MELBOURNE (S&P Global Ratings) May 3, 2021--Regulated electricity distributors in the Australian state of Victoria are well-positioned to handle lower rates of return that are part of recent final regulatory determinations, S&P Global Ratings said today. The current reset, which covers the five-year period from July 1, 2021 to June 30, 2026, will erode the rating headroom in the sector and place demands on capital management and financial discipline, in our view.
The determinations relate to AusNet Electricity Services Pty Ltd., an operating subsidiary of AusNet Services Ltd. (A-/Stable/--); Jemena Electricity Networks (Vic) Ltd., an operating subsidiary of SGSP (Australia) Assets Pty Ltd. (A-/Stable/--); Citipower Pty Ltd. and Powercor Pty Ltd. (operating companies of Victoria Power Networks (Finance) Pty Ltd. (A-/Stable/--), collectively VPN); and United Energy Distribution Holdings Pty Ltd. (UED, A-/Stable/--). The Australian Energy Regulator (AER) released the final decisions, which also uphold the revenue cap mechanism, on April 30, 2021.
All the rated entities will see some erosion in their cash flow leverage metrics over the next five years but should remain within their current rating tolerances. The lower weighted average cost of capital (WACC), particularly the lower cost of equity, will reflect in lower revenue and EBITDA profiles across all the entities, albeit of varying magnitude. As such, most of this decline will have to be borne by the entities, as only a marginal portion of this lower WACC will be offset by lower interest costs as the entities go through the annual trailing average adjustment to one-tenth of their debt book and refinancing of their upcoming debt maturities. Also, the release of incentive revenues from efficiencies in the past five years will cushion the revenue decline.
The ability of the entities to operate within their current rating levels will depend mainly on the discretion exercised in debt funding of capital works and shareholder distributions over the next five years.
As widely expected, the final determination is a reasonable improvement for the entities from the draft decision of September 2020:
- Of particular note is the lower inflation rate (2%, down from 2.37% in the draft) that has assisted in a higher revenue profile compared to the draft decision.
- The WACC is about 4.7%-4.9% and is mainly a reflection of lower return on equity (5.0%-5.3%) and lower return on debt (4.5%-4.65%).
- The approved WACC, return on equity, and return on debt were 6.3%, 7.5%, and 5.5%-5.6%, respectively, in the prior period of 2016-2020.
- The reductions reflect the current low interest rate environment and most of this impact is captured in our current ratings following the draft decision.
- Jemena, AusNet, VPN, and UED were awarded WACCs of 4.91%, 4.83%, 4.73% and 4.76%, respectively (previously 6.37%, 6.31%, 6.11%, and 6.37%).
Outperformance of operating costs (opex) allowance is likely to be modest in the next five years, in our view. The AER accepted the revised opex proposal by the entities recognizing the efficiency achieved by these privatized networks over the past decade. Approved opex (in 2021 dollars) is 10%-20% higher than the spend in the current period, attributed mainly to increases in insurance premiums, testing and maintenance, and security of infrastructure.
The AER accepted the revised capital expenditure (capex) proposal of AusNet and Jemena, but not Citipower, Powercor, and UED. AusNet's capex is not materially different from the draft decision and is about 20% lower (in 2021 dollars) compared with spending in the prior period, when the company incurred substantial capex. Powercor will see a small increase in capex over the current period, while Jemena, UED, and Citipower have 8%-12% higher capex than the current period. Most of the capex increase is attributed to replacement works and ongoing bush fire safety related investment.
Like past years, these electricity distributors will strive to operate within (or outperform) the approved opex and capex allowances; and manage capex based on demand, safety, security, and reliability levels. We expect the growth in regulated asset base will slow over 2021-2026 compared with the prior five years but will still see an increase of 20%-25% in nominal terms for Jemena and Powercor and about 10%-15% for the other three entities.
This report does not constitute a rating action.
AUSTRALIA
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| Primary Credit Analyst: | Parvathy Iyer, Melbourne + 61 3 9631 2034; parvathy.iyer@spglobal.com |
| Secondary Contact: | Alexander Dunn, Melbourne + 61 (3) 96312120; alexander.dunn@spglobal.com |
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