion of the rail network between Gap and Turrawan. This follows on from the ACCC consenting to an application by ARTC to vary the HVAU to extend the coverage of the HVAU from 1 January 2014 to include the Segments from Gap to Turrawan in the Gunnedah Basin.154

Applying the RAB roll forward formula, table 3.1 shows the closing value of the RAB in Pricing Zone 3 for the 2014 Compliance Period as submitted by ARTC. The table also sets out the ACCC’s determined values.

154 ACCC, Decision - Australian Rail Track Corporation’s variation of the Hunter Valley Access Undertaking to include the Gap


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Table 3.1 Pricing Zone 3 RAB roll forward - Dollar s ($)

ARTC’s Sept 2016 Submission 155

ARTC’s Revised Submission 156

ACCC Determination

Opening RAB for Pricing Zone 3 303 471 936 303 471 936 303 471 936

Additional rail segments (Gap to Turrawan) 364 609 197 364 609 197 364 609 197

add Return on Opening RAB 79 033 998 79 033 998 79 033 998

less net Revenue allocated to Pricing Zone 3* - 96 243 528 - 96 243 083 - 95 797 727

add Operating Expenditure 43 954 433 43 936 370 43 936 370

add Net Capital Expenditure 157 50 147 018 50 102 773 50 102 773

add Return on Net Capital Expenditure 2 966 196 2 963 579 2 963 579

Closing RAB for Pricing Zone 3 747 939 250 747 874 771 748 320 126

* This amount represents the Access Revenue from Pricing Zone 3 Access Holders that is net of incremental costs in Pricing Zone 1.

The differences between ARTC’s 2014 Annual Compliance documentation submitted in September 2016 and ARTC’s revised financial model submitted to the ACCC on 27 February 2017 are discussed throughout chapter 2 and are listed below:

• The reduction in Revenue from $96 243 528 to $96 243 083 (a decrease of $445) is due to ARTC making a correction which slightly increased in the incremental cost of Pricing Zone 3 producers’ use of Pricing Zone 1 for 2014. The increase in the incremental cost resulted from correcting the split of the 2014 cost for one project to allocate the cost back to a single Segment as per previous annual compliance processes (rather than across two Segments). The 2014 cost for this project was a negative amount and the removal of that negative cost from one Segment led to a net increase in the incremental cost.

• The reduction in Operating Expenditure from $43 954 433 to $43 936 370 (a decrease of $18 063) is due to is the amendment ARTC made to maintenance resurfacing costs for Segment 965, to reallocate these costs across all Segments in Pricing Zone 3. This resulted in more incremental maintenance costs being allocated to non-coal traffic traversing the Pricing Zone 3 Segments.

• The reduction in Net Capital Expenditure from $50 147 018 to $50 102 773 (a decrease of $44 245) is due to the amendment ARTC made to the calculation of Interest During Construction for the Scone Reconfiguration project in Pricing Zone 3.

• The reduction in Return on Net Capital Expenditure from $2 966 196 to $2 963 579 (a decrease of $ 2 617) reflects the reduced value of Net Capital Expenditure from the amendment to Interest During Construction.

155 ARTC, Hunter Valley Coal Network Access Undertaking – 2014 Compliance Submission, September 2016, p. 13. 156 Based on ARTC’s revised spreadsheets detailing its financial model, submitted to the ACCC on 27 February 2017. 157 Net Capital Expenditure = Capital Expenditure + Interest During Construction – Disposals

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3.1.2. ACCC determination

In making this determination the ACCC has had regard to the formula in section 4.4(a) of the HVAU and the inclusion of efficient costs and prudent capital expenditure, as discussed in section 2 of this document.

The ACCC’s determined values set out above in table 3.1 take account of ARTC’s Revised 2014 Compliance documentation submitted on 27 February 2017 as well as two further amendments the ACCC has determined to the calculation of incremental cost, as noted in section 2.2.5.

Specifically, the two amendments result in an increase the calculation of the incremental cost of Pricing Zone 3 Access Holders’ use of Pricing Zone 1 by $445 356 to $19 740 558. This has the effect of reducing net Revenue allocated to Pricing Zone 3 by the same amount, to $95 797 727.

Incorporating these two amendments into the roll forward of the RAB for Pricing Zone 3, the ACCC has determined that the closing RAB for those segments in Pricing Zone 3 as at 31 December 2014 is $748 320 126.

3.2. RAB Floor Limit roll forward

Section 4.10(d)(i) of the HVAU requires the ACCC to determine whether ARTC has undertaken the roll forward of the RAB Floor Limit in accordance with the HVAU. The RAB Floor Limit is rolled forward for the following purposes:

• in Pricing Zones 1 and 2, for calculating components of full economic cost; and

• in Pricing Zone 3, for comparison with the RAB to determine if ‘loss capitalisation’ applies.

Section 4.4(b) of the HVAU specifies how the RAB Floor Limit is to be rolled forward annually.

3.2.1. ARTC’s Compliance Submission

Applying the RAB Floor Limit roll forward formula, table 3.2 shows ARTC’s calculations of the RAB Floor Limit closing value for the total Hunter Valley network, as well as the ACCC’s determined value.

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Table 3.2 Network RAB Floor Limit roll forward - D ollars ($)



ACCC Determination

Opening RAB Floor Limit for network 1 652 480 865 1 652 480 865 1 652 480 865


add CPI 44 480 414 44 480 414 44 480 414

add Net Capital Expenditure 160 210 805 160 210 760 915 210 760 915

less Depreciation - 117 020 286 - 117 019 057 - 117 019 057

Closing RAB Floor Limit for entire network 2 155 355 349 2 155 312 334 2 155 312 334

Table 3.3 shows ARTC calculation of the RAB Floor Limit closing value for those segments in Pricing Zone 3 for the 2014 Compliance Period for the purpose of comparing it to the RAB.

Table 3.3 Pricing Zone 3 RAB Floor Limit roll forw ard - Dollars ($)



ACCC Determination

Opening RAB Floor Limit for Pricing Zone 3 279 369 320 279 369 320 279 369 320


add CPI 14 200 869 14 200 869 14 200 869

add Net Capital Expenditure 50 147 018 50 102 773 50 102 773

less Depreciation - 36 824 320 - 36 823 091 - 36 823 091

Closing RAB Floor Limit for Pricing Zone 3 671 502 083 671 459 067 671 459 067

Regarding both Tables 3.2 and 3.3, the differences between ARTC’s 2014 Annual Compliance documentation submitted in September 2016 and ARTC’s revised financial model submitted to the ACCC on 27 February 2017 are:

• a reduction in Net Capital Expenditure of $44 245, resulting from the amendment ARTC made to the calculation of Interest During Construction for the Scone Reconfiguration project (as noted above).

• a subsequent reduction in Depreciation (of $1 229) resulting from a reduced capital expenditure amount.

158 ARTC, Hunter Valley Coal Network Access Undertaking – 2014 Compliance Submission, September 2016, p. 17. 159 Based on ARTC’s revised spreadsheets detailing its financial model, submitted to the ACCC on 27 February 2017. 160 Net Capital Expenditure = Capital Expenditure + Interest During Construction – Disposals 161 ARTC, Hunter Valley Coal Network Access Undertaking – 2014 Compliance Submission, September 2016, p. 18. 162 Based on ARTC’s revised spreadsheets detailing its financial model, submitted to the ACCC on 27 February 2017.

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Based on ARTC’s Revised 2014 Compliance documentation which includes adjustments to Net Capital Expenditure and Depreciation as explained above, the ACCC has determined that ARTC has undertaken the roll forward of the RAB Floor Limit in accordance with the HVAU for the 2014 Compliance Period.

Accordingly, the closing RAB Floor Limit for the total network at 31 December 2014 is $2 155 312 334 and the closing RAB Floor Limit for Pricing Zone 3 is $671 459 067.

3.3. Comparison of the RAB and RAB Floor Limit for Pricing Zone 3

As outlined in sections 3.1 and 3.2 above, the ACCC has determined that the closing RAB value for Pricing Zone 3 for the 2014 Compliance Period is $748 320 126 and the closing RAB Floor Limit for Pricing Zone 3 is $671 459 067.

Given that the RAB is greater than the RAB Floor Limit in Pricing Zone 3, ‘loss capitalisation’ applies and ARTC is not required reconcile access revenue with the applicable Ceiling Limit for Pricing Zone 3 (see section 4.3(b) of the HVAU).

The ACCC notes that given the difference between the ACCC determined RAB and RAB Floor Limit, the value of cumulative losses to be capitalised into the Pricing Zone 3 asset base as at the end of the 2014 Compliance Period is $76 861 059.163

The change in the loss capitalisation balance is illustrated below in Figure 7. It should be noted that the loss capitalisation balance at the end of the 2014 Compliance Period also accounts for the inclusion of the Gap to Turrawan Segments under the HVAU from 1 January 2014.

Figure 7: Change in the loss capitalisation balance from 2013 to 2014

163 Cumulative losses capitalised = Closing RAB – Closing RAB Floor Limit for Pricing Zone 3, which at the end of the 2014

Compliance Period includes capitalised losses from 2011, 2012, 2013 and 2014.

76.9

-14.2

-95.8

24.1

79.0

43.9

36.8

3.0

$ million

50

100

150

200

Loss

capitalisation

balance, end

2013 / start

2014

Return on

opening RAB

2014 operating

expenditure

2014

depreciation

costs

Return on net

2014 capital

expenditure

CPI on opening

RAB Floor Limit

Revenue

attributed to

Pricing Zone 3

Loss

capitalisation

balance, end

2014

Including the Gap to Turrawan rail segments

Not including

the Gap to

Turrawan rail

segments

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3.4. Reconciliation of revenues with the applicable Ceiling Limit

Section 4.10(d)(ii) of the HVAU requires the ACCC to determine whether ARTC has reconciled access revenue with the applicable Ceiling Limit in accordance with the HVAU.

The Ceiling Limit for Pricing Zones 1 and 2 requires that access revenue from any Access Holder or group of Access Holders must not exceed the Economic Cost of those segments which are required on a stand-alone basis for the Access Holder or group of Access Holders (see section 4.3(a) of the HVAU).

As per section 3.3 above, ARTC is not required to reconcile access revenue with the Ceiling Limit for Pricing Zone 3.

ARTC’s ceiling test model calculates the amount of access revenue and the Economic Cost across the segments utilised by a mine or combination of mines. The combination of mines that is closest to, or exceeds, the economic cost for the relevant segments is called the ‘Constrained Group of Mines’ and the segments comprise the ‘constrained’ part of the Hunter Valley Coal Network.

3.4.1. ARTC Compliance Submission

Table 3.4 sets out ARTC’s reconciliation of access revenue received with costs for the Constrained Group of Mines for the 2014 Compliance Period, as well as the ACCC’s determined values.

Table 3.4 Ceiling Limit test - Dollars ($)



ACCC Determination

Operating Expenditure 166 106 565 523 106 565 523 106 565 523

add Depreciation 73 702 143 73 701 971 73 531 978

add Return on assets 119 485 676 119 485 402 119 210 040

Economic cost Ceiling Limit for Constrained Group of Mines

299 753 342 299 752 897 299 307 541*

Revenue received for Constrained Group of Mines 322 751 278 322 751 278 322 751 278

Difference (over amount) 22 997 936 22 998 381 23 443 737

* This amount accounts for the two further amendments to the calculation of the incremental cost of Pricing Zone 3 Access Holders’ use of Pricing Zone 1, detailed in section 2.2.5.


In making this determination the ACCC has had regard to the components of economic cost in section 4.5(a) of the HVAU, the inclusion of efficient operating expenditure (as discussed in section 2.3 of this document) and the allocation of revenue. 164 ARTC, Hunter Valley Coal Network Access Undertaking – 2014 Compliance Submission, September 2016, p. 23. 165 Based on ARTC’s revised spreadsheets detailing its financial model, submitted to the ACCC on 27 February 2017. 166 This figure includes a net loss on disposal of $4 420 358.

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As noted in section 3.1, following ARTC’s Revised 2014 Compliance documentation the ACCC has determined that ARTC should make two further amendments to the calculation of the incremental cost of Pricing Zone 3 Access Holders’ use of Pricing Zone 1. In particular, the two amendments result in an increase the calculation of the incremental cost of Pricing Zone 3 Access Holders’ use of Pricing Zone 1 by $445 356 to $19 740 558.

With the exception of ARTC’s treatment of one capital project, and an adjustment to the treatment of a further minor project for consistency, the ACCC considers that ARTC has undertaken the reconciliation of access revenue with the applicable Ceiling Limit in accordance with the HVAU.

As a result of implementing the two amendments noted above, the ACCC has determined an over-recovery amount of $23 443 737 for the 2014 Compliance Period.

3.5. Allocation of unders and overs amount to acces s holders

As required by section 4.9(b)(ii), ARTC is required to provide a spreadsheet to the ACCC (on a confidential basis) that sets out the allocation of the total ‘unders and overs’ amount for the 2014 Compliance Period.

Under section 4.10(d)(ii) of the HVAU the ACCC is to determine whether ARTC has allocated the total ‘unders and overs’ amount to access holders in accordance with the HVAU. The ‘unders and overs’ amount is determined through the reconciliation of access revenue received with the applicable Ceiling Limit for the ‘constrained’ network as set out in section 3.4 above.

Based on the ARTC’s Revised 2014 Compliance documentation, and taking account two further adjustments noted above regarding the calculation of incremental cost, ARTC’s total over-recovery for the ‘constrained’ network for the 2014 Compliance Period is $23 443 737.

The ACCC notes that the proportion of this amount that is allocated to each Constrained Coal Customer in accordance with section 4.9 of the HVAU is based on:

the proportion of revenue paid for access rights over the Constrained Network by each Constrained Coal Customer, net of any rebate of the take or pay component of the Charges paid to that Constrained Coal Customer.

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Appendix A: Annual compliance assessment provisions in the HVAU

Subsection 4.10 of the HVAU provides for the ACCC to conduct an annual compliance assessment to determine whether ARTC has complied with access pricing principles under the HVAU. These provisions are set out below (capitalised terms are defined under section 14 of the HVAU).

a) ARTC will submit to the ACCC by 30 April each year in respect of the previous calendar year:

i) documentation detailing roll-forward of the RAB and the RAB Floor Limit, and comparisons between RAB and RAB Floor Limit;

ii) where documentation in (i) above demonstrates that RAB is at or below RAB Floor Limit, documentation detailing calculations relevant to reconciliation of Access revenue with the applicable Ceiling Limit and calculation of any allocation of the total unders and overs amount; and

iii) where documentation in (i) above demonstrates that RAB is above RAB Floor Limit in Pricing Zone 3, documentation demonstrating that Indicative Access Charges, or Interim Indicative Access Charges, as applicable, satisfies the requirements in section 4.3(b).

b) The documentation submitted by ARTC to the ACCC will, unless otherwise agreed with the ACCC and having regard to the relevant circumstances applicable at the time, meet the information provision guidelines and the timeframes set out in Schedule G.

c) If the ACCC reasonably considers that it requires additional information, other than that provided by ARTC in accordance with Schedule G, in order to carry out its assessment under section 4.10(d), it may request this information from ARTC in accordance with section 3 of Schedule G and upon receipt of such a request ARTC will use reasonable endeavours to provide the information to the ACCC as soon as reasonably practicable.

d) The ACCC will determine whether ARTC has undertaken:

i) roll-forward of the RAB and RAB Floor Limit in accordance with the Undertaking and, where the roll forward is not in accordance with the Undertaking, determine what closing RAB or RAB Floor Limit would be in accordance with the Undertaking;

ii) when required, the calculations relevant to reconciliation of Access revenue with the applicable Ceiling Limit and calculation of any allocation of the total unders and overs amount in accordance with the Undertaking, and where the calculations are not in accordance with the Undertaking, determine what total unders and overs amount or allocation would be in accordance with the Undertaking having regard to the operation of its unders and overs account;

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iii) in determining whether ARTC has complied with the provisions of section 4.4 in rolling forward the RAB or the RAB Floor Limit, the ACCC may have regard to the submissions of relevant industry participants but if Capital Expenditure has been endorsed by the RCG in accordance with section 9, the ACCC will not consider whether that Capital Expenditure is Prudent;

iv) the ACCC will publish its findings on its website and/or circulate to Access Holders in relation to the matters for its determination; and

v) ARTC will revise the closing RAB and manage Constrained Coal Customer Accounts in accordance with any determination by the ACCC.

e) The ACCC will determine whether ARTC has incurred Efficient costs and Efficient operating expenditure in accordance with section 4.5(b), and determine the change (if any) to:

i) the total ‘unders and overs’ amount or allocation; and

ii) closing RAB in section 4.4(a),

that results from Economic Cost under subsection 4.5(b) only including Efficient costs and Efficient operating expenditure determined in accordance with section 4.5(b).

Subsection 4.10(f)(x) of the HVAU also provides that ARTC will provide the final written report of the True-Up Test, as prepared by the independent auditor, to the ACCC to review as part of the annual compliance assessment process under the HVAU.

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