To increase investments in electric networks, the necessary transition to RAB-tariff - Ogadzhanyan, Deloitte

Under the current tariff setting scheme for distribution system operators, enterprises do not have incentives and opportunities to invest in supporting their networks and improving the quality of services a more approved investment program. The way out is the transition to stimulating regulation according to the European experience, which, by updating the networks, will create a tendency to reduce tariffs gradually—this opinion voiced by Arthur Ogadzhanyan, partner of the corporate finance department of Deloitte in Ukraine.

The expert notes that the tariff setting “Costs+” the interests of the regulator and the operators of the distribution system are opposite: the regulator is trying to restrain the growth of tariffs, and the company is interested in raising costs. There are no incentives for operational efficiency under such conditions at all.

This leads to negative consequences for the state of power grids. By the level of losses in electric networks and the SAIDI index (how many mines consumers spend without light), Ukraine ranks first in Europe.

“We, one of the largest countries in Europe, with a pervasive network of electricity supply, are the worst among all the countries represented, including states, not much more economically powerful than us,” notes Ogajanyan.

The expert sees a way out of the situation by changing the tariff setting and switching to a stimulating (RAB) tariff. Its main features - tariffs are calculated based on a certain transparent economic logic, are set for a predetermined period of several years, contain components of encouragement for compliance with predetermined planned indicators, and sanctions for their violation.

In case of incentive regulation, the monopoly enterprise’s income calculated in such a way as to compensate for all reasonable operating expenses, including income tax, and provide the company with the opportunity to continually update assets, maintaining their performance and, consequently, the quality of services.

Ogadzhanyan notes that an essential problem in the transition to RAB is the calculation of the rate of return for regional energy and depreciation. The latter is calculated in a certain way, using the conditions for the amortization of assets established by the regulator. Accordingly, the discount calculated based on the cost of creation (construction/acquisition) of assets is the primary source of capital costs that companies incur for the reproduction and development of their assets.

The energy expert suggests determining the rate of return at the WACC level - the weighted average rate of return.

“In the vast majority of countries, the main method of determining the rate of return (rate of return) as a percentage of the total RAB is the WACC method. Most market operators perceive this method as fair because, in its essence, it reflects the market rate of return on invested capital expected by a typical investor,” says Ogajanyan.

According to an expert in most European countries, the asset base of energy companies is not divided, and the rate of return is the only one on all property of companies. The company receives the costs of new assets in the process of further functioning. The expenses of reconstructing existing assets are subsequently credited to the RAB per the amounts of such expenses without further revaluation.

Proponents of the incentive tariff approach at one rate on all assets note that different rates of return in other countries do not apply. Also, companies were acquired in different years, so a direct comparison of the amount of investment with the cost of RBA is not correct. It is also highly probable that the regulator will still abandon the difficulties associated with the differential calculation of regulatory profits and establish a single rate of return soon.

Oghajanyan convinces the transition to stimulate regulation at the first stage will lead to an increase in electricity distribution tariffs. But with the correct implementation, the RAB-tariff due to the reduction of losses in the electric networks and the modernization of equipment will create a tendency to lower the tariff.

“It is important that all parties involved in the process are guided by one approach: more money - more investment, more investment - better efficiency and quality, better efficiency and quality of services - a tendency to contain and reduce tariffs,” the expert emphasizes.

Recall, the State Enterprise “Ukrpromvneshekspertiza” said that the underinvestment of Ukrainian electricity networks is 17.5 billion dollars. According to the Ministry of Economy and the Ministry of Energy, the transition to stimulating regulation under market conditions can correct the situation.

18:03 / 19 June, 2020

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