Workshop on Storage and Loading Methodology Version 3 10 May 2016 - - PowerPoint PPT Presentation

Workshop on Storage and Loading Methodology Version 3

10 May 2016

1

“Rules” of todays workshop

• NERSA staff will explain the interpretation of the methodology

and elements thereof.

• NERSA staff will explain the practical implications of

implementing the new methodology

• Questions, clarification issues and guidance can be discussed

and debated, but no specific decisions can be taken by the NERSA staff

• Questions and debates will be allowed after each section

[RAB, WACC, opex, clawback, tax, Tariff design]

2

What are we going to deal with today?

• Changes in the new methodology
• PPE
• WACC-Debt ratio and Cost of Debt
• Claw back
• Tariff design
• Standard options
• Standard options are not different methodologies but merely standard values set by the

Energy Regulator for certain elements in the formulas

3

• 1. Amendments to the Regulations;
• 2. Impractical outcomes of TOC (asset valuation, useful lives)
• 3. To place the valuation of different storage assets on a similar

footing and thereby achieve similar tariffs (all other things being equal) thus improving the prospects of competition;

• 4. Harmonisation between Nersa’s tariff methodologies;
• 5. Moving closer to the DoE wholesale margin
• 6. To lower the regulatory burden on licensees;
• 7. Speedier processing

4

The primary reasons for amending the methodology

5

Why previous methodology [TOC] did not work

Why did TOC methodology not work?

• Historical Records are either not available or are unreliable.
• Useful life – ranges from 7 years to 80 years for same category of
• assets. This influenced TOC calculations.
• BOOT type agreements created problems when actual useful life is

applied.

• Resulting tariffs were different for same service facilities.
• Storage: Overlapping jurisdiction with DoE
• DoE using different methodology (replacement cost no depreciation)
• Concerns about accuracy of some storage tariffs
• Difficult and cumbersome TOC calculations

6

7

New methodology

OPTIONS FOR APPLYING In the new methodology the licensee will have 3 options to follow when calculating Allowable Revenue and Tariffs:

• Option 1: Comprehensive option (If actual investment

costs are available IOC and if not available RV);

• Option 2: Standard cost option 1 (Standard volumes,

costing and tariffs); and

• Option 3: Standard cost option 2 (own volumes and tariff

design)

8

Is original Cost of Investment available?

Yes No

Use IOC -Indexed

• riginal cost to

calculate the PPE value Use RV - Replacement Value Does the Applicant want to perform a comprehensive Replacement Value study?

Yes No

Perform a comprehensive RV study as directed in Questions 3-4 in the FAQ Use Standard option 1

• r 2

9

10

Old Methodology Allowable Revenue Formula = (RAB [ PPE+w +/- def tax] x WACC)+E+D±C +T New Methodology Allowable Revenue = (RAB [PPE+w] x WACC) + E + T

REVISED ALLOWABLE REVENUE FORMULA

Element in Formula Old Methodology New Methodology Property Plant and Equipment [PPE] Trended Original Cost with depreciation Indexed Original Cost [IOC] or Replacement value [RV] without depreciation Working Capital Actual Working Capital Forecast with benchmarks from NERSA [Receivables 30 days etc] No change Deferred taxation Deduct Deferred taxation liability No deferred taxation effect taken into account in RAB calculation

WACC –Cost of Equity [Ke]

Risk Free [Rf] Average over 25 years Average over 30 years MRP Average over 25 years Average over 30 years Beta No change No change Risk Factors [LP,SSP and project risk] Allowed on detailed reasons Allowed on detailed reasons . In Standard options NERSA is going to be more lenient as Risk factors are not dealt with in the “cash flow” of financial models [Actual PPE and clawback ] Debt ratio Actual Debt Ratio with a minimum of 30% Target debt ratio of 35% Cost of Debt [Kd] Post tax Real- Actual with Tax shield in notional tax calculation Post tax Real- Prime rate with Tax shield in notional tax calculation Operational Expenditure Actual as approved by NERSA Actual as approved by NERSA –Repairs and Maintenance 2% of PPE Clawback Clawback on each element No Clawback on annual applications and Multiyear resetting Taxation Allowance Notional or flow trough taxation calculation Notional taxation calculation Tariff design Not prescriptive ,own design to suite business model Not prescriptive ,Own design to suite business model . Standard Option 1 – Standard volume 24 times capacity

11

12

RAB =PPE+w

Why did NERSA chose Indexed Original Cost or Replacement Value as a basis for determining PPE? Value of Property Plant & Equipment

• Section 28(3)(a) - ‘recover the investment’
• Regulations 4(2) (b) “recover capital investment and make profit thereon

commensurate with the risk” and 4(7) (c) ”include only those assets that are prudently acquired.”

• Public comment: Act prescribes “recover the investment” not a proxy

number

• NERSA sought legal opinion
• IOC: use actual cost (“the investment”) and index with CPI, OR

Replacement value [RV] when information on actual investment costs not available

• If RV option is chosen the Standard options 1&2 are also available for

applicants

13

How will the Indexed Original Cost value of property, plant and equipment be determined?

14

Comprehensive option: The IOC is determined by indexing the

• riginal prudently acquired cost [if available] of the asset in
• peration by inflation rate [CPI] using the following formula:
• IOC FYn = IOC FYn-1 x KCPIn
• Where:
• FYn = Financial Year for which the tariff is being determined
• FYn-1 = Financial Year prior to which the tariff is being determined
• KCPIn = CPI Index value for twelve (12) months before the commencement of FYn

divided by the CPI index twelve (12) months before the commencement of FYn-1.

• Assets taken out of commission must the taken out of the regulatory asset base to be

inflated

IOC Example

15

IOC Example Formula FYn-1 1 April 2015 to 31 March 2016 Fyn 1 April 2016 to 31 March 2017 Headline CPI March 2014 index value a 102.5

Headline CPI March 2015 index value

b 108.7 IOC value used in determination of FYn-1 c 300 105 789 KCPIn d=b/a 106.05 IOC value used in determination of FYn e=c*d 318 262 189 The calculation of IOC Asset values should preferably be performed by using individual Asset items as per audited Asset Registers.

How must Replacement Value [RV] be determined?

• If the original prudently acquired costs are not available, and the Regulator

is in agreement with the non-availability, the replacement cost of operating assets [PPE] can be used and must be valued by the licensee and supported by a valuation performed by an appropriate independent professional firm on a Modern Equivalent Asset [MEA] basis.

• This valuation is to be performed at least every five years and indexed at an

appropriate inflation rate in the years between valuations.

• If certain capital expenditure incurred by the licensee is not included in the

definition of MEA such expenditure could be brought to the Regulator's attention with a request that it be considered for inclusion in the regulatory asset base or to be recovered as a part of the operational expenditure. This is subject to approval by the Regulator.

16

Template for Plant, Property and Equipment

Cost element [R- million] Land General and civil works Building Works Road gantry Road receipt Rail gantry Tank farm Site product piping and equipment Fire protection facilities Electrical Infrastructure Security Systems Instrumentation and Control Other [supply detail] Engineering, Management and Construction Margin Total Cost Capacity[million litres] Replacement costs per Million litres 17

Will the Energy Regulator (ER) allow a transition period before assessing tariff applications on the IOC / RV basis?

• Depending on the information submitted by licensees, the Energy Regulator will assess

new tariff applications on either the Trended Original Cost (TOC) basis or on the IOC/RV basis for tariff periods ending December 2017.

• Tariff applications for the period commencing on or after 01 January 2018 will only be

evaluated on the IOC or RV basis.

• Should a licensee not be in a position to implement the IOC or RV approach by 01

January 2018, a motivation for extending this date is to be submitted to the Energy Regulator for consideration.

18

Will there be any clawback implications when tariff applications convert from TOC to the IOC or RV basis?

– No clawbacks will be implemented . – The TOC basis for calculating the Allowable Revenue includes two elements relating to the Regulated Asset Base: (i) Return on RAB [WACC*RAB (a lower RAB value)] and (ii) depreciation over the useful life of the asset. – The IOC or RV basis of calculating the Allowable Revenue includes only one element relating to the Regulated Asset Base: Return on RAB [WACC*RAB (a higher RAB value)] with NO depreciation. Over time these elements should balance out.

19

Benchmarks for working capital

Net working capital = inventory + tank bottoms + receivables + operating cash – trade payables

– Tank bottoms / un pumpables and inventory: is to be valued at the lower of cost or net realisable value. – Receivables: is to be based on a maximum of 30 days of a licensee’s annual allowable revenue. – Operating cash: is to be based on a licensee’s standard practice subject to a maximum of 45 days’ maintenance and operating expenses, excluding depreciation and deferred taxes. Added to this amount will be the minimum cash requirements of a licensee’s lender(s). – Trade payables: is to be based on a maximum of 45 days of a licensee’s annual allowable revenue. – If licensees have proof that their historical values for the above benchmarks are higher, the higher values can be used.

20

21

Weighted Average Cost of Capital [WACC]

WACC

• Where:
• Eq =

Shareholders equity

• Dt =

Target debt ratio determined the Energy Regulator from time to time, published in the FAQ.

• Ke =

Cost of equity-post tax, real

• Kd =

cost of debt- Post-tax, real

22

23

Target Debt ratio

Target Debt ratio

• 1. Why target debt ratio?

Using IOC or RV the RAB values and "ACTUAL" debt values delink and actual debt becomes an ever decreasing % of replacement value

• 2. Why 35% debt?

Set at average of the proxy companies used to calculate the

• beta. It is not directly linked to this average
• 3. Can the Energy Regulator amend this target debt ratio in future?

Yes, if required.

24

Cost of Debt – Prime Rate

Why is Cost of Debt = Prime Rate?

• 1. Fair and reasonable cost when following

considered:

a) A low 35% debt ratio so debt financing costs should be lower. b) Debt above 35% will be rewarded at Ke which is higher than prime rate c) Financial capital engineering [gearing] can be used by licensees (unlike previously)

25

Cost of Debt

• Nominal Cost of debt has been standardised at Prime rate.
• The Cost of debt has to be converted to post tax real using the

following formula:

26

Kd post-tax, nominal=1 [Kdpre tax,nom * (1- t)] - 1 1CPI

Prime rate might be lower than the actual Kd new projects are funded but the following must be considered: A low 35% debt ratio so debt financing costs should be lower. Debt above 35% will be rewarded at Ke which is higher than prime rate

Example – Tariff WACC vs Actual WACC

Weighted Average Cost of Capital WACC % used to calculate Tariff Actual WACC %

Risk free [Rf] 4.12% 4.12% Market Risk Premium [MRP] 5.84% 5.84% Debt ratio 35.00% 70.00% Beta 0.754 1.633 Risk Factors 9.00% 9.00%

Cost of Equity 17.52% 22.65%

Nominal Debt pre tax 10.00% 12.00% Nominal Debt post tax 7.20% 8.64% CPI 5.30% 5.30% Tax rate 28.00% 28.00%

Real Kd [Post tax] 1.80% 3.17% WACC 12.02% 9.02%

27

28

Operational Expenditure

What Opex is allowed ?

• Actual opex excluding repairs and maintenance
• Repairs and maintenance @ 2% of PPE
• If standard options are used 102 cents per licensed

capacity litre

29

30

Taxation

Taxation Allowance

• Flow through option has been removed
• Notional Tax Allowance={(NRBTA) / (1-t)}*t

Where: NRBTA = Net revenue before tax allowance = {(RAB*WACC) + E + D (historic & write up) + F ±C} – {E + D (historic) }. t = Prevailing corporate tax rate of the licensee E = Operational Expenditure

31

IOC/RV vs TOC with and without Accelerated Wear and Tear Allowance

• The fiscal regime has many elements. Why single out one (accelerated depreciation) in a

regulated industry where reasonable returns are “guaranteed”?

• Old TOC methodology allowed the calculation for tax allowance to be performed using the

Notional Taxation calculation BUT

• Then took the benefit away by deducting the Deferred taxation liability created by this from the

RAB [RAB= (PPE – d) + w +- def tax]

• The New Methodology does NOT take away the Accelerated wear and tear benefit [RAB= (PPE – d)

+ w]

• In the public hearing the point was made that RnD on its own does NOT achieve the required

returns [IRR /NPV] and has to rely on the Accelerated wear and tear benefit to turn positive returns.

• This is technically correct and is demonstrated in next slide.
• NERSA’s view is that the required return as per section 28 (3) includes this benefit and it

should not be “in addition“ to the pure project return

32

IOC sensitivity towards Asset inflation vs CPI- Table showing NPV as % of initial Capital

33

Provided by Meridian Economics on behalf of BURGAN Cape Terminals

No Accelerated Wear and Rear allowance

20 25 30 35 40 45 50 55 60

Replacement cost escalation relative to inflation 2.5%

4.8% 11.1% 15.2% 17.8% 19.4% 20.4% 21.0% 21.4% 21.6%

2.0%

1.8% 7.4% 10.9% 13.0% 14.3% 15.1% 15.5% 15.7% 15.7%

1.5%

• 1.1%

3.8% 6.8% 8.5% 9.5% 10.1% 10.4% 10.5% 10.5%

1.0%

• 3.8%

0.5% 3.0% 4.4% 5.1% 5.5% 5.7% 5.7% 5.6%

0.5%

• 6.4%
• 2.7% -0.6%

0.5% 1.1% 1.3% 1.3% 1.3% 1.2%

0.0%

• 8.9%
• 5.7% -4.0%
• 3.1%
• 2.7%
• 2.6%
• 2.7%
• 2.8%
• 2.9%
• 0.5%
• 11.3%
• 8.5% -7.1%
• 6.5%
• 6.3%
• 6.3%
• 6.4%
• 6.5%
• 6.7%
• 1.0%
• 13.6% -11.2% -10.1%
• 9.7%
• 9.6%
• 9.6%
• 9.8%
• 10.0%
• 10.1%
• 1.5%
• 15.8% -13.8% -12.9%
• 12.7%
• 12.7%
• 12.8%
• 13.0%
• 13.2%
• 13.4%
• 2.0%
• 17.9% -16.2% -15.6%
• 15.4%
• 15.5%
• 15.7%
• 16.0%
• 16.2%
• 16.4%
• 2.5%
• 19.9% -18.5% -18.1%
• 18.1%
• 18.2%
• 18.5%
• 18.7%
• 19.0%
• 19.2%

With Accelerated Wear and Rear allowance

20 25 30 35 40 45 50 55 60 Replacement cost escalation relative to inflation 2.5%

9.9% 17.6% 22.7% 26.0% 28.2% 29.7% 30.6% 31.3% 31.7%

2.0%

6.9% 13.9% 18.4% 21.2% 23.1% 24.3% 25.1% 25.6% 25.9%

1.5%

4.0% 10.3% 14.3% 16.8% 18.3% 19.3% 19.9% 20.3% 20.5%

1.0%

1.3% 7.0% 10.5% 12.6% 13.9% 14.7% 15.2% 15.5% 15.7%

0.5%

• 1.3%

3.8% 6.9% 8.7% 9.8% 10.5% 10.9% 11.1% 11.3%

0.0%

• 3.8%

0.8% 3.5% 5.1% 6.0% 6.6% 6.9% 7.1% 7.2%

• 0.5%
• 6.2%
• 2.0% 0.4%

1.7% 2.5% 3.0% 3.2% 3.4% 3.4%

• 1.0%
• 8.5%
• 4.7% -2.6%
• 1.4%
• 0.8%
• 0.4%
• 0.2%
• 0.1%

0.0%

• 1.5%
• 10.7%
• 7.3% -5.4%
• 4.4%
• 3.9%
• 3.6%
• 3.4%
• 3.3%
• 3.3%
• 2.0%
• 12.8%
• 9.7% -8.1%
• 7.2%
• 6.8%
• 6.5%
• 6.4%
• 6.3%
• 6.3%
• 2.5%
• 14.8% -12.0%-10.6% -9.8%
• 9.5%
• 9.3%
• 9.2%
• 9.1%
• 9.1%

34

Clawback

Clawback Adjustments (C ) and Re-opening of tariff decisions

Paragraph 7 of methodology

Annual Tariff applications

• There will be no clawback calculations on past allowable revenue and tariffs but annual

tariff applications will be analyzed in depth to ensure assumptions correspond with recent history Multiyear Tariff applications

• Act allows licensees to reopen multiyear tariff approvals any time they wish to do so
• Energy Regulator has the right to reopen multiyear tariff approvals if actual data

[volumes and operational expenditure] proves to have undergone a level change which could affect the approved tariff by more than 6%.

• Multiyear tariff reopening will NOT trigger a clawback or give back but will rather reset

the future tariffs to levels representing the new updated assumptions for data [volume and operational expenditure] with the original WACC still used to determine tariffs.

35

36

Tariff Design

Tariff Design

Comprehensive Option and Standard option 2

• NERSA will approve tariff(s) based on the specific

circumstance and business model of a specific licensee while taking cognisance of the requirements of section 28(2) of the Petroleum Pipelines Act, 2003 (Act

• No. 60 of 2003)
• The sum of tariff(s) multiplied by expected or forecast

volumes must equal the Allowable Revenue [AR]

• Standard Option 1- 24 times capacity standard tariff

design.

37

Is there any guidance on how tariffs could be designed or structured?

• Simplistic form: Divide Allowable Revenue by Volume to arrive at a uniform tariff.

Variables to be taken into account in designing a tariff system or a schedule of tariffs include batch sizes, bulk use, take or pay agreements, length of time stored.

• Tariff design for the licensees' specific needs, circumstances and business model:

The licensee can propose any tariff design as long as the volumes multiplied by the tariffs equal Allowable Revenue AND the proposed tariffs comply with Section 28(2) (a)

• f the Petroleum Pipelines Act, 2003 (Act No. 60 of 2003).
• If forecast volumes are erratic or ramp up volumes on new projects cause tariffs to be

volatile from period to period, a pure IRR model would solve the erratic nature of tariffs. A similar effect can be achieved if Allowable Revenue is calculated on the Rate of Return basis as per the methodology and then in the “Tariff design” step use NPV of AR and expected volumes to determine the starting level of real tariff.

38

Options for applications under the new methodology

39

Is original Cost

• f Investment

available?

Yes No

Use IOC -Indexed

• riginal cost to

calculate the PPE value Use RV - Replacement Value Does the Applicant want to perform a comprehensive Replacement Value study?

Yes No

Perform a comprehensive RV study as directed in Questions 3-4 in the FAQ Use Standard

• ption 1 or 2

40

41

• The ER recognizes that tariffs for many storage facilities are

not key to their business models.

• Therefore standardised models (based on replacement

value of assets and operating costs) have been developed. (Overlaps with DOE in Regulatory Accounting System Models) Standard Costing Options

Standard options

42

Element Standard 1 Standard 2 RAB Standard DOE RAS table Standard DOE RAS table WACC Standard Standard Opex Standard 102 cpl capacity Standard 102 cpl capacity Volume Turns Standard 24 times p.a. Own Volumes

If Applicant uses any other methodology

1.1 Licensees may submit their applications using their own methodologies

• r use this methodology as a guide. However, the Energy Regulator will use

this tariff methodology to evaluate tariff applications. Therefore, licensees must provide in their applications all the information necessary to apply this methodology.

• The Energy Regulator will therefor have to use either the IOC
• r RV method to evaluate the application if it is based on “own

methodologies”

• This will depend on the information provided in the application

[either IOC or Rv ], as required in paragraph 1.1 of the methodology.

43

Standard Option 1

Valid for 1 January to 31 December 2016

44

The Standardised elements

1. RAB: Read off capacity curve (DoE) 2. WACC: 11.84% (real post tax) (DoE RAS 13.14%) 3. Opex: R1.02 per litre (DOE RAS R2.38 - 2015 estimate) 4. Volumes: 24 stock turns p.a. (DOE RAS 23,6 times)

45

y = 64.007x-0.489 20 40 60 80 20 40 60 80 100 120 Replacement cost (R/l) Capacity (million litres)

Replacement cost versus Capacity (Year: 2015)

DoE data

WACC for Standard 1&2

46

Weighted Average Cost of Capital WACC % Risk free [Rf] 4.12% Dec-14 Market Risk Premium [MRP] 5.84% Dec-14 Debt ratio 35.00% Beta 0.739 Risk Factors 9.00% Cost of Equity [Real] 17.44% Cost of Equity [Nominal] 24.29% Nominal Debt pre tax 9.50% Nominal Debt post tax 6.84% CPI 5.30% Dec-14 Tax rate 28.00% Real Kd [Post tax] 1.46% WACC 11.84% BETA Unlevered Industry Beta 0.480 Debt Ratio Of Applicant 35.00% Equity Ratio of Applicant 65.00%

Gearing of Applicant =1/(1+D/E)

53.8% Applicants Final Beta for tariff period under review 0.739

DOE EPCM report 2016 Replacement cost basis

47

y = 64.007x-0.489

20 40 60 80 100 120 140 160 180 200 20 40 60 80 100 120

Replacement cost (R/l)

Capacity (million litres)

Replacement cost versus Capacity (Year: 2015) DoE data Replacement costs for the licensees deduced from DoE data Power (DoE data)

NERSA used the EPCM report as a starting point for 2016. This will be inflated annually by CPi

48

Standard cost option 1 (Standard volumes, costing and tariffs)

Option 1

Volume on Standard Capacity Turn R/litre/% Applicant Licence Number Facility Known as Services rendered at facility Licensed Capacity [litre] a 10 000 000 Replacement value as read from Standard table for Design Capacity b=lookup 207 600 059 Cents per litre 102 Operational Expenditure as read from Standard Table c=lookup 10 200 000 4.3 Wacc as read from Standard Table d=lookup 11.84% Corporate taxation rate f 28.00% Taxation Allowance g=e/(1-f)*f 9 558 829 4.0 Total Allowable Revenue h=c+e+g 44 338 676 18.5 Actual expected or Forecast volumes i=a*j 240 000 000 Standard Licenced Capacity turn j 24.00 Tariff [Rand /Litre] k=h/i 0.18 Tariff [Cent /Litre] m=k*100 18.5

Input Required by Applicant

How to submit Application –Standard 1

• Complete the excel spreadsheet – input required by

applicant

• Attach spreadsheet to covering letter. NB licence

number, location of facility, period of tariff

• Submit electronic version of the calculation

49

50

Standard Option 2

Valid for 1 January to 31 December 2016

Standard option 2

Standard option 2 would typically be used by licensees:

• 1. Who have a volume to capacity

turn of LESS than 24 times per annum.

• 2. Who have their own tariff design

for e.g. merchants renting out space

• n a monthly Basis

Element Standard 2 RAB Standard DOE RAS table WACC Standard Opex Standard - 102 cpl Volume Turn Own Volumes & tariff design

51

52

Standard cost option 2 (Standard costing ,

• wn volumes and tariff design)

Volume on Own Volume and tariff des ign R/litre/% Applicant Licence Number Facility Known as Serv ices rendered at facility Licensed Capacity [litre] a 20 000 000 Las t 3 years Actual Volume [litre] if available Year-3 b1 200 099 999 Year-2 b2 209 999 999 Year-1 b3 198 999 999 Av erage for last 3 years av erage=b 203 033 332 Expected or Forecast v

• lumes

c 190 000 000 %Variance Forecast to Actual Av erage d=c/b-1

• 6.42%

If forecast v

• lumes is lower than the

Av erage for last 3 years giv e detail explanations Replacement v alue as read from Standard table for Design Capacity e=lookup 295 837 893 Cents per litre 102 Operational Expenditure as read from Standard Table f=lookup 20 400 000 10.7 Wacc as read from Standard Table g=lookup 11.84% Return on RAB h=e*g 35 027 206 18.4 Corporate taxation rate i 28.00% Taxation Allowance j=h/(1-i)*i 13 621 691 7.2 Total Allowable Rev enue k=f+h+j 69 048 898 36.3 Actual expected or Forecast v

• lumes

d 190 000 000 Licenced Capacity turn l=d/a 9.50 Tariff [Rand /Litre] m=k/d 0.36 Tariff [Cent /Litre] n=m*100 36.3 Tariff can be designed to suite the Licensee's own business

• model. Detail of such tariff design must be submitted. Forecast

v

• lume at these tariffs MUST add up to the Allowable Rev

enue (k) abov e

Input required by Applicant

How to submit Application –Standard 2

• Complete the excel spreadsheet – input required by applicant
• Explain in detail the variance in estimated volume to previous 3

years average actual volumes.

• Explain in detail the tariff design setting out reasons and basis
• f differences on treatment of different customer groupings.
• Show how the various tariff and tariff design at the forecast

volumes equals the calculated Allowable Revenue

• Submit with a covering letter and electronic version of the

calculation

53

54

INDICATIVE PROCESS DURATION

Steps in Processing application Comprehensive tariff application Standard application with STANDARD Volumes, Costing and Tariffs Standard application with OWN Volumes and Standard Costing Estimated Duration in Days Estimated Duration in Days Estimated Duration in Days Submit and acknowledge tariff application (TA). X 4 X 4 X 4 Assess and obtain additional information X 18 X 18 X 18 Prepare and publish confidential version of application X 10 Publish application for comment X 30 X 30 Prepare and conduct Public hearing X 14 Decision on TA - Comprehensive X 30 X 14 Decision on TA - Standard X 2 X 2 Publish standard TA X 2 X 2 Prepare and publish confidential version of decision on application X 14 X 14 X 14 Estimated days: 120 40 84

Any other Questions?

55

Multiyear model 20yrs [Standard model to assist with multiyear

• applications. Will also be available on website]

56

Tariff Period 1 2 3 18 19 20 Asset Original Cost 1 000.00 100% Target Debt ratio 35% 35% 35% 35% 35% 35% Headline Inflation index 102.00 107.41 113.10 119.09 258.41 272.11 286.53

KCPIn

1.053 1.053 1.053 1.053 1.053 1.053 Inflation [Assumption] 5.3% 5.3% 5.3% 5.3% 5.3% 5.3% 5.3% Indexed Original Cost [IOC] v alue calculated based on CPI 1 053.00 1 108.81 1 167.58 2 533.44 2 667.71 2 809.10 Working Capital 31.00 32.86 34.83 83.48 88.48 93.79 Total RAB including working Capital 1 084.00 1 141.67 1 202.41 2 616.92 2 756.20 2 902.90 Riskfree(Rf) [12 months prior to commencement] 4.12% 4.12% 4.12% 4.12% 4.12% 4.12% MRP [12 months prior to commencement] 5.84% 5.84% 5.84% 5.84% 5.84% 5.84% Beta[12 months prior to commencement] 0.406 0.754 0.754 0.754 0.754 0.754 0.754 RiskFactors[to be supported with Reasons] 9% 9% 9% 9% 9% 9% Real Ke 17.52% 17.52% 17.52% 17.52% 17.52% 17.52% Cost of Debt pretax[Prime] 10.0% 10.0% 10.0% 10.0% 10.0% 10.0% 10.0% tax rate 28.0% 28% 28% 28% 28% 28% 28% Ke (REAL) 17.52% 17.52% 17.52% 17.52% 17.52% 17.52% Kd Pre tax (REAL) 4.46% 4.46% 4.46% 4.46% 4.46% 4.46% Kd Post tax (REAL) 1.80% 1.80% 1.80% 1.80% 1.80% 1.80% WACC 12.02% 12.02% 12.02% 12.02% 12.02% 12.02% Allowable Revenue Ke 123.47 130.04 136.96 298.07 313.94 330.65 Kd 6.85 7.21 7.59 16.53 17.41 18.33 Return on Rate base Real WACC*IOC 130.32 137.25 144.55 314.60 331.34 348.98 Operational Expenses (E) 56.87 59.88 63.06 136.83 144.08 151.71 Repairs and maintenance 2% 21.06 22.18 23.35 50.67 53.35 56.18 Total allowable revenue pre taxation allowance 208.25 219.31 230.96 502.09 528.77 556.87 Tax Allowance 50.68 53.37 56.21 122.34 128.86 135.71 Total allowable revenue including taxation allowance 258.92 272.68 287.17 624.44 657.63 692.59

% increase 5.3% 5.3% 5.3% 5.3% 5.3%

Computation of tax Gross-Up Total Allowable Rev enue pre tax allowance 208.25 219.31 230.96 502.09 528.77 556.87 Less :Operational Expenses (E) (77.93) (82.06) (86.41) (187.49) (197.43) (207.89) Income before interest and taxes 130.32 137.25 144.55 314.60 331.34 348.98 Income gross up for tax 180.99 190.62 200.76 436.94 460.20 484.69 Tax Component in income gross-up 50.68 53.37 56.21 122.34 128.86 135.71 Taxation Calculations Ass umpt ions Regulated Asset Base (RAB) WACC Allowable Revenue (AR)