Draft
Decision

Access Arrangement for the
Principal Transmission System

Application for Revision
by GPU GasNet Pty Ltd

23 December 1999

Commission File No:	Commissioners:	
	C1999/361	Fels	Shogren	
Code Registrar Application No:	Bhojani	Jones	
	GR9905	Cousins	Martin	

Contents
Contents	i
Abbreviations and glossary of terms	iii
Executive summary	v
System-wide benefits	v
Prudency of investment	vii
Level of the Interconnect zone tariff	vii
Tariff level and structure	vii
1.	Introduction	1
1.1	The current assessment process	2
1.2	Victorian and NSW gas industry structures and regulatory frameworks	2
1.3	Proposed revisions	4
1.4	Criteria for assessing proposed revisions	4
1.5	Consultative process	5
1.6	Draft decision	5
2.	Revisions proposed by GPU GasNet	9
2.1	Purpose of revisions	9
2.2	The Interconnect Assets	9
2.3	Impact on reference tariffs	10
2.4	Proposed cost allocation	11
2.5	Tariff methodology	12
2.6	Prudency of investment	12
2.7	System-wide benefits	13
3.	Relevant Code and access arrangement provisions	15
4.	Assessment of proposed revisions	19
4.1	Eligibility to submit revisions to the access arrangement	19
4.2	Prudent investment test	21
4.3	Economic feasibility test	22
4.4	System-wide benefits	23
4.4.1	Threshold level of system-wide benefits	23
4.4.2	Nature of system-wide benefits	24
4.4.3	Distribution of system-wide benefits	26
4.4.4	Motivation for investment	28
4.4.5	Temporal dimension of system-wide benefits	29
4.4.6	Commission’s overall assessment of system-wide benefits	29
4.5	Tariff structure	31
4.6	Recovery period	35
4.7	Operation and maintenance costs	37
4.8	Timing issues related to the tariff increase	37
4.8.1	Commencement of earnings on assets	37
4.8.2	Commencement of revisions	38
4.9	Other issues	38
4.9.1	Scope of the current review	38
4.9.2	Market carriage	40
4.9.3	Prior consultation on new facilities investment	42
5.	Draft decision	45
Appendix A:	Submissions	47

Abbreviations and glossary of terms
access arrangement	arrangement for access to a pipeline provided by a pipeline owner/operator that has been approved by the regulator	
AGUG	Australian Gas Users Group	
BHPP	BHP Petroleum Pty Ltd	
CAPM	capital asset pricing model	
Code	National Third Party Access Code for Natural Gas Pipeline Systems	
Commission	Australian Competition and Consumer Commission 	
covered pipeline	pipeline to which the provisions of the Code apply	
DEI	Duke Energy International 	
EAPL	East Australian Pipeline Ltd 	
EGP	Eastern Gas Pipeline	
GJ	gigajoule 	
GPAL	Gas Pipelines Access Law 	
Interconnect Assets	The Interconnect pipeline, the Springhurst compressor and valves	
Interconnect pipeline	The GPU GasNet section of the pipeline from Barnawartha (Victoria) to Culcairn (NSW).  	
IPART	Independent Pricing and Regulatory Tribunal	
MDQ	maximum daily quantity	
MMAP	Melbourne – Moomba augmentation program	
MSP	Moomba to Sydney Pipeline system	
NPV	net present value	
ORG	Office of the Regulator-General, Victoria	
PTS	Principal Transmission System	
PJ	petajoule (equal to 1 000 000 GJ)	
SWP	South West Pipeline	
TJ	terajoule (equal to 1 000 GJ)	
TPA	Transmission Pipelines Australia Pty Ltd	
Victorian Code	Victorian Third Party Access Code for Natural Gas Pipeline Systems	
VoLL	value of lost load	
WACC	weighted average cost of capital	

Executive summary
On 26 August 1999 GPU GasNet submitted revisions to the access arrangement for the Principal Transmission System (PTS) to the Commission for approval under the National Third Party Access Code for Natural Gas Pipeline Systems (the Code).  The objective of the revisions is to incorporate the Interconnect Assets in the regulated asset base of the PTS access arrangement, with some costs to be recouped from users of a new Interconnect zone, and the balance to be recovered through a higher reference tariff paid by all users of the PTS.  The current reference tariffs, approved by the Commission in December 1998, do not incorporate a return on these assets.  The extensions and expansions policy of the PTS obliges the service provider to submit revisions for approval for these and other augmentations to the PTS.
GPU GasNet acknowledges that these assets would not pass the Code’s economic feasibility test – they would be uneconomic if they were required to achieve a commercial return solely through directly charged tariffs.
The Code provides that such assets may be rolled-in to the regulated asset base provided that, in the regulator’s opinion, they generate system-wide benefits that justify a higher reference tariff for all users of the PTS.  The asset base would be increased by the actual capital cost incurred provided that the investment is prudent.  GPU GasNet considers that only eight per cent of the associated costs can reasonably be recovered through a tariff on the Interconnect zone, and proposes that the remainder be recovered from all users of the PTS.
The Commission agrees that the Interconnect Assets would not pass the economic feasibility test.  The core issues to be determined are:
•	do these assets generate system-wide benefits that justify a higher reference tariff for all users?
•	what part of the investment is prudent and so can be rolled-in?
•	how much of the prudent investment amount should be recovered through a tariff on the Interconnect zone (with the balance recovered by a higher reference tariff for all users)? and
•	how should the increase in the reference tariff be structured?
System-wide benefits
GPU GasNet has identified system-wide benefits in the form of enhanced system security benefits and enhanced competition benefits, which it considers are system-wide and benefit all users of the PTS.
The Commission has concluded that the Interconnect Assets provided substantial system security benefits during the Longford emergency and subsequently as part of winter 1999 system security planning.  While these benefits are now sunk, these periods demonstrated the potential for these assets to provide system security benefits.  The Commission is of the view that the Interconnect Assets provide substantial system security benefits on an on-going basis.
Following the Longford emergency, rationing was introduced, with gas supply curtailed to all users other than hospitals and nursing homes.  An issue raised has been whether the limitation of direct benefits in this instance to a small group of users meant that benefits were too narrowly focused to be considered system-wide.  Of relevance is that rationing was instituted pursuant to the Gas Safety Act, not as a result of any discriminatory aspect of the PTS access arrangement.  
The Commission does not interpret the Code to require that system-wide benefits would accrue equally and simultaneously to all users.  No realistic augmentation of the system could be expected to provide continued supply to all users in an emergency situation.  Rather, benefits should be available across the system, and potentially available to much of the customer base.
The Commission notes concerns by certain classes of users such as large industrial companies that they are most likely to have their supply curtailed first.  It also notes that many of these may have benefited in particular in the wake of the Longford emergency from the enhanced security provided by the Interconnect Assets against total system collapse as they would have had no realistic option over a period of months to connect to an alternative energy or feedstock supply.  
While the PTS access arrangement does not provide for any unequal distribution of system security benefits across classes of users, it appears likely that Victorian Government public policy objectives would determine the allocation of gas in a future supply emergency.  The Commission notes that the Victorian Government has already made a $2.2 million contribution to the cost of the Springhurst compressor and that there may be arguments for further explicit funding of public policy objectives.
The Commission’s assessment is forward-looking, and the issue is whether on-going system security benefits would be enjoyed on a system-wide basis.  As the commissioning of the Springhurst compressor substantially expanded the capacity of the Interconnect pipeline, sufficient capacity now exists to supply a wider group under emergency conditions.  It is noted that the Commission is required under the Code to consider the public interest when approving revisions to an access arrangement.  Continued supply to certain crucial services during an emergency may substantially contribute to the public interest. 
While enhanced competition benefits generated by the Interconnect Assets are difficult to quantify, the introduction of basin to basin supply competition in south east Australia has been, and continues to be, a major objective in gas market reform.  In February 1994 the Commonwealth, State and Territory governments made a commitment to achieve ‘free and fair trade in natural gas’.  The Victorian Government actively promoted the Interconnect pipeline to help achieve inter-basin trade in Victoria.  While gas flows were originally expected to be mainly northward, following the Longford emergency flows have been predominantly southward.  Indications are that, for the short-term, future flows will be mainly northward.  The planned commencement of operations of the Eastern Gas Pipeline by September 2000 would be expected to place competitive pressure on northern flows.  The Commission considers that enhanced competition benefits are substantial and are enjoyed across the system.
The Commission considers that the Interconnect Assets provide substantial system-wide benefits and that they pass the system-wide benefits test.
Prudency of investment
As noted earlier, the Interconnect Assets do not pass the economic feasibility test, as they would not generate a commercial return through direct charges on users.  For such assets, the prudency of investment is not determined by whether they would generate a commercial return.  The Commission understands that the criteria delineated in section 8.16(a) of the Code relate to the prudency of investment to achieve a given service standard, rather than the appropriateness of the service standard.  
The Commission has assessed the appropriateness and level of the Interconnect Assets investment to achieved specified service standards, taking into consideration the additional costs incurred following the Longford explosion to expedite operation before the winter of 1999.  The Commission’s assessment is that the investment to achieve the service standard was prudent.
Level of the Interconnect zone tariff
GPU GasNet considers that the appropriate tariff for the Interconnect zone is approximately $0.030/GJ, near the mid-point of forward-haul and back-haul rates charged by East Australia Pipeline Ltd (EAPL) on its section of the pipeline linking the PTS and the Moomba to Sydney Pipeline system (MSP).  This would be recovered by a new zonal (peak) tariff of $1.845/GJ. 
If the Interconnect zone tariff is set too low, insufficient direct revenue will be generated, and all users of the PTS will be required to pay higher charges than necessary.  Conversely, if the Interconnect zone tariff is set so high that little if any use is made of the Interconnect, recovery would need to be almost entirely from all users of the PTS.  The Commission considers that the proposed tariff for the Interconnect zone is reasonable.
Tariff level and structure
Under GPU GasNet’s proposal, 92 per cent of the cost of the Interconnect Assets would be recovered through a higher anytime tariff.  The Commission considers that recovery should be over the effective life of the assets (that is, GPU GasNet’s Option 3), which would result in an on-going increase in tariffs averaging approximately ten per cent.
The Commission considers that GPU GasNet’s proposal that these costs should be recovered by an equal increase in tariffs to all users of $0.0303/GJ, based on the premise that system-wide benefits are enjoyed equally by all users in proportion to their use of the system, is reasonable.
The Commission proposes to accept the revisions proposed by GPU GasNet when adjusted to reflect minor variations to the reference tariff that reflect the timing of implementation.  

1.	Introduction
On 26 August 1999 GPU GasNet Pty Limited (GPU GasNet) submitted to the Australian Competition and Consumer Commission (the Commission), for approval under the National Third Party Access Code for Natural Gas Pipelines Systems (the Code), revisions to the access arrangement for the Victorian Principal Transmission System (PTS) and associated supplementary access arrangement information.
An access arrangement describes the terms and conditions on which a service provider makes access to its pipeline available to third parties.  The Commission’s assessment of the proposed revisions to the access arrangement is being conducted in accordance within the requirements set out in the Code and is based on information provided by GPU GasNet and interested parties.
The Commission issued its final approval for the PTS access arrangement on 16 December 1998.  At that stage the system was owned and operated by Transmission Pipelines Australia (Assets) Pty Ltd and Transmission Pipelines Australia Pty Ltd respectively.  The access arrangement came into effect on 15 March 1999.  GPU GasNet acquired the PTS on 2 June 1999.  The access arrangement as approved by the Commission continues to apply to the system now owned and operated by GPU GasNet.
GPU GasNet proposes to expand the capital base of the PTS, and to amend the PTS reference tariffs, to take account of what it refers to as the Interconnect Assets, on the basis that they pass the Code’s system-wide benefits test. These assets are the Interconnect pipeline that extends from Barnawartha (Victoria) to Culcairn (NSW), linking the Victorian and NSW gas transmission systems; the Springhurst compressor; and associated valves.  While the Interconnect pipeline was commissioned in July 1998 prior to the Victorian Final Decision, the remaining Interconnect Assets were commissioned after the approval of the PTS access arrangement. 
This document sets out the Commission’s draft decision that it proposes to approve the revisions to the PTS access arrangement and permit the costs of the Interconnect Assets to be recovered over the remaining life of those assets pursuant to section 2.35(a) of the Code. 
This introduction includes:
•	a description of the current assessment process;
•	a description of relevant aspects of the Victorian and NSW gas industry structures and regulatory frameworks;
•	an outline of the GPU GasNet revisions submitted for approval;
•	a summary of the criteria for assessing revisions to an access arrangement under the Code;
•	a summary of the consultative process undertaken as part of the Commission’s assessment; and
•	the Commission’s draft decision, and an outline of the process required to be undertaken before the release of a final decision.
1.1	The current assessment process
Under the Code the Commission is required to:
•	inform interested parties that it has received proposed revisions to the PTS access arrangement from GPU GasNet; 
•	publish a notice in a national daily newspaper which at least describes the covered pipeline to which the access arrangement relates; states how copies of the documents may be obtained; and requests submissions by a date specified in the notice;
•	after considering submissions received, issue a draft decision which either proposes to approve the revisions to the access arrangement or not to approve the revisions and state the amendments (or nature of the amendments) which have to be made to the revisions in order for the Commission to approve them.  Submissions will be sought again following release of the Commission’s draft decision;
•	after considering any additional submissions and amended revisions to the access arrangement (if submitted), issue a final decision that it either approves or does not approve the revisions (or amended revisions) and states the amendments (or nature of the amendments) which have to be made to the revisions (or amended revisions) in order for the Commission to approve them; and
•	if the amendments are satisfactorily incorporated in amended revisions, issue a final approval.  
1.2	Victorian and NSW gas industry structures and regulatory frameworks
Relevant aspects of the Victorian and NSW gas industry structures include:
•	GPU GasNet operates the PTS in Victoria which has until recently solely transported gas supplied from the Esso-BHP fields in the Gippsland Basin; 
•	East Australian Pipeline Ltd (EAPL) operates the Moomba-Sydney Pipeline (MSP) in NSW which has until recently solely transported gas supplied by the Cooper Basin producers in South Australia; 
•	GPU GasNet and EAPL operate the Interconnect pipeline, which has linked the PTS and MSP since 1998.  GPU GasNet owns and operates the section from Barnawartha to Culcairn and EAPL own the remainder from Culcairn to Wagga Wagga; and
•	Duke Energy International (DEI) is in the process of constructing the Eastern Gas Pipeline (EGP) along the east coast of Victoria and NSW to supply Gippsland Basin gas to customers in NSW. 
The main legislation and relevant documents regulating access to the Victorian and NSW gas transmission industries are: 
•	the Code, under which transmission service providers are required to submit access arrangements to the Commission for approval;
•	the Gas Pipelines Access (South Australia) Act 1997;  
•	the Gas Pipelines Access (Victoria) Act 1998; and
•	the Gas Pipelines Access (New South Wales) Act 1998. 
In addition, certain provisions of the Victorian Third Party Access Code for Natural Gas Pipeline Systems (the Victorian Code) under which the Commission approved the PTS access arrangement in December 1998 have been ‘grandfathered’.  Sub-section 24A(3) of the Gas Industry Acts (Amendment) Act 1998 provides that access arrangements approved under the Victorian code continue to be subject to sections 3, 8 and 9 (so far as it applies to sections 3 and 8) and to sections 2.33 and 2.48A of the Victorian Code.  These sections are not subject to the corresponding provisions of the Code until the first scheduled review of the access arrangements under section 2 of the Code.   
One relevant implication of these transitional arrangements is that section 3.8 of the Code, which would otherwise require a notice from the NSW Minister for Energy permitting the Victoria-NSW border to Culcairn (NSW) section of the Interconnect pipeline to operate as a market carriage pipeline, does not apply. 
The Code and appeals bodies in Victoria and NSW with respect to transmission pipelines are:
•	the Commission - regulator and arbitrator;  
•	the National Competition Council - Code advisory body;
•	the Commonwealth Minister - coverage decision maker;
•	the Federal Court – judicial review; and
•	the Australian Competition Tribunal – administrative appeal.
1.3	Proposed revisions
GPU GasNet has proposed revisions under its extensions and expansions policy to incorporate the Interconnect Assets (which are described in chapter 2) in the PTS access arrangement.  
A new Interconnect zone is proposed by GPU GasNet with the PTS capital base expanded to include the Interconnect Assets.
As incremental revenue from the Interconnect Assets is only expected to cover a small part of the costs associated with these assets, reference tariffs for all users of the PTS are proposed to be increased to recoup the balance of the capital and non-capital costs associated with these assets.  
1.4	Criteria for assessing proposed revisions
The Commission may approve revisions to an access arrangement only if it is satisfied that the access arrangement as revised would contain the elements and satisfy the principles set out in sections 3.1 to 3.20 of the Code, which are summarised below.  Revisions to an access arrangement cannot be opposed solely on the basis that the access arrangement as revised would not address a matter that section 3 of the Code does not require it to address.  Subject to this, the Commission has a broad discretion in accepting or opposing revisions to an access arrangement.  
An access arrangement, or a revised access arrangement, must include the following elements:
•	a policy on the service or services to be offered which includes a description of the service(s) to be offered; 
•	a reference tariff policy and one or more reference tariffs.  A reference tariff operates as a benchmark tariff for a particular service and provides users with a right of access to the specific service at the specific tariff.  Tariffs must be determined according to the reference tariff principles in section 8 of the Code; 
•	terms and conditions on which the service provider will supply each reference service; 
•	a statement of whether a contract carriage or market carriage capacity management policy is applicable; 
•	a trading policy that enables a user to trade its right to obtain a service (on a contract carriage pipeline) to another person; 
•	a queuing policy to determine users’ priorities in obtaining access to spare and developable capacity on a pipeline; 
•	an extensions/expansions policy to determine the treatment of an extension or expansion of a pipeline under the Code; 
•	a date by which revisions to the arrangement must be submitted; and 
•	a date by which the revisions are intended to commence.  
In considering whether a revised access arrangement complies with the Code, the Commission must take into account the provisions of the access arrangement, and, pursuant to section 2.24 of the Code, the following factors:  
•	the legitimate business interests and investment of the service provider;
•	firm and binding contractual obligations of the service provider or other persons (or both) already using the covered pipeline;
•	the operational and technical requirements necessary for the safe and reliable operation of the covered pipeline;
•	the economically efficient operation of the covered pipeline;
•	the public interest, including the public interest in having competition in markets (whether or not in Australia);
•	the interests of users and prospective users; and
•	any other matters that the Commission considers are relevant.  
1.5	Consultative process
Pursuant to the requirements of the Code, in September 1999 the Commission published a notice in a national newspaper and informed interested parties that it had received GPU GasNet’s proposed revisions to the PTS access arrangement and invited submissions from interested parties.  In addition, in order to help foster the consultative process, the Commission released an Issues Paper in September 1999.
The majority of submissions received from interested parties recommended that the Commission not approve revisions to the access arrangement that would result in higher reference tariffs.  While other parties considered that increases to the reference tariffs should be approved, variations from the GPU GasNet proposal were suggested in terms of quantum, distribution and timing.  Three cost recovery options have been proposed by GPU GasNet and the third option, recovery of costs over the remaining economic life of the assets, is preferred by most interested parties to both options 1 and 2.  
1.6	Draft decision
The Commission has now made a draft decision under section 2.35(a) of the Code that it proposes to approve the revisions to the PTS access arrangement and permit the costs of the Interconnect Assets to be recovered over the remaining life of those assets.  
The Commission is seeking submissions from interested parties on the Commission’s draft decision on the revisions to the PTS access arrangement.  All submissions must be in writing and should also be supplied in electronic format compatible with Microsoft Word 97 for Windows.  They will be made publicly available and placed on public registers held by the Commission and the Code Registrar.  Any information considered to be of a confidential nature should be clearly marked as such, and the reasons for seeking confidentiality should be provided.  Under the terms of the Code, the Commission must not disclose such information unless it is of the opinion that disclosure would not be unduly harmful to the legitimate business interests of the service provider, a user or a prospective user.  All submissions must be delivered to the Commission by 4 February 2000 and should be addressed to:
Mr Mark Pearson
General Manager
Regulatory Affairs – Gas
Australian Competition and Consumer Commission
PO Box 1199
Dickson    ACT    2602
Copies of the proposed revisions to the access arrangement and the supplementary access arrangement information are available from the Commission’s website at http://www.accc.gov.au (under ‘Gas’).  Copies of these documents may also be obtained from the Commission by contacting Ms Katarina Glavinic (phone 02 6243 1274, fax 02 6243 1202, e-mail katarina.glavinic@accc.gov.au).  There is a $5 fee for discs and a $20 fee for photocopies.  Requests for photocopies may also be directed to the Code Registrar (Level 19, Wakefield House, 30 Wakefield Street, Adelaide 5000; phone 08 8226 5786, fax 08 8226 5866); fees applicable will be according to the Code Registrar’s determination.  Copies of the Commission’s Issues Paper and Draft Decision are available from its website and from Ms Glavinic.
Requests for hard copies of submissions lodged by interested parties should be directed to Ms Hoa Nugent at the Commission (phone 02 6243 1017, fax 02 6243 1199, e-mail hoa.nugent@accc.gov.au) or to the Code Registrar (phone 08 8226 5786, fax 08 8226 5866).  While submissions may be inspected free of charge, a fee is payable for copies.  
Any inquiries on this matter should be directed to the project manager, Mr Michael Walsh (phone 02 9230 9156, fax 02 9231 5652, e-mail michael.walsh@accc.gov.au).
Final decision
After considering submissions and any amended revisions to the access arrangement submitted by the service provider, the Commission must issue a final decision (pursuant to section 2.38 of the Code) which:
(a)	approves the revisions to the access arrangement; or
(b)	does not approve the revisions to the access arrangement or amended revisions to the access arrangement and (pursuant to section 7.7) provides reasons why it does not approve the (amended) revisions and states the amendments (or nature of the amendments) which would have to be made to the (amended) revisions in order for the Commission to approve the revised access arrangement and the date by which amended revisions must be submitted; or
(c)	approves amended revisions to the access arrangement.
In the event that the Commission issues a final decision (pursuant to section 2.38(b) of the Code) which does not approve the proposed revisions, section 2.40 of the Code requires the service provider to submit amended revisions to the Commission for consideration if the proposed revisions were proposed as required by the access arrangement.
If the service provider does not submit amended revisions by the required date, or does so and the Commission is not satisfied they incorporate amendments specified in the final decision, the Commission must draft and approve its own revisions to the access arrangement (section 2.42 of the Code).  Such a decision is subject to merits review by the Australian Competition Tribunal under the Gas Pipelines Access Law. 
The remainder of this Draft Decision comprises: the revisions proposed by GPU GasNet (chapter 2); relevant Code provisions (chapter 3); assessment of the proposed revisions (chapter 4); and chapter 5 sets out the Commission’s draft decision.  

2.	Revisions proposed by GPU GasNet
2.1	Purpose of revisions
GPU GasNet has proposed revisions under its extensions and expansions policy to incorporate the Interconnect Assets, which are described below, in the PTS access arrangement.  
A new Interconnect zone is proposed by GPU GasNet with the PTS capital base expanded to include the Interconnect Assets.  As incremental revenue from the Interconnect Assets is only expected to cover a small part of the costs associated with these assets, reference tariffs for all users of the PTS are proposed to be increased to recoup the balance of the Interconnect Assets’ capital and non-capital costs.  
The date proposed by GPU GasNet for the commencement of the revised reference tariffs is 1 January 2000.
2.2	The Interconnect Assets
These assets comprise:
•	the Interconnect pipeline, which is a gas transmission pipeline approximately 63 km long linking the PTS in Victoria with the MSP system owned by EAPL in NSW.  The Interconnect pipeline was commissioned in July 1998, at a capital cost to GPU GasNet of $19.5 million; 
•	the Springhurst compressor, which is a gas compressor station on the PTS, located at Springhurst, Victoria (approximately 20 km south of the Interconnect pipeline).  Its capital cost for regulatory purposes was $16.5 million; and
•	three remotely operated regulators and an automated valve, which manage flows associated with the Interconnect pipeline through the PTS.  The total capital cost for the valves was $4.4 million. 
The Springhurst compressor and valves were installed as part of the Melbourne-Moomba Augmentation Program (MMAP) in the wake of the Longhurst emergency.  The balance of the MMAP assets (which cost approximately $60 million) is not part of the current review.  
2.3	Impact on reference tariffs
Incremental revenue from the Interconnect Assets is expected to cover eight per cent of their capital costs.  GPU GasNet proposes to roll-in the remaining 92 per cent to the capital base to be recovered from all users of the PTS.  Associated operating costs would also be recovered from all users.  These proposals are based on GPU GasNet’s claim that the assets provide system-wide benefits.  The proposed revisions to the reference tariffs comprise:
•	a new Interconnect zone, with a new zonal (peak) tariff of $1.845/GJ; and
•	an increase in the anytime volume charge applying to each existing zone. 
The table below presents three options proposed by GPU GasNet for 1999 anytime tariffs, which would form the base for tariffs, charged in 2000.  The three options are described in section 2.4 below.
Table 2.1:	Proposed anytime reference tariffs 1999(a) ($/GJ)
Zone no.	Transmission zone	Existing	Option 1(b)	Option 2(c)	Option 3(d)	
Transmission delivery tariffs D and V	
1	La Trobe	0.053	0.2855	0.1361	0.0833	
3	Lurgi	0.131	0.3635	0.2141	0.1613	
4	Metro	0.079	0.3115	0.1621	0.1093	
5	Calder	0.262	0.4945	0.3451	0.2923	
6	South Hume	0.106	0.3385	0.1891	0.1363	
7	Echuca	0.254	0.4865	0.3371	0.2843	
8	North Hume	0.229	0.4615	0.3121	0.2593	
Transmission pipeline supply point tariffs	
1	Carisbrook	0.286	0.5185	0.3691	0.3163	
2	Chiltern Valley	0.214	0.4465	0.2971	0.2443	
Source:	GPU GasNet application, Annexure 2.
Note:     (a) The proposed 1999 tariffs would not be implemented but would form the base for 2000 tariffs. 
(b) Cost recovery over 12 months. 
(c) Cost recovery over the remaining access arrangement period. 
(d) Cost recovery over the remaining economic life of the assets.  
GPU GasNet does not propose to provide a back-haul service on the Interconnect zone as physical flows are expected to be approximately equal in both directions.  The proposed zonal tariff is set approximately halfway between EAPL’s published distance-based forward haul and back-haul tariffs for the MSP (for an 80 per cent load factor customer).
No changes are proposed to the peak demand, peak volume and injection charge components of the existing tariffs.  GPU GasNet has proposed three alternative options for the revised anytime period charge, which are shown in the table above. 
2.4	Proposed cost allocation 
GPU GasNet considers it appropriate that the Interconnect pipeline zonal charge recovers eight per cent ($1.6 million) of the capital cost of the Interconnect pipeline.  The remaining costs, which include all operating and maintenance costs, the capital cost of the Springhurst compressor and valves, and the residual 92 per cent of the capital cost of the Interconnect pipeline, would be treated as common costs, and be recovered by an equal increase in the transmission volume tariff component for all users on the PTS.  
Table 2.1 above shows the existing proposed anytime tariffs for 1999 and the proposed tariffs for each zone under three options.  Tariffs would be increased by the same amount for each zone.  The proposed increases are $0.2325/GJ, $0.0831/GJ and $0.0303/GJ respectively under Option 1, Option 2 and Option 3.  The percentage increases would vary considerably across the zones, with La Trobe and Metro experiencing the largest proportionate increases.
GPU GasNet states that the proposed method of cost allocation is based on the premise that the system-wide benefits are enjoyed equally by all users, in proportion to their use of the system, and are not dependent on the location of withdrawals, nor on the level of peak demand of each user.  On this basis GPU GasNet contends that it is most equitable to allocate the costs as a fixed charge per GJ of usage, in the same manner that indirect, non-locational costs are allocated within the PTS tariff methodology.
The three tariff options shown above reflect GPU GasNet’s proposal that three periods should be considered by the Commission regarding the recovery of costs of the Interconnect Assets:
•	Option 1: recovery of capital costs in one year (2000); 
•	Option 2: recovery of capital costs over the remainder of the initial access arrangement period (2000 to 2002 inclusive); or
•	Option 3: recovery of capital costs over the remaining economic life of the assets. 
Option 1 would result in a one year price spike with revenues (and hence average tariffs) increasing by approximately 76 per cent.  While GPU GasNet acknowledges that this option is not likely to be favoured by users, the service provider considers that it would reflect the immediate system security benefits relating to critical support during the gas supply emergency in 1998 and security against uncertainty of supply in the winter of 1999.  
Option 2 would result in an increase of approximately 27 per cent for the last three years of the initial access arrangement period.  
The increase of approximately ten per cent under Option 3 would be for the remaining life of the assets. 
GPU GasNet expects to earn the same additional revenue in present value terms under each option. 
2.5	Tariff methodology
GPU GasNet states that the broad principles and parameters underlying its reference tariff calculations are the same as those used in the PTS access arrangement.  These include:
•	pre-tax real WACC of 7.75 per cent; 
•	CPI annual escalation rate of 2.5 per cent; and
•	forecast volumes as used in the existing tariff model.  GPU GasNet states that this preserves the original intent of the incentive based regulation despite changed perceptions since the approval of the PTS access arrangement. 
GPU GasNet states that the proposed tariffs have been calculated under the net present value (NPV) approach as referred to in the Code.  This methodology has been used to determine tariffs in the existing zones of the PTS.  In broad terms this method aims to equate the NPV of the revenue requirement over the first access arrangement period with the NPV of the forecast revenues (where the annual revenue requirement is determined by the cost of service model based on the assumed depreciation profile).  
2.6	Prudency of investment
GPU GasNet asserts that the Interconnect Assets meet the requirement of section 8.16(a) of the Code of a prudent investment.  It refers to each of the three assets in turn, indicating that in its view each is a prudent investment.  
Interconnect pipeline
The Interconnect pipeline was largely constructed by EAPL with costs apportioned between the two parties according to the ownership of the pipeline.  The total cost to GPU GasNet was $19.5 million with charges from EAPL totalling $18.3 million.  Although benchmarking of pipeline construction can be difficult, GPU GasNet suggests that indicative construction costs for a 450 mm pipeline are $360.metre.  The construction cost of the Interconnect pipeline was $312/metre.  
Springhurst compressor
According to GPU GasNet, the circumstances surrounding the construction of the Springhurst compressor make it difficult to benchmark the costs incurred.  While a compressor may normally take 18 months or more to complete, the Springhurst compressor was built in five months.  Although additional costs were incurred as a result of the fast-tracking of this project, estimated to be between 15 and 20 per cent of the total $18.7 million cost, GPU GasNet provided independent advice that these costs were not excessive. 
Valves
The valves required for the operation of the Interconnect pipeline and Springhurst compressor were also built in a shorter time frame than would normally be expected.  However, GPU GasNet used a competitive tendering process in both the purchase and construction of these facilities to control costs.  
2.7	System-wide benefits
GPU GasNet states that the Interconnect Assets do not pass the economic feasibility test, which would allow users to be charged the existing reference tariff.  However, GPU GasNet claims that the assets do pass the system-wide benefits test set out in clause 5.7.2(c)(1) of the PTS access arrangement.  Consequently, GPU GasNet has proposed that the Interconnect Assets be included in the PTS capital base and that all users of the PTS be charged higher tariffs.  The system-wide benefits identified by GPU GasNet are discussed below. 
System security benefits
GPU GasNet states that the assets have provided (and continue to provide) enhanced system security to all users of the PTS by enabling gas sourced from the Cooper Basin to flow south into Victoria.  This added security was provided during the gas supply emergency in Victoria following the explosion at the Longford plant in September 1998.  GPU GasNet states that flows through the Interconnect pipeline allowed critical loads such as nursing homes and hospitals not to be curtailed and helped avoid the risk of a total system collapse.  Interconnect flows subsequently ‘formed a key element of Victoria’s planning for dealing with a supply shortage in the event that Gas Plant No. 1 at Longford did not provide uninterrupted supply’.  GPU GasNet further notes that over the long term the assets will provide an additional source of gas which would mitigate the impact of gas supply emergencies and avoid other unplanned curtailments.
Competition benefits
GPU GasNet states that the Interconnect Assets have enabled ‘basin on basin’ competition for the first time in both Victoria and NSW.  In connecting two markets that were previously isolated, the Interconnect Assets enable Cooper Basin gas to be sold into Victoria and Bass Strait gas into NSW.  
Continuation of system-wide benefits
GPU GasNet contends that the system-wide benefits provided to users of the PTS by the Interconnect Assets would be largely undiminished by the expected commencement of operations by DEI’s EGP after the winter of 2000.  The EGP is designed primarily to ship gas northwards from Bass Strait to Wilton in NSW.  GPU GasNet states that it is unaware of any intention by DEI to connect the EGP to the PTS, or to configure its Longford compressor for southward flows.  
GPU GasNet states that even with the necessary connection and compression, the EGP would provide limited system security to Victorian users.  In particular, the available capacity of the MSP would be lower for deliveries from Moomba through Wilton (to the EGP) than through Young (to the Interconnect).  Relevant factors include the longer transportation distance to Wilton and that the prevailing demand in Sydney has a greater impact on the capacity to Wilton.  
GPU GasNet considers that the greater distance from Moomba to Melbourne via Wilton and Longford (2 220 km) compared with the Interconnect pipeline (1 570 km) might be an important issue in an emergency because of the time taken to deliver gas.  A further point made by GPU GasNet is that the EGP would inject at Longford (if a connection were available) and could not provide system security if there was a failure of the main supply pipeline from Longford into Melbourne. 

3.	Relevant Code and access arrangement provisions
Chapter 1 of this Draft Decision outlined Code criteria and processes that the Commission must follow when reviewing revisions to an access arrangement that would result in changes to the reference tariffs.  This chapter identifies sections of the Code and provisions of the PTS access arrangement which are specifically relevant to the revisions proposed by GPU GasNet.  Chapter 4 provides the Commission’s assessment of the proposed revisions taking into consideration information and submissions by GPU GasNet and interested parties.
New facilities investment
Section 8.15 of the Code allows for the capital cost of new facilities investment to be incorporated into the capital base at the start of a new access arrangement period in recognition of costs incurred in the provision of services.  
Pursuant to section 8.16(a), the amount by which the capital base can be increased is the actual capital cost of the investment provided that the investment is prudent.  That is, it does not exceed the amount that would be invested by a prudent service provider acting efficiently, in accordance with accepted good industry practice, and to achieve the lowest sustainable cost of delivering services.  This is the ‘prudent investment’ test.  
In addition, the new facilities investment must meet one of the following conditions: 
•	anticipated incremental revenue is expected to exceed the cost of the investment (the ‘economic feasibility’ test); 
•	the regulator is satisfied that the new facility generates system-wide benefits that justify a higher reference tariff for all users; or
•	the new facility is necessary to maintain the safety, integrity or contracted capacity of services.  
GPU GasNet submits that its new facilities investment satisfies the system-wide benefits test (section 8.16(b)(ii) of the Code).
In assessing the prudency of an investment, the regulator must consider factors such as economies of scale, the increments with which capacity can be added, and the matching of forecast demand and capacity over a reasonable time frame to achieve the lowest sustainable cost of delivering services (see section 8.17 of the Code).
The Code allows an access arrangement to provide that the service provider may undertake new facilities investment that does not satisfy section 8.16.  If this is the case, the capital base may be increased by that part of the investment that does satisfy section 8.16 (the recoverable portion).  Section 8.19 allows an access arrangement to provide that the balance of the investment may be placed in a speculative investment fund, of which any part may subsequently be included in the capital base provided section 8.16 is satisfied. 
Capital contributions and surcharges
A capital contribution or a surcharge from users of a new facility can recover any part of the balance that does not meet all the criteria in section 8.16 of the Code.  It is explicitly noted, in section 8.23 of the Code which relates to capital contributions, that nothing in the Code prevents a user from agreeing to pay a charge higher than the reference tariff ‘… in any circumstance including, without limitation, if the excess is paid in respect of funding a New Facility’.  Sections 8.25 and 8.26 deal with surcharges that may be levied on users of incremental capacity to recover some or all of the costs that cannot be recovered at the prevailing tariffs.  The portion of the new facilities investment to be recovered by a surcharge must meet the prudent investment test of the Code.  
Extensions/expansions policy
Under section 3.16 of the Code an access arrangement is required to contain an extensions/expansions policy.  The Commission has previously assessed the extensions/expansions policy in the PTS access arrangement.  The revisions proposed by GPU GasNet must comply with this policy in addition to the above mentioned provisions of the Code.  
Clause 5.7.1 of the PTS access arrangement extensions/expansions policy provides that, in general, an extension or expansion to the PTS will be covered by the access arrangement.  Clause 5.7.1(c) provides that GPU GasNet may exclude certain extensions (significant extensions) from coverage.  While the Interconnect pipeline may appear to meet the requirements of a significant extension according to the policy, clause 5.7.1(f) specifically provides that GPU GasNet will seek to include the Interconnect pipeline in the PTS access arrangement.  
New facilities investment that passes the economic feasibility test is able to be included in the capital base and existing reference tariffs are applied (clause 5.7.2(a)).  New facilities investment that does not meet the economic feasibility test can be recovered under clause 5.7.2(b) of the PTS access arrangement.  The portion of the investment that meets the economic feasibility test can be recovered by the existing reference tariffs.  The remaining portion can be either: 
•	recovered by a surcharge under section 8.25 of the Code; 
•	recovered by a capital contribution; 
•	included in a speculative investment fund; or
•	any combination of these options. 
Clause 5.7.2(c) of the PTS access arrangement provides that new facilities investment that does not pass the economic feasibility test may be recovered outside the standard procedure.  This may occur where either: the regulator is satisfied that the new facility generates system-wide benefits that justify a higher reference tariff for all users; or the new facility is necessary to maintain the safety, integrity or contracted capacity of services.  
As noted earlier, GPU GasNet submits that its new facilities investment of the Interconnect Assets satisfies the system-wide benefits test (section 8.16(b)(ii) of the Code and clause 5.7.2(c)(1) of the PTS access arrangement).  

4.	Assessment of proposed revisions
This chapter provides the Commission’s assessment of the proposed revisions in terms of the Code requirements as outlined in the previous chapter, taking into consideration information and submissions from GPU GasNet and interested parties.
4.1	Eligibility to submit revisions to the access arrangement
The first question to consider in the assessment of the revisions to the PTS access arrangement is whether GPU GasNet is eligible to seek these particular revisions.  
Submissions
A number of parties noted that the Interconnect Assets existed at the time of privatisation of the PTS and questioned whether an associated increase in tariffs would amount to double counting.  Some have contended that the proposed revisions should be rejected in their entirety.  For example, the Australian Gas Users Group (AGUG) stated:
The facilities in question were already in place when GPU acquired the Victorian Principal Transmission System earlier this year from the Victorian Government.  They would thereby have been allowed for in the purchase price paid for the assets and the purchaser’s assessment of the value of the revenue stream in existence at that time. 
United Energy Ltd (United Energy) raised concerns that revisions to the access arrangement would create uncertainty and are inconsistent with representations made to purchasers of the Victorian gas businesses.  In particular, that tariffs for the Interconnect pipeline would be based on flows into northern Victoria and that the Interconnect pipeline would also provide an opportunity to sell gas into NSW.  United Energy states that:
When the Energy Partnership purchased Ikon Energy (managed by United Energy), it was on the basis that the Access Arrangement for the PTS would remain stable, at least until full contestability.  This stability should be honoured.
GPU GasNet has rejected these arguments.  In its responding submission, GPU GasNet states that the assumptions it made in purchasing TPA are irrelevant to the level of tariffs that may be charged.  GPU GasNet suggests that if TPA were entitled to seek revisions to the access arrangement then it should also be entitled to seek roll-in of the Interconnect Assets.  It concludes that: 
GPU acquired the TPA business as a going concern in circumstances where TPA had intended to make, but had deferred pending privatisation, a roll-in application for the Interconnect Assets.  GPU was aware of this and acquired the TPA business on the assumption that a roll-in application would be lodged.  
Commission’s considerations
The Commission notes the regulatory environment in the Victorian natural gas transportation and supply industries is still comparatively novel and that the distinction between commercial and regulatory processes and values is not clear to all market participants.  The Commission considers it important that participants are aware of the background to the regulatory process.  Key points include:
•	the reference tariffs approved by the Commission in December 1998 were based on the capital and non-capital costs of the PTS as at the time of the approval process and did not include the Interconnect Assets;
•	the extensions/expansions policy of the PTS access arrangement as approved specifically requires that the Interconnect pipeline will be covered by the PTS access arrangement.  It also generally requires that other extensions and expansions will be covered.  The Code and the access arrangement provide the framework for determining how revisions would be incorporated into the regulatory asset base.  Contrary to the suggestions of some interested parties, GPU GasNet does not have the option of keeping the Interconnect pipeline as ‘an entrepreneurial asset outside the regulated’ regime; and
•	the PTS access arrangement as approved continued in force after GPU GasNet’s purchase of the PTS on 2 June 1999.  Accordingly, GPU GasNet assumed the obligation to seek incorporation of the Interconnect pipeline in the regulatory asset base and the entitlement to propose revised reference tariffs.
The Commission notes comments by United Energy relating to representations made during the PTS sale process, including the basis on which tariffs were set and that the Interconnect pipeline would provide an opportunity to sell gas into NSW.  
While the Commission is not aware of the specific representations to which United Energy refers, they appear consistent with the fact that gas flows associated with the Interconnect pipeline were incorporated in demand forecasts underpinning the PTS access arrangement.  
As noted earlier, costs and revenues associated with the Interconnect pipeline were not incorporated in the PTS access arrangement at the time of the initial assessment.  Rather, the access arrangement provided for future inclusion through the revisions approval procedure that is currently underway.  In particular, clause 5.7.1(a) provides that all extensions (in this instance, the Springhurst compressor and valves) are to be covered by the access arrangement.  In addition, clause 5.7.1(f) specifically requires the Interconnect pipeline to be incorporated in the access arrangement.  Accordingly, the Commission is of the view that GPU GasNet is entitled to, and in fact must, propose revisions relating to the Interconnect Assets. 
4.2	Prudent investment test
As noted in the previous chapter of this Draft Decision, a new facilities investment must satisfy the prudent investment test in section 8.16(a) of the Code.  That is, the investment must not exceed that which would be invested by a prudent service provider acting efficiently, and in accordance with accepted good industry practice.  
Submissions
The Commission received submissions from interested parties that questioned the prudency of the Interconnect Assets investment.  GasAdvice Pty Ltd (GasAdvice) comments:
In relation to the first point [prudency of the investment], it is not generally accepted good industry practice for a pipeline company to build a pipeline and then afterwards hope to secure customers for that pipeline.  Generally, one would anticipate at least a reasonable proportion of the capacity of the pipeline to have been contracted prior to construction.  Notwithstanding what one might anticipate as being general industry practice, if a pipeline company is prepared to commit capital to a pipeline development in advance of securing an economic customer load then it does so fully accepting any risk associated with non-contracted capacity. 
Similarly, BHP Petroleum Pty Ltd (BHPP) questioned whether the Interconnect Assets investment was prudent.  It referred to various excerpts from GPU GasNet’s application regarding the incremental capacity of the PTS attributable to the Interconnect Assets and concludes:  
These extracts appear to demonstrate that the investment that GPU seeks to roll-in far exceeds what would have been required to deliver the system security benefits that have been observed, and that the perceived competition benefits could have been achieved with a significantly smaller investment.  If, for example, the peak flow delivered during a time of true need was 44 TJ, can investments made to increase capacity to more than double that amount be justified on the basis of system security?  That same benefit could have been provided with significantly less investment.  Further, if competition benefits are effectively “delinked” from physical capacity, could the same competition benefits have been achieved with significantly less investment?  It therefore appears questionable that the amount GPU seeks to include in the capital base passes the 8.16(a) test. 
GPU GasNet has stated that it: 
….. considers that a daily capacity of 92TJ, which is approximately 10% of the Victorian winter demand (and 20% of the Victorian summer demand), represents a reasonable level of capacity from an Interconnect which is intended to introduce competition and to provide a system security reserve. 
Commission’s considerations
The Commission understands that the criteria delineated in section 8.16(a) of the Code relate to the prudency of investment to achieve a given service standard, rather than the appropriateness of the service standard. 
The Commission has assessed the appropriateness and level of the Interconnect Assets investment to achieved specified service standards, taking into consideration the additional costs incurred following the Longford explosion to expedite operation before the winter of 1999.  The Commission’s assessment is that the investment to achieve the service standard was prudent.
4.3	Economic feasibility test
Once the degree of compliance with the prudent investment test is determined, the Commission must turn to whether the new facilities investment meets the economic feasibility test.  In this instance, GPU GasNet has stated that the Interconnect Assets fail to satisfy the economic feasibility test and, consequently, this is not the basis upon which the roll-in of the Interconnect Assets costs is sought.  
Submissions
Although GPU GasNet has clearly stated that the Interconnect Assets do not, in its view, meet the economic feasibility test, the Commission did receive submissions on this issue.  Interested parties questioned the reasonableness of including investments in the asset base that do not pass the economic feasibility test.  
United Energy states:
United Energy unequivocally opposes the application by GPU GasNet to incorporate the Interconnect assets into the capital base of the PTS, thereby coming under the PTS Access Arrangement, with the consequent adjustment of PTS tariffs.  If GPU GasNet is allowed to do this, even though the investment would not pass the economic feasibility test for roll-in, a precedent will be set whereby a regulated entity is able to protect the value of assets coming under threat of competition (in this case from the Duke Energy Eastern Gas Pipeline).  This will send an inappropriate message to the market place for entrepreneurial investment in the future, encouraging the owners of potentially stranded assets to seek roll-in to finance investment mistakes. 
GasAdvice asserts that while the Interconnect pipeline was ‘clearly aiming to promote and encourage competition, the investment was clearly sub-economic’.  It suggests that if only eight per cent of the cost of the investment can be recovered through the new Interconnect zonal tariff then the remaining 92 per cent of costs are sub-economic and could be considered as speculative in nature.  
In contrast, AGL notes:
GPU GasNet has acknowledged that the Interconnect does not pass the economic feasibility test in the Code and therefore it is not surprising that incremental revenue for the Interconnect is expected to cover 8% of the capital cost (of the Interconnect) with the remaining 92% to be recovered from all users of the Principal Transmission System. 
However given that approval to roll-in the Interconnect to the GPU GasNet Capital Base is being sought in accordance with the Code on the basis of passing the system-wide benefits test, then any argument raised that the Interconnect is sub-economic (or indeed speculative) and therefore its roll-in to the GPU GasNet Capital Base should not be allowed is irrelevant and should be dismissed by the Commission. 
Commission’s considerations
GPU GasNet’s application for revisions to the PTS access arrangement is based on the grounds of system-wide benefits.  This follows from the acknowledged inability of the Interconnect Assets to pass the economic feasibility test.  The Commission notes that the Code (sections 8.16(b)(ii) and (iii)) specifically provides for such investments to be incorporated if they provide system-wide benefits or are necessary to maintain the safety, integrity or contracted capacity of services.  Accordingly, the question of economic feasibility is not one that is central to this application.  GPU GasNet’s application is in terms of the Interconnect Assets satisfying the system-wide benefits test under section 8.16(b)(ii) of the Code. 
4.4	System-wide benefits
Section 8.16 of the Code allows the regulated asset base to be increased by the ‘actual cost incurred’ provided that the investment is prudent and system-wide benefits would justify ‘the approval of a higher tariff for all users’. 
GPU GasNet and a number of interested parties have commented that the Code provides little guidance for application of the system-wide benefits tests.  In addition, no guidance is as yet available from regulatory precedents.  The Commission’s current assessment of GPU GasNet’s proposed revisions to the PTS access arrangement will provide the first determination applying the test.  This section considers issues relevant to the Commission’s assessment in relation to this test.  
4.4.1	Threshold level of system-wide benefits
The Code does not provide any quantitative guidance of the threshold level of system-wide benefits that might need to exist for section 8.16(b)(ii) to apply.  Rather, the test is whether the regulator considers that the system-wide benefits would justify the approval of a higher reference tariff for all users.  Implicitly there is a nexus between the extent of the system-wide benefits and the quantum of the increase in the reference tariff that might be justified.  As GPU GasNet is proposing a substantial increase in the reference tariff, it is necessary to determine whether substantial system-wide benefits accrue from the Interconnect Assets.  However, as noted below, any measurement of benefits raises difficulties. 
4.4.2	Nature of system-wide benefits
GPU GasNet has identified two sources of system-wide benefits: enhanced system security and increased competition.
Benefits of enhanced system security
GPU GasNet considers that system security benefits arose during the gas supply emergency in 1998 and in the winter of 1999, and that there are on-going system security benefits. 
GPU GasNet describes the 1998 emergency as follows:
The Longford fire and explosion led to complete failure of supply from Longford for two weeks.  The only source of supply during this period came from the limited reserves of LNG storage and from New South Wales through the Interconnect Pipeline.  Estimates of the economic cost to Victoria of this emergency have not been finally collated, but preliminary estimates put the cost at approximately $1 billion.
During the supply failure, supplies from New South Wales flowed through the Interconnect Pipeline and there was no need to curtail withdrawals by critical loads such as nursing homes and hospitals.  It is likely that, if the Interconnect Pipeline had not been in place, then some or all of these critical loads would have been curtailed.
In addition, GPU GasNet states that this use of the Interconnect pipeline meant total system collapse was more easily avoided.  If the total Victorian gas system was exhausted then there would be a significant risk that air would enter the system.  This would 
•	create a potentially explosive mix of air and gas in the system; and
•	trigger a much longer shutdown of the system, as the air would need to be “purged” from the system in an operation that could have taken several months. 
GPU GasNet describes 1999 system security planning as follows:
The Springhurst Compressor, in conjunction with the Interconnect Pipeline, the Young and Bulla Park Compressors and the Valves provided an additional 92 TJ of capacity to ship gas from Moomba to Melbourne during Winter 1999.  Given the uncertainty associated with supply from Longford following the Longford fire and explosion, the Springhurst Compressor and Valves provided a critical element of the planning for system security for Winter 1999.  As such, the system security benefits of the Springhurst Compressor and Valves (and the Interconnect Pipeline) were established in the planning for Winter 1999. 
GPU GasNet acknowledges that the Victorian gas system has been designed to utilise the LNG reserves to avoid total system collapse if there is a serious failure in gas transmission or supply.  However, GPU GasNet claims that the Interconnect Assets provide a much greater safety margin for the system and will supplement the supply capacity to be provided by underground storage.  GPU GasNet notes that the Springhurst compressor can be relocated in a relatively short time to other parts of the network as required.  
In addition, the Interconnect Assets are expected to assist in relieving congestion on peak demand days.  This will reduce the levels of congestion uplift under the MSOR, benefiting all customers.  
GPU GasNet notes that the EGP is expected to commence operation in 2000 and claims that it will provide only limited system security for Victorian gas users.  
This is because the EGP is designed primarily to ship gas from Bass Strait to Wilton, Sydney.  For north-flowing gas a compressor will be located at Longford. For south-flowing gas the pipeline would lack compression between Young and Longford, a distance of 1,020 km.  At this stage, GPU GasNet is not aware of any intention by Duke to connect the EGP to the GPU GasNet system, nor to configure the EGP compressor at Longford for reverse flows.
The deliverability of the EGP is limited in comparison to the Interconnect Pipeline by the available capacity of the EAPL system, and by the greater distance from Moomba to Melbourne via Wilton and Longford (2,220 km), as compared to the shorter Interconnect Pipeline route (1,570 km).  The greater distance means that capacity is limited and that the time to deliver gas from Moomba will be significantly greater.  This would be an important issue when immediate system support is required in an emergency.  A further point of comparison between the EGP and the Interconnect Assets is the location of the injections into Victoria.  The EGP would inject at Longford (if a connection was available) whereas the Interconnect Assets inject gas from the north.  Therefore, unlike the Interconnect, the EGP could not provide system security if there was a failure of the main supply pipeline from Longford into Melbourne. 
Benefits of increased competition
GPU GasNet states there are a number of factors that must be considered in relation to the competition benefits of the Interconnect Assets.  These are: 
•	the historical monopoly supply of gas in Victoria and NSW; 
•	inter-basin competition.  The Interconnect pipeline provides the first opportunity for a Victorian gas retailer to buy gas from the Cooper Basin, imposing real competitive pressure on the Bass Strait producers and reducing the price of gas to users;
•	the magnified impact on competition of the actual gas flow through the Interconnect.  GPU GasNet notes that the Western Australia gas market is ‘relatively fierce’ even though the proportion of gas supplied by independent sources is small;
•	swaps.  Notional movements in gas can mean that the competitive effect of the Interconnect Assets may outweigh the physical flow capabilities;  
•	peak supply competition between the Interconnect Assets and other sources; and
•	underground storage.  The Interconnect Assets provide a competitive source of additional gas supply, which will further diminish the reliance on the Bass Strait producers.
GPU GasNet also attempts to quantify the benefits that arise from improved competition: 
The benefits that flow from improved competition are impossible to quantify precisely. However a useful perspective on the issue is obtained by comparing the annual revenue requirement of the rolled-in investments for the Interconnect Assets with the total traded value of gas in Victoria each year. For example, the annual revenue requirement associated with recovery over the lifetime of the Interconnect Assets ($4.7m) may be compared to an estimated annual traded value of gas of the order of $500m or approximately 1%. This is a small price to pay for the potential to cap or reduce gas prices in the future.
In addition, a “ball-park” comparison can be made with the EGP. The Interconnect Assets, which cost approximately $42.6m, are cheaper than the reported $400m cost of the proposed EGP which will transport gas from Victoria into New South Wales. 
4.4.3	Distribution of system-wide benefits
GPU GasNet has noted that the Code is silent in regard to the distribution of benefits from new facilities investment.  It states that:
GPU GasNet considers that the accompanying words “System-Wide” suggest that a broad definition should be adopted, namely that there should be benefits for a substantial portion of the customers whose gas is transported through the relevant system. 
However, a number of interested parties contend that they or certain classes of users would not enjoy system security benefits and, consequently, should not incur higher reference tariffs.  
Visy has stated that it considers that the Interconnect Assets have provided a benefit to domestic and hospital users and not to business users.  It notes that, in the past, large customers have been required to accept supply restrictions.  Thus, Visy considers that the increase in tariffs should only apply to the small tariff market.  GasAdvice holds a similar view: 
It might be best regarded as ambitious for GPU to suggest to the many major industrial users who lost millions of dollars of production as a result of an immediate gas supply interruption of 25 September 1998 that they should all now be paying on an equal basis for Interconnect Assets which didn’t provide them with a benefit but are now being argued by GPU as having provided system-wide benefits which justify a higher tariff for all users.  
BHPP agrees, stating:
Both history and current policy reflect that large industrial users will be the first to be curtailed during supply shortfalls.  It therefore appears inequitable for them to pay for system security benefits provided by the Interconnect Assets.  System security benefits should be paid for by those who receive them. 
In contrast, AGL considers: 
Some may argue that the system wide benefits provided by the Interconnect are only relevant to a relatively small percentage of the total Victorian gas market and therefore the Commission should not allow the capital cost of the Interconnect to be rolled into the GPU GasNet Capital Base.  The requirement of the Code is not that each User must benefit simultaneously, or to the same extent.  Rather, the Code requires “system-wide benefits that justify the approval of a higher Reference Tariff for all Users”.
The benefit of the Interconnect is not limited geographically, but is available on a system wide basis.  Depending on the nature of the usage to which the gas is put, it has the potential to benefit any class of customer, although not all classes simultaneously.  A higher Reference Tariff for all Users is justified on the basis of the demonstrated system wide benefit, and the public interest, particularly in ensuring the availability of gas to essential services.
To suggest any alternative interpretation of this clause – for example, that the entire market (or even a substantial part of the market) benefits directly and in full (ie no partial or full interruption to supply) - would mean that the only way this test could be met is if the whole (or a substantial part) of the pipeline system was duplicated.  By way of example if the argument is that the Interconnect fails the system wide benefits test because it couldn’t supply the entire Victorian gas market following the Longford plant explosion – then under those circumstances it would be almost impossible for any addition to the Principal Transmission System to qualify for inclusion into the GPU GasNet Capital Base on the basis that it passes the system wide benefits test.  Such an interpretation would render this section of the Code useless in practice, and should be rejected.
Commission’s considerations
Section 2.46 of the Code requires the Commission, when assessing proposed revisions to an access arrangement, to take into account ‘the public interest, including the public interest in having competition in markets (whether or not in Australia)’.  This is a broad consideration but relevant to the issue of where the benefits of new facilities investment may lie.  
The Commission has received submissions suggesting that those users who benefit from the Interconnect Assets should incur higher tariffs.  Submissions also state that some users have received a greater benefit than others have in relation to system security.  The Commission does not agree with the suggestion that because the Interconnect Assets did not prevent supply restrictions in the event of the Longford explosion users should not contribute to the cost of the investment on the basis that system-wide benefits requirement have not been met.  A significant benefit arising from the Interconnect Assets is the avoidance of total system collapse.  The Commission considers that all users of the PTS benefit from this.  
In addition, the role the Interconnect Assets may play in facilitating inter-basin competition in Australia is important in consideration of the distribution of benefits.  GPU GasNet claims that users of the PTS benefit from inter-basin competition.  Users of the MSP are also likely to benefit from the Interconnect Assets’ enhanced system security and its ability to facilitate supply competition.  
The Commission considers that system-wide benefits are not restricted to a limited class of users and that they extend throughout the PTS.  Accordingly, all users of the PTS should contribute to the cost of the Interconnect Assets.  
4.4.4	Motivation for investment
A number of parties contend that the Interconnect pipeline was constructed on a speculative basis with the intention of earning sufficient revenues to cover the investment and not for the purpose of generating system-wide benefits, and that this motivation should preclude inclusion of the assets through the system-wide benefits test.
GPU GasNet has stated:
The assessment must be based on information that was available and expectations that could reasonably be made at the time the relevant investment was committed to.  If the New Facilities satisfy the System-Wide Benefits Test at the time a service provider committed to installing them, then that conclusion should not be altered by any subsequent events. 
GasAdvice noted that ‘there had been uninterrupted supply from Longford for nearly 30 years’ at the time of the Longford explosion and contends that ‘[t]he Interconnect Pipeline would no doubt have failed any justification under the system-wide benefits test pre-September 1998.’ 
BHPP considers that the original motivation for the investment should be taken into account.  It notes that public information indicates that the original intent of the investment was not to provide system security although references were made to competition benefits of the Interconnect.  
Commission’s considerations
The Commission notes that Victorian Government policy objectives identified in 1997 were ‘the creation of a competitive environment for gas production and supply in Victoria; enhanced security of supply for Victoria; and the stimulation of exploration for, and development of, gas fields in Victoria’s onshore and offshore basins.’  While this may indicate the original intent of the Government in relation to the Interconnect, it does not preclude the other benefits arising from the investment.  
The Commission is of the view that the system-wide benefits test is an objective one and that its assessment must be primarily in terms of the extent to which any system-wide benefits do occur.  As historical benefits are sunk, the test is forward-looking.  On this basis, the benefits claimed by GPU GasNet relate to system security and improved competition.  It is these system-wide benefits that the Commission must assess. 
4.4.5	Temporal dimension of system-wide benefits
As noted above, GPU GasNet has identified system security benefits during the 1998 gas supply emergency, as part of winter 1999 system security planning, and on an on-going basis.  GPU GasNet considers that this temporal dimension of system-wide benefits might be considered in determining the appropriate period for recovering associated costs.  It is on this basis that Option 1 is proposed which would recover costs over a period of 12 months, reflecting the duration of the gas supply emergency when the assets directly contributed to system security.  
In contrast, TXU Trading (TXU) considers that past system-wide benefits are sunk and that tariff setting should be forward looking:
Whilst TXU recognises that the Interconnect pipeline played an important part in maintaining supplies to essential facilities during the Longford crisis, those benefits that have already occurred should not be taken into account in setting future tariffs. 
Commission’s considerations
The Commission is of the view, as previously noted, that its assessment of system-wide benefits to justify an increase in the reference tariff must primarily be forward-looking.  While past system-wide benefits are sunk, the fact that they have arisen in the past may provide evidence of the on-going benefits to be derived from the ‘insurance’ provided by the assets.  The events of 1998 and 1999 provide concrete evidence of the system security benefits that the Interconnect Assets can generate.  
It must also be noted that the Code provides for the capital base of a regulated pipeline to be altered to accommodate capital costs that occur during an access arrangement period.  In doing so, however, the Code does not specify the timing of a service provider’s application to revise an access arrangement.  Clearly, benefits arising from new facilities investment may occur prior to the lodgement of a revisions application, as in this instance. 
4.4.6	Commission’s overall assessment of system-wide benefits
That there are benefits from the Interconnect Assets has not been contested: at question is the extent of the benefits and whether they are system-wide.
Benefits of enhanced system security
The Commission acknowledges that the Interconnect Assets have provided substantial system-wide benefits, particularly during the 1998 Victorian gas supply emergency.  It also acknowledges the view that these historical benefits are sunk.  GPU GasNet has attempted to quantify these benefits.  While the urgency of providing additional supply from non-Longford sources has now passed, it is recognised that on a forward-looking basis it is the potential of these assets to provide system security insurance that provides system-wide benefits.  The actual use of the insurance provides an indication as to whether the insurance will be required.  While it may be reasonable to assume that the likelihood of another major supply disruption is small, the events of 1998 demonstrated the risks attached to reliance on a single supply source.  
The Commission considers that the Interconnect Assets provided substantial system security benefits during the 1998 gas supply emergency and during 1999 and that they provide a substantial on-going benefit to users of the PTS in insuring against future loss of supply.  
Benefits of increased competition
The Interconnect Assets provided the first opportunity for inter-basin competition in the supply of natural gas on the PTS and in NSW.  The Commission understands that it was originally envisaged that the predominant flow of gas would be northwards, reflecting the comparative balance of demand in the two states and the size of available gas reserves in the Gippsland and Cooper Basins.  In the short term, the Longford emergency has resulted in mainly southward flows.  
In the longer term, projections indicate that the majority supply of Gippsland Basin gas to NSW will be by the EGP.  Nonetheless, the Interconnect Assets would be expected to present some competitive pressure on the EGP.  It is understood that the Interconnect Assets will continue to provide the only means for Cooper Basin sourced gas to compete against Esso/BHP in Victoria.  While the ensuing competitive benefits cannot be easily measured, the entry of even a comparatively small source of supply into the Victorian monopoly market may lead to worthwhile competition. 
Quantification of system-wide benefits
GPU GasNet has attempted to quantify the relevant system-wide benefits.  It has estimated the value of system security benefits of the Interconnect pipeline and the MMAP as:
•	in the range of $35.2 million to $352 million during 1998 for the Interconnect; and
•	in the range of $86 million to $3.4 billion during winter 1999 for the Interconnect pipeline and the Springhurst compressor and valves. 
The estimated benefit ranges above are considerable.  However, the cost of the Interconnect pipeline ($19.5 million) and the total Interconnect Assets ($40.4 million) fall below the lower end of the relevant ranges. 
As noted earlier, while past benefits are sunk they may provide an indication of likely future benefits.  Accordingly, the Commission views GPU GasNet’s estimates as useful in terms of providing a broad guide as to potential on-going benefits.  While the quantum of these benefits is unclear, the Commission has concluded that they are substantial and that the requirements of section 8.16(b)(ii) of the Code are satisfied.
Commission’s considerations regarding system-wide benefits
The Commission has concluded that the Interconnect Assets provide system-wide benefits in terms of section 8.16(b)(ii) of the Code.  It considers that the Interconnect Assets do provide additional system security for the PTS users.  The performance of the assets during 1998 and winter 1999 following the Longford explosion indicate the benefits that the Interconnect Assets can provide in this context, significantly, the avoidance of total system collapse.  In addition, the Commission considers that the Interconnect Assets enhance competition in both Victoria and NSW.  Importantly, inter-basin competition is now possible.  
The Commission considers that these benefits are significant and, accordingly, justify higher reference tariffs for all users of the PTS.  
4.5	Tariff structure
GPU GasNet has proposed that the Interconnect Asset costs, other than those recouped through a new Interconnect zone tariff, be recovered by an equal dollar increase in anytime (demand) tariffs.  The Commission must consider whether this proposal satisfies Code principles in sections 8.1 and 8.2 and other requirements, including those of section 8.16(b)(ii).
Submissions
No submissions from interested parties were received in relation to the quantum of the changes to reference tariffs proposed by GPU GasNet or the methodology employed.  However, the proposed tariff structure is opposed by a number of parties.  For example, Visy has claimed that the benefits arising from the Interconnect Assets are only applicable to domestic and hospital users.  It suggests that changes to tariffs should only apply to the ‘small tariff market’.  Amcor notes that ‘there is no demonstrated price advantage for most Victorian Industrial gas consumers’.  
BHPP takes a similar view, suggesting that: 
… the proposed method of recovering those costs from all users of the system through an equal increase does not reasonably reflect the distribution of benefits associated with the assets in question. … System security benefits should be paid by for by those who receive them. 
BHPP suggests that the costs of the Interconnect Assets be allocated in the following manner: 
Those costs originally invested with the expectation or speculative hope of a commercial return be recovered through users of the new interconnect zone or allocated to a Speculative Investment Fund.
Only those costs which were made with the original intent of providing a system wide benefit, and which pass the 8.16(a) test be rolled into the Capital Base.
All remaining costs be allocated to a Speculative Investment Fund. 
In contrast, AGL considers: 
The benefit of the Interconnect is not limited geographically, but is available on a system wide basis.  Depending on the nature of the usage to which the gas is put, it has the potential to benefit any class of customer, although not all classes simultaneously.  A higher Reference Tariff for all Users is justified on the basis of the demonstrated system wide benefit, and the public interest, particularly in ensuring the availability of gas to essential services. 
GPU GasNet has noted that the Code is silent in regard to the distribution of benefits and, consequently, takes the view that a broad definition of ‘system-wide benefits’ should be taken.  That is, ‘there should be benefits for a substantial portion of the customers whose gas is transported through the relevant system’.   
Commission’s considerations
Pursuant to section 8.16(b)(ii) the Commission must be satisfied that the system-wide benefits attributed to a new facilities investment justify the approval of higher reference tariffs for all users of that system.  Once the Commission is satisfied that there are significant system-wide benefits that would justify higher tariffs, it cannot limit those increased tariffs to any particular class of user.  However, it should be noted that while reference tariffs will rise for all users, the tariff structure implemented may result in the higher tariffs impacting on some users more than others.  
The Commission notes the views expressed above that ‘history and current policy’ indicate that system security benefits are skewed towards groups such as residential users, hospitals and nursing homes, and away from large industrial users, and that ‘[s]ystem security benefits should be paid for by those who receive them’.  In mid-1998 the PTS was blocked by ice, cutting Victoria’s gas supply by 25 per cent.  The Victorian Employers Chamber of Commerce and Industry claimed that tens of millions of dollars had been lost by industry forced to curtail gas usage.  Supplies to hospitals and nursing homes were maintained during the 1998 gas supply emergency stemming from the Longford explosion while supplies to other users was curtailed.  As noted earlier, while such benefits are now sunk, historical circumstances can provide a useful indicator of the likelihood of future events.
The Commission has considered the general cost reflectivity principle that there should be a nexus between those who enjoy benefits and those who bear the costs; on this basis costs associated with benefits that clearly accrue to only a sub-set of users might be expected to be borne by them.  It is relevant that the PTS access arrangement does not provide for any unequal distribution of system security benefits across classes of users.  Under the Victorian Market and System Operations Rules, which commenced on 15 March 1999, a ‘net pool’ operates to match supply and demand.  In addition, VENCorp is provided with 3 000 tonnes of LNG storage capacity (approximately 150 TJ) for the purposes of system security.  The value of lost load (VoLL) is a cap on the market price for gas that applies for force majeure events or when the market is suspended which provides a fundamental market signal for long term investment.
Nonetheless, the Gas Safety Act 1997 (Victoria) (section 106(1A)) provides for broad discretion in issuing emergency directions:
… the Director may in a gas emergency situation give any directions the Director considers necessary — 
(a)	to regulate the use of the available supply of gas having regard to the needs of the community; or
(b)	to facilitate the reliability of the gas supply; or
(c)	to facilitate the security of the systems for the transmission or distribution of gas.
To the extent that future emergency directions under the Gas Safety Act that reflect Victorian Government social policy objectives may over-ride GPU GasNet’s non-discriminatory tariff principles an issue arises as to whether non-beneficiaries should bear costs that benefit others.  The Commission notes that the Victorian Government has already made a $2.2 million contribution to the cost of the Springhurst compressor and that there may be arguments for further explicit funding of public policy objectives.  
The Commission is also obliged to consider the public interest when approving revisions to an access arrangement (pursuant to sections 2.46(a) and 2.24(e) of the Code), which one submission considers encompasses ‘ensuring the availability of gas to essential services.’  The Commission agrees that this is an important element of the public interest.  
While submissions from interested parties generally dwelled on benefits from the allocation of scarce supplies of gas to users during actual or potential disruptions, GPU GasNet has also identified benefits which it considers are likely to directly accrue to all users: reduced risk of total system collapse; and supply competition.
In the event that the system were completely exhausted, air might enter the system creating an explosive mixture that GPU GasNet suggests could take months to purge.  The Commission understands that the Dandenong LNG facility and various system security measures and procedures are designed to minimise safety risks such as from total system collapse.  While the extent to which the Interconnect Assets would further reduce these risks during a supply emergency is difficult to determine, it is clear that total system collapse would impose very high costs on all users of the PTS.  Some users, such as large industrial users, may have no reasonable prospect in such circumstances of sourcing alternative energy or feedstock supplies.  In effect, such an event is likely to result in the majority of Victorian users without any supply of gas for an extended period.  While any quantification of the risks and benefits associated with total system collapse is highly problematical, the Commission is of the view that they may be substantial and affect all users of the PTS.
The extent of the benefits generated as a result of the Cooper Basin producers being able to provide supply competition to Esso/BHP for users of the PTS is also difficult to measure.  Nonetheless, the Commission considers that these benefits are likely to be significant and accrue to all users of the PTS.
On balance, the Commission is of the view that, while the distribution of overall benefits may be uneven, the benefits are substantial, and enjoyed across the system.  Accordingly, the Commission considers that the system-wide benefits justify a higher reference tariff for all users and proposes to accept GPU GasNet’s proposal for a higher reference tariff for all users.
While the imposition of a higher reference tariff would be expected to impact on all users, without any users or groups of users being quarantined from higher charges, the design of the reference tariff will determine the distribution of additional costs across users.  GPU GasNet has proposed a flat increase in the anytime (demand or commodity) charge across all zones which it describes as follows:
This method of cost allocation is based on the premise that the system-wide benefits are enjoyed equally by all users, in proportion to their use of the system. It is not dependent on the location of withdrawals, nor on the level of peak demand of each user. Hence it is most equitable to allocate the costs as a fixed charge per GJ of usage, in the same manner that indirect, non-locational costs are allocated within the GPU GasNet Principal Transmission System tariff methodology.
The increased charge will be allocated to withdrawals from the Principal Transmission System, excluding the users of the Western System (who are not connected to the Principal System in 1999) and users in NSW (who cannot as a whole be apportioned costs through this Access Arrangement). 
Based on 1999 tariffs, the increase on the anytime period tariff would be 23.25 cents/GJ (Option 1), 8.31 cents/GJ (Option 2) or 3.03 cents/GJ (Option 3).  As existing peak charges would be unchanged, the capacity:commodity ratio would fall from approximately 64:36 to about 58:42 under Option 3, or further under the other options.  Proportionately less revenue would be raised from charges on peak usage and more from commodity charges.  Such a change in structure would comparatively favour users with a high peak usage.
The Commission considers that the reference tariff structure proposed by GPU GasNet satisfies the pricing principles set out in section 8 of the Code.  Alternative reference tariff structures may also satisfy these principles.  However, interested parties have not proposed any such alternative reference tariff structures (that would increase the reference tariff for all users).  The Commission notes that, pursuant to section 2.46 of the Code, it must not refuse to approve revisions solely for the reason that the access arrangement as revised would not address a matter that sections 3.1 to 3.20 do not require the access arrangement to address.  Accordingly, the Commission proposes to accept the reference tariff structure proposed by GPU GasNet. 
4.6	Recovery period
Chapter 2 described three tariff options proposed by GPU GasNet regarding the recovery of costs on the Interconnect Assets:
•	Option 1: recovery of capital costs in one year (2000); 
•	Option 2: recovery of capital costs over the remainder of the initial access arrangement period (2000 to 2002 inclusive); or
•	Option 3: recovery of capital costs over the remaining economic life of the assets. 
Option 1 would result in a one year price spike with revenues (and hence average tariffs) increasing by approximately 76 per cent.  Option 2 would result in an increase of approximately 27 per cent for the last three years of the initial access arrangement period.  The increase of approximately ten per cent under Option 3 would be for the remaining life of the assets. 
Submissions
No support was evident from interested parties for options 1 or 2.  TXU stated:
If the ACCC were to approve GPU’s submission to recover all or part of the costs of the Interconnect Assets, TXU is strongly of the view that these costs should be recovered over the economic life of these assets effective from the date of the next price review for the following reasons:
The costs should be recovered over the life of the assets, because to do otherwise would result in an inter-generational cross-subsidy.
The benefits that GPU has outlined, such as increased system security and enhanced competition, are likely to accrue to customers over a considerable period of time. If GPU were allowed to recover these costs in only one, or even only three years, then this would amount to a tax on existing users for the benefit of future users which is clearly unacceptable. 
AGL also considered that it would be most appropriate to recover the costs of the Interconnect Assets over a period consistent with similar assets already in the PTS capital base.  
TXU also raised the issue of the commencement of the revised reference tariff which it considered should be at the commencement of the second access arrangement period:
The Victorian Gas Industry Tariff Order regulates “tariffed retail services” by imposing a maximum uniform tariff (MUT) that applies to franchise customers.  Under this regime, there is no possibility for a retailer to pass through increases in TUoS charges.  Consequently, TXU opposes any attempt to increase TUoS charges prior to the termination of the maximum uniform tariff regime.
TXU also considers that one of the main purposes of a five year regulatory period is to provide price certainty to asset owners, retailers and customers.  TXU does not support the concept of frequent, substantial adjustments to the capital base of a network provider (with ensuing changes in its network prices).  Given that most substantial investments, such as the Interconnect, are planned years in advance, major changes to the capital base should as far as possible, only be included at the five yearly review. 
In response, GPU GasNet has commented that it does not have access to the information provided to the buyers of gas distribution assets by the Victorian Government.  However, it considers: 
… the Buyers were aware (or ought to have been aware) that the Interconnect was not part of the TPA Principal Transmission System Access Arrangement, and that a tariff for the Interconnect was likely to be forthcoming.  We would have expected this fact to be taken into account by the Buyers during the sale process. 
Commission’s considerations
The Commission has considered the comments noted above and undertaken its own analysis of the proposed tariffs.  As noted above, both options 1 and 2 result in significant increases in tariffs over the short term.  The Commission does not consider that either option reflects the forward-looking nature of the system-wide benefits on which they are based.  Nor do these methodologies reflect the principle outlined in section 8.1 of the Code that suggests reference tariffs should be designed with the objective of providing a revenue stream that recovers efficient costs over the expected life of the assets.  Accordingly, the Commission proposes not to accept the recovery period proposed in either option 1 or 2.  
The Commission proposes to accept Option 3 whereby, consistent with assets currently included in the PTS regulatory asset base (as approved by the Commission), the cost of the Interconnect Assets would be recovered over their useful lives.  The economic life of the Interconnect pipeline has been assumed to extend to 2033 (consistent with the life of other PTS pipeline assets) whereas the economic life the Springhurst compressor has been assumed to extend to 2028 (consistent with a 30 year technical life). 
The Commission notes the tension between comments made by GPU GasNet and purchasers of the stapled distribution/retail businesses concerning the latter’s expectations prior to privatisation about the regulatory environment and the regulatory treatment of the Interconnect.  However, the Commission considers that, based on its regulatory decisions regarding the PTS access arrangement, it would be clear to all interested parties that the Interconnect pipeline would become part of the PTS access arrangement and this would consequently impact on tariffs.  
The Commission is aware of concerns that retailers are currently unable to pass on increased transmission charges to their customers and has considered whether this issue can impact on the current review which is being conducted pursuant to the requirements of the Code.  Of potential relevance is section 2.47 of the Code.  This section precludes the regulator from approving revisions to an access arrangement that would, if applied, deprive a person of a contractual right in existence prior to the date the revisions were submitted (other than an exclusivity right that arose on or after 30 March 1995).  The Commission notes that no evidence has been presented that approval by the Commission of a higher reference tariff would deprive a person of existing contractual rights. 
4.7	Operation and maintenance costs
Operation and maintenance (O&M) costs in 1999 are estimated at $0.12 million for the Interconnect pipeline, $0.10 million for the Springhurst compressor, $0.01 million for the valves and $0.095 million for consultants fees relating to the lodgement of the revisions to the access arrangement that are the subject of the current review.  These costs total $0.325 million.  The costs in subsequent years are forecast to remain constant in real terms at $0.23 million (in 1999 dollars) after adjustments for consulting fees and the level of usage of the Springhurst compressor. 
The Commission did not receive any submissions from interested parties regarding the level of operation and maintenance costs included in GPU GasNet’s application.  The Commission has undertaken its own analysis of these costs and has concluded that they are not unreasonable.  Accordingly, the Commission proposes to accept the inclusion of these costs in the PTS access arrangement.  
4.8	Timing issues related to the tariff increase
4.8.1	Commencement of earnings on assets
GPU GasNet proposes that it receive a return on each asset from the date on which the asset became operational, and that an allowance be made for the capitalisation of a reasonable return on funds for an efficient construction period.  Commencement dates for the operation of the assets are 15 July 1998 (the Interconnect pipeline) and 1 June 1999 (the Springhurst compressor and valves). 
GPU GasNet has proposed a net present value (NPV) approach in order to recover the return between the commencement of operation of the assets and the start of the revised reference tariff.  
No submissions were received from interested parties on this issue to suggest that the proposal may not comply with the Code.  The Commission considers that GPU GasNet should be able to achieve a reasonable return over the life of these assets and that it is reasonable to adopt the NPV approach as proposed by GPU GasNet.  Accordingly, the Commission proposes to accept GPU GasNet’s proposed commencement dates for the earning of revenue. 
4.8.2	Commencement of revisions
GPU GasNet has proposed that the revisions in this application would commence on 1 January 2000.  The proposed timing would have provided a period of approximately four months for completion of the review.  The Commission considers that this would have provided limited opportunity for contributions by interested parties to the process of public consultation required under the Code.  
The Commission expects to finalise its review during early 2000.  The revised reference tariffs will, if approved, require a small adjustment to account for the timing difference between 1 January 2000 and the actual commencement date.
4.9	Other issues
4.9.1	Scope of the current review
Other augmentations
The current application to incorporate revisions associated with the Interconnect Assets does not extend to other augmentations to the PTS that have been built since the previous owner/operator of the system lodged its proposed access arrangement for approval in November 1997.  These include additional enhancements as part of the MMAP costing approximately $60 million and the South West Pipeline.  GPU GasNet may at a future date submit one or more applications for revisions to the PTS access arrangement to roll some or all of these assets into the regulated asset base.
The Commission has considered the potential interaction of separate applications for roll-in, including the view that the current review should include all assets recently purchased.  While a joint review might be expected to allow a more comprehensive assessment of the interaction of the assets on the system and the benefits that accrue, GPU GasNet has elected to submit separate revisions as permitted by the PTS access arrangement and the Code.  Accordingly, the current review is limited to the impact of the Interconnect Assets on the PTS and its users.  Any subsequent proposal to roll-in additional assets would be reviewed in terms of the impact of those assets on the PTS.
Compliance with the Code
As noted earlier, pursuant to section 2.46 of the Code, the Commission may approve revisions to an access arrangement only if it is satisfied that the access arrangement as revised would contain the elements and satisfy the principles set out in sections 3.1 to 3.20 of the Code.  Therefore, while the current review focuses on the revisions proposed by GPU GasNet, the Commission has also considered whether any of the elements of the access arrangement as revised would be inconsistent with the requirements of sections 3.1 to 3.20 of the Code.  
The Commission does not consider it appropriate for the current assessment to extend to repeating the full review of the access arrangement it conducted between November 1997 and December 1998, or to anticipate the review to be conducted during 2002.  The review therefore focuses on the impact of the proposed revisions and on whether circumstances have changed since 1998 such that the access arrangement would no longer contain the elements and satisfy the principles set out in sections 3.1 to 3.20 of the Code.  Interested parties have not raised any issues in this context to suggest that the revised access arrangement would not comply with the Code.  
In considering the issue of compliance with the Code the Commission notes that one area where relevant circumstances may have changed substantially since the October 1998 Victorian Final Decision is the prevailing conditions in the market for funds.  The Commission must consider the market for funds in relation to the appropriate rate of return pursuant to section 8.30 of the Code.  Key parameter values at the time of the Victorian Final Decision were 3.43 per cent for the real risk free rate, 6.0 per cent for the market risk premium and an expected inflation rate of 2.5 per cent.  The market for funds has moved since October 1998.  This is indicated by the parameters used by the Commission in its draft decision relating to the Central West Pipeline in September 1999 which were 3.44 per cent (real risk free rate), 5.5 per cent (market risk premium) and 2.31 per cent (expected inflation).  These changes alone suggest that the appropriate level of the post-tax nominal cost of equity and pre-tax real WACC (as used in these regulatory decisions) could be noticeably less than those proposed in the Victorian Final Decision. 
The Commission has considered the costs and uncertainties likely to be associated with frequent reassessment of the regulated rate of return.  It is of the view that any early review would only be justified if there were strong grounds to believe that changes in the prevailing conditions in the market for funds since the rate of return was set have been so substantial that the reference tariff principles established by section 8 of the Code would no longer be satisfied.  While the changes since October 1998 are significant, the Commission is of the view that a reassessment of the regulated rate of return is not currently justified.  
The Commission has also considered the Ralph Committee’s proposals outlined in A tax system redesigned, which would result in a number of changes affecting GPU GasNet and other service providers - in particular, a reduction in the statutory corporate taxation rate to 30 per cent, the abolition of accelerated taxation depreciation on new assets and the payment of imputation credits as a tax rebate.  While the Commonwealth Government has accepted these changes, their potential impact on the PTS access arrangement is uncertain.  It is not clear at present whether these changes will be so substantial that the reference tariff principles established by section 8 of the Code are no longer satisfied.  Accordingly, the Commission proposes that the Ralph Committee proposals not be implemented in the PTS access arrangement at this point in time.  
4.9.2	Market carriage
The NSW Ministry of Energy and Utilities has noted that a Ministerial notice is required by section 3.8 of the Code prior to approval of a market carriage pipeline operating in a jurisdictional area.  This would be the case if the Commission approves the proposed revisions that would result in the market carriage PTS partly operating in NSW, and has stated:
… No such agreement has been given by the NSW Minister at this time.
… NSW is particularly concerned that the application of the Market Carriage regime to the Interconnect should not disadvantage customers in NSW using the pipeline nor create a barrier or disincentive to competition. … [t]he Market Carriage regime is yet to be proven. 
The Ministry is concerned that insufficient analysis has been done to support the introduction of market carriage.  In view of its understanding that transitional arrangements under the Victorian gas legislation appear to allow operation of a market carriage pipeline in NSW in this instance without Ministerial approval, the Ministry suggests that it may be appropriate for the Commission to require, pursuant to section 2.4 of the Code 
‘ … as an interim measure, separate access arrangements for the Interconnect such that the Contract Carriage regime applies to the portion of the Interconnect located in NSW. …. This is NSW’s preferred position.’ 
Mallesons Stephen Jaques, on behalf of GPU GasNet, has provided the following advice regarding the transitional arrangements:
… having reviewed the Victorian transitional provisions of the NAC [the Code], it is our view that section 3.8 of the NAC does not apply to GPU GasNet’s roll-in application.  This is because:
(a)	section 3 of the VAC [the Victorian Code], which has no equivalent to section 3.8 of the NAC, applies to GPU GasNet’s Access Arrangement until 31 December 2002; and
(b)	by virtue of the “cross-vesting” scheme, a decision taken under the Victorian Access Act is deemed to have been validly taken under the New South Wales Access Act. 
Commission’s considerations
The application by GPU GasNet has been made under section 2.28 of the Code.  Pursuant to section 44ZZM of the Trade Practices Act 1974, the Commission derives its power to make a decision to accept or reject such an application for a revision to the access arrangement under the Code from two sources.  These are the inter-governmental agreements on the implementation of the gas access regime, and section 10 of the Gas Pipelines Access (Victoria) Act 1998.  The Commission is thus making a decision pursuant to the powers vested in it under that Victorian Act. 
As Mallesons has noted, section 24A(3) of that Act provides that until the first review of the Victorian PTS access arrangement section 3 of the former Victorian Code applies, rather than section 3 of the Code.  The Commission understands that for revisions prior to the first review in 2002 the provisions of section 3 of the former Victorian Code are to govern.  Accordingly, section 3.8 of the Code does not apply, and the absence of the NSW Minister's consent does not prevent the Commission from accepting an access arrangement (or revisions to an access arrangement) that applies a market carriage system to a pipeline that partly lies in NSW.  
The Commission notes that there are apparent inconsistencies between the Victorian and NSW gas access legislation which may impact on the enforceability of the PTS access arrangement in NSW if an access dispute were to arise.  While this issue is of potential concern to GPU GasNet and shippers, it would not form grounds for the Commission to refuse the revisions to the PTS access arrangement currently before it.
The Commission has also considered the proposal advanced by the Ministry of Energy and Utilities that it requires a separate contract carriage access arrangement for the segment of the Interconnect pipeline located in NSW.  The potential for the interface between contract carriage and market carriage pipelines to act as a barrier to interstate trade in gas was subject to considerable debate and carefully considered as part of the Commission’s approval of the PTS access arrangement in 1998.  The Commission concluded in its final decision that it did not expect interstate trade to be adversely affected by the different capacity management systems operating in Victoria and in other States.  In considering the Ministry’s proposal, the Commission notes that, in the event that inconsistencies between the two capacity management systems cause some friction, it appears unlikely that the restriction would be reduced if the interface between the two systems occurred at the Victorian-NSW border rather than at Culcairn.
In addition, clause 5.7.1(a) of the PTS access arrangement requires that ‘[s]ubject to clause 5.7.1(c) [excluded significant extensions], an extension or expansion to the Principal Transmission System is covered by this Access Arrangement’.  As noted earlier in this Draft Decision, this clause and clause 5.7.1(f) result in coverage of the Interconnect Assets by the PTS access arrangement, which allows GPU GasNet to seek revisions to that access arrangement for the purpose of rolling-in associated costs.  This appears to restrict the scope for the Commission to require that part of the Interconnect be subject to a different access arrangement.  
A further consideration is the practical application of the requirements of the Code to a separate access arrangement applying to a section of approximately 57 km of the Interconnect pipeline located in NSW.  It is expected that the balance of the 63 km of the Interconnect pipeline located in Victoria and the Springhurst compressor and valves would be incorporated in the current PTS access arrangement.  The separate NSW access arrangement would potentially relate to assets of almost $20 million.  As a stand alone access arrangement, costs could only be recovered through tariffs on direct use of these assets, and would need to be levied at approximately half the level that would be required to recover the cost of the Interconnect Assets.  The Commission considers that tariffs of that magnitude would not be sustainable nor encourage inter-basin competition.  Accordingly, the Commission does not propose to require a separate contract carriage access arrangement for the segment of the Interconnect pipeline located in NSW.  
4.9.3	Prior consultation on new facilities investment
GasAdvice has expressed concern that new facilities investment has been undertaken for which system-wide benefits are claimed ‘without seeking input or commitment from the potential users of the facilities’. 
The Commission appreciates concerns that facilities may be commissioned without consultation with users who may eventually contribute to the costs of the assets through higher reference tariffs.  The Commission expects that investments justifying higher reference tariffs on the basis of system-wide benefits would generally be undertaken after consultation with users and potential users.  However, it also notes in this instance the background of Victorian Government public policy issues affecting these assets prior to privatisation and the response to the June 1998 ice blockage incident and the Longford gas emergency which started on 25 September 1998.  
As noted earlier, the policy objectives identified in 1997 included ‘the creation of a competitive environment for gas production and supply in Victoria; enhanced security of supply for Victoria; and the stimulation of exploration for, and development of, gas fields in Victoria’s onshore and offshore basins.’  The Springhurst compressor was installed after the emergency ‘as a key component of the Moomba-Melbourne Augmentation Project [sic] (MMAP), as part of the Victorian Government’s Winter-99 contingency project to secure gas supplies over the winter of 1999.’ 
In addition, it must be noted that, in relation to the PTS, GPU GasNet is required to provide gas transportation services to VENCorp under the Service Envelope Agreement.  Failure to comply with these obligations attracts a significant penalty.  
The Commission is also aware that consultation regarding potential investment in assets intended to generate system-wide benefits may be distorted by free rider behaviour.  In an environment of significant externalities and where direct benefits to individual users may be difficult to measure, incentives arise for users to understate the benefits they expect to enjoy.
While the Commission acknowledges concerns raised about the level and extent of consultation, its assessment under the Code is necessarily on an ex-post basis.  

5.	Draft decision
The Commission has now made a draft decision under section 2.35(a) of the Code that it proposes to approve the revisions to the PTS access arrangement and permit the costs of the Interconnect Assets to be recovered over the remaining life of those assets as identified by GPU GasNet as Option 3 in its application.  
Pursuant to sections 2.36(b) and 2.37 of the Code, the Commission will consider submissions lodged by 4 February 2000 in response to this draft decision before issuing its final decision.  
If the Commission’s final decision is to approve the revisions it will specify the commencement date applicable for the revised tariffs, which is expected to be during early 2000.  That date would determine the precise level of revised tariffs, in accordance with the NPV approach described in section 2.3 of Annexure 3 to the revisions, which the Commission would audit for consistency with the revisions prior to its final determination.  The Commission would also audit the revised access arrangement and access arrangement information documents. 

Appendix A:	Submissions
AGL, 27 October 1999
Amcor Limited, (received) 21 October 1999
Australian Gas Users Group (AGUG), 20 October 1999
BHP Petroleum, 22 October 1999
GasAdvice Pty Ltd, 28 October 1999
GPU GasNet Pty Ltd, 29 November 1999 
Mallesons Stephen Jaques, 22 November 1999
NSW Ministry of Energy and Utilities, 24 November 1999
TXU Trading, 20 October 1999
United Energy Limited, 22 October 1999
Visy Paper Pty Ltd, 18 October 1999