deutsche gesellschaft für internationale zusammenarbeit ... 4 kb tarrifs... · operational costs...

19/04/2016 Reform of Municipal Services in Eastern Ukraine

Deutsche Gesellschaft für Internationale

Zusammenarbeit (GIZ) GmbH

Reform of Municipal Services in Eastern Ukraine

Regulatory Policies and Tariff Determination in the Water supply and

Sewage Sector

Kiev, 20.04.2016

Sector development - Policy objectives driven


19/04/2016

Government sets

policy objectives

and strategy

Business plan

designed to meet

objectives

Tariffs set to

finance business

plan activities

Government policies – what are they?

19/04/2016

• Sector Economic policies, e.g.

• Economic development (priorities)

• Government deficit and debt reduction

• Social policies, e.g.

• Protection of poor and vulnerable

• Health policies

• Environmental policies, e.g.

• Protection of natural resources

• Clean energy

• Compliance with international obligations / conventions


Government policies – what are they?

19/04/2016

• Sector specific, e.g.

• Sector structure: privatisation, commercialisation etc.?

• Role of local government?

• Cost recovery: definition, how, by when?

• Development priorities: sector, geographic, consumer type?

• State funding for investment?

• Regulation: powers, pricing expectations.

• Levels of service: water quality, pressure etc.

• Many more . . . . .


Government policies – important characteristics for

regulation

19/04/2016

• Realistic (not a wish list)

• Objectives driven

• Objectives measurable, e.g. water quality to a

defined standard

• Time bound, e.g. to meet the objectives by a set date


Functions of utility

• Water supply on demand, at the prescribed quality

and pressure.

• Wastewater collected treated and disposed of in

accordance with environmental regulations.

• Utilities need the money to enable them to do this


Business plan principles

• What do we need to do?

• How are we going to do it?

• What will it cost?

• Where will the money come from?


Inter-relationships

Government

Policy

e.g. service standards,

timetable etc. Regulation

Tariffs set to finance

agreed business plans

Service

delivery

Business plans to meet

policy objectives

Customers

Improved services

and their payment.


Required revenue

• Revenue required to be able to carry out functions of

water supply and wastewater services?

• Revenue to cover costs

• Operational costs

• Capital maintenance

• Cost of finance

• Other?


Tariff policy principles

19/04/2016

• Limited by legal obligations

• Interpretation of Government policy

• Delivers policy objectives

• Regulatory consistency

• Transparency and accountability

• Balanced between needs of stakeholders

(consumers, investors, service providers)

• Conforming with good regulatory practice

• Foundation of tariff setting methods and models


Business plan cost projections

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• Operational cost projections to include for realistic

expectations of improved efficiency

• Capital maintenance (depreciation and infrastructure

renewals) determined using current cost accounting

principles

• Return on capital:

• Rate to reflect risk class of business

• Capital value to reflect actual investment by

business (not grants)


Operational costs analysis (Kosovo example)

PR

PZ

PE

MIT

GJA

FE

GJI

y = -3E-07x + 33.467R² = 0.4288

-5

10 15 20 25 30 35 40 45

- 20,000,000 40,000,000 60,000,000

Co

st p

er

10

00

m3

Water production m3 / year

Water resources & treatment per m3 production (excluding energy)

RWC submitted

WWRO determined

Linear (RWC submitted exc. Peja and Gjakova)Linear (Best performing exc Peja and Gjakova)


Capital maintenance

• Conventional accounting

• Asset replacement financed by depreciation

BUT

In water supply and wastewater:

• Long life assets, and not equal to accounting lives (often remaining

life indeterminate)

• Many assets fully depreciated

• Depreciation needs to account for Inflation

• Financing (grants, loans, equity investment)


Ofwat solutions (used in Kosvo and elsewhere)

Underground assets (infrastructure)

• Infrastructure renewals accounting

• Network is a single asset, asset life infinite, therefore no

depreciation

• Investment in renewals / replacement operational expenditure

• Expansion of the network added to Regulatory Asset Base (RAB)

Above ground assets (non-infrastructure)

• Current cost depreciation

Grants and capital contributions

• Activities financed by grants not included in revenue requirement


How to measure network renewals investment


Opening Regulatory Asset Base (RAB)

Asset values

• Historic or current cost?

• Assets fully depreciated but still in use?

• Inherited assets - how much gifted and how much equity?

Market capitalisation + debt

• Requires privatisation

Business purchase price

• Concessions

Arbitrary value

• Kosovo (water EUR 200 per connection, wastewater EUR 100 per

connection)

• Northern Ireland (£1 billion) Reform of Municipal Services in Eastern Ukraine

RAB movements

Principle

• Opening value determined at start of year 1

• Increases with investment

• Decreases with depreciation (above ground only)

• Decreases with disposals

• Adjusted for inflation


Determination of return

Capital asset pricing model (CAPM)

• Risk free rate + risk premium

• Utilities should be low risk

• Typical returns: 5 – 6 % (real)

• Weighted average cost of capital (WACC)

• State-owned – does CAPM apply?


19

Price cap incentive regulation - illustration

Time (yrs)

£

Tariff review 1 Tariff review 2

Regulator’s

projection of costs

Actual costs

Regulator’s

projection of

income Actual income


Business plan framework (Kosovo example)

Regulatory

accounts

Asset

management

Operational

Commercial

Financing

Performance,

e.g. NRW and

operational

cost

projections

Performance,

e.g. collection

efficiency,

cost

projections, e.g.

connection fees

Investments,

capital

maintenance

and

enhancement

Sources of

finance,

grants etc.

Regulatory

asset base,

c.c.

depreciation

Regulator

inputs

Return on

capital,

boundary

conditions,

inflation..

Business plan primary inputs Business plan supplementary inputs

BUSINESS

PLAN

Tariff model

sub-routine

Cost and performance

projections

Tariffs

Tariff application

Agreed performance

targets / commitments

Projected financial

statements


Tariff = Required revenue / sales

Tariff = [Operational costs + Capital maintenance + Cost of finance]

Sales

• Tariffs (base year price levels)

• Financial projections

• Income statements

• Balance sheets

• Cash flow

• Obligations

Outputs


Tariffs and obligations

• Tariffs set to meet business plan obligations including:

• Efficiency expectations

• Investments

• Performance expectations

• In theory: if utility does not deliver customers should expect

their money back

• In practice: not easy to enforce (unless privatised)


RWC Obligation

Operating cost efficiency

Water supply services Reduce annual operating costs from the submitted level of EUR 6.562,000 to EUR 5.373,000, a reduction of EUR 1.190,000 (at 2011 price levels). The bulk of the reduction in operating costs (EUR 992,000) is expected to be derived from improved efficiency in water supply business activities with the remaining reductions expected from efficiency gains in water resources/treatment and distribution activities.

Wastewater services Reduce annual operating costs from the submitted level of EUR 216,000 thousand to EUR 201,000, a reduction of EUR15,000 (at 2011 price levels), largely through efficiency improvements in wastewater collection activities.

Commercial (revenue collection) efficiency

Households Commercial Institutional

2011 (current) 58% 90% 98%

2014 (minimum) 67% 96% 100%

Capital investment

2012 – 2014

(EUR x 1000 at 2011 price levels)

RWC resources

Grants Total

Water supply Infrastructure renewals 9,436 9,011 18,447

Infrastructure enhancement 1,110 200 1,310

Non-infrastructure capital maintenance 1,965 360 2,325

Non-infrastructure enhancement 4,032 4,327 8,358

Total 16,543 13,897 30,440

Wastewater services Infrastructure renewals 1,401 1,870 3,271

Infrastructure enhancement 100 450 550

Non-infrastructure capital maintenance - - -

Non-infrastructure enhancement 59 - 59

Total 1,560 2,320 3,880

Customers & sales

Water supply Household connections to increase from 89,000 in 2011 to 102,500 by end 2014

Wastewater Household connections to increase from 68,900 in 2011 to 82,400 by end 2014

Water sales To increase from 22.4 million m3 per year in 2011 to 25.8 million m

3 per year by 2014

Water and wastewater sales turnover (exc. connection fees and other income)

To increase from EUR 12.2 million in 2011 to EUR 15.8 million by 2014 (at 2011 price levels)


Performance

What to monitor?

• Outputs (not inputs)

• Water quality, pressure, reliability, efficiency

• Wastewater collection, discharge quality, efficiency

• Performance relative to plan

• Comparative performance

Performance measurement – outputs driven

(Kosovo example)

Group Performance measure Sub-group

weighting

Group weighting

Water

Drinking water quality 30%

100% 45%

100%

Pressure 5%

Availability 35%

Service coverage 20%

Cost efficiency 10%

Wastewater

Discharge quality 20%

100% 35% Reliability 20%

Service coverage 50%

Cost efficiency 10%

Financial / commercial Profitability 10%

20% Commercial efficiency 10%


Performance monitioring relative to planned

(Kosovo example)

0% 20% 40% 60% 80% 100%

PZ

MIT

GJI

FE

PR

PE

GJA

Ideal

EUR (2010)

RWC overall performance

09 Water supply 09 Wastewater 09 Profitability 09 Commercial efficiency

10 Water supply 10 Wastewater 10 Profitability 10 Commercial efficiency


Tools

Regulatory accounts

• Linked to model

• RAB and return on capital

Performance returns

• Also linked to model

• Measure against business plans


Regulatory enforcement

Performance reporting

• Awards

• Name and shame

Fines

• Does not work for state-owned businesses

Financial rewards

• Bonuses dependent upon performance

• Requires strong audit mechanisms

Other powers?


Hypothetical exercise

• Dnipropetrovsk and Novomoskosvk

• 3 year tariff model

• Operational costs based upon current level of performance

• Investments from asset management plans:

• Capital maintenance (infrastructure renewals and

depreciation)

• Capital enhancement (increases RAB)

• Opening RAB based upon UAH per connection (6000 for

Dnipropetrovsk and 4500 for Novomoskosvk)

• Return on RAB, 5%


Outputs


19/04/2016

-

2.00

4.00

6.00

8.00

10.00

12.00

14.00

16.00

2016 2107 2018 2016 2107 2018

Tari

ff (

UA

H/m

3)

Dnipropetrovsk Novomoskosvsk

Return on capital

Current cost depreciation

Infrastructure renewals

Operating costs (including net bulk water purchases and sales)

Sensitivity analysis - Dnipropetrovsk


Sensitivity analysis - Novomoskosvk


Example – outputs

Principal tariff drivers

• Opening RAB

• Rate of return on RAB

• Capital costs

Secondary drivers

• Depreciation rate

• Opening split of assets between above and under

ground


Future tariff reviews


• Takes significant preparation

• Estimate earliest review for tariffs 2019 - 2021

• Operational costs based upon current level of performance

• Investments from asset management plans:

• Capital maintenance (infrastructure renewals and depreciation)

• Capital enhancement (increases RAB)

• Opening RAB based upon UAH per connection (6000 for

Dnipropetrovsk and 4500 for Novomoskosvk)

• Return on RAB, 5%

19/04/2016

Switch to tariff cycle slide


Regulatory calendar – estimated (fast-track)


Deadline Activity Responsibility Voda-kanls

Comm Gov

31 Oct 2016 Draft government policy and objectives 30 Nov 2016 Consultation 31 Jan 2017 Final policy and objectives 30 Apr 2017 Legal instruments (legislation, licences etc.) 31 May 2017 Development of draft tariff policy 30 Jun 2017 Consultation 31 Jul 2017 Finalisation of tariff policy 31 Oct 2017 Development and issue of draft models, guidelines etc. 30 Nov 2017 Consultation on draft tariff determination principles, model, regulatory

accounting guidelines and other regulatory instruments

31 Dec 2017 Finalisation and issue of final tariff determination principles, model, regulatory accounting guidelines and other regulatory instruments

31 Jan 2018 Training of vodakanals in use of regulatory tools 30 Apr 2018 Submission of business plans, tariff proposals, and supporting information.

31 Jul 2018 Publication of draft tariff determinations 31 Aug 2018 Representations from vodakanals on draft tariff determination 30 Sep 2018 Final tariff determinations for 2019 to 2021 31 Oct 2018 Deadline for appeals against tariff orders 1 Jan 2019 Adoption of 2019 tariffs, adjusted in accordance with inflation criteria

(assuming no appeals)

Summary

19/04/2016

• Policy objectives - realistic, time-bound, measurable.

• Policy implemented through business plans

• Tariff revenue sufficient to meet objectives

• Regulatory models using RAB, infrastructure renewals and current cost

depreciation

• Tariffs contingent upon performance (effectively an implied contract)

• Performance monitoring against business plan expectations

• Future tariff reviews will take time to set up (2019 earliest)



19/04/2016

As a federal enterprise, GIZ supports the German Government in achieving its objectives in the field of international cooperation for sustainable development.

Published by Deutsche Gesellschaft für Internationale Zusammenarbeit (GIZ) GmbH

Registered offices, Bonn and Eschborn, Germany

Reform of Municipal Services in Eastern Ukraine 15/75 Khreshchatyk Street, 01001 Kyiv, Ukraine T/F +38 044 495 50 07

E [email protected] I www.ims-ukraine.org I www.giz.de/ukraine I www.gfa-group.de

Responsible

Wolfgang Hützen

Authors

Keith Burwell

In cooperation with

Implemented by

mailto:[email protected]



http://www.ims-ukraine.org/



http://www.giz.de/ukraine

http://www.gfa-group.de/



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