Analysts: $60m gas profit a rip-off

By BRIAN FALLOW economics editor

Gas consumers have been paying about $60 million a year too much, says a study by economic analysts Simon Terry Associates.

The beneficiaries have been Natural Gas Corporation and the Auckland and Wellington gas-distribution business formerly owned by Enerco and then Orion, and now part of UnitedNetworks.

The study's authors, Dr Geoff Bertram, Ian Dempster and Simon Terry, conclude that the Government has done a poor job of monitoring gas transport charges.

"It is clear fundamental reform is required," Dr Bertram said.

They attribute the excess profits principally to a switch in the way the pipeline network assets are valued, from historic cost to the replacement-based optimised deprival value (ODV) method, coupled with the fact that this has occurred in the context of a light-handed regulatory regime.

The upshot has been rates of return at least twice what is reasonable for these kinds of business, they conclude.

Gas companies have been subject to a disclosure regime for the natural monopoly side of their business only since 1997.

Between 1997 and last year, NGC received a rate of return on its network of 18 per cent a year, after inflation and tax.

Going further back to 1992, only results which bundle together NGC's profits from selling gas, along with the return on the network, are available.

"The real after-tax rate of return on a dollar invested into this business and held until 2000 was 19 per cent", the study says.

"To achieve an equivalent return the investor would need to have found an investment that yielded 19c tax-paid, or 29c pre-tax, at the end of every year for eight years, and still returned the original dollar invested".

In the case of Enerco/Orion, the internal rate of return between 1997 and last year was 14.5 per cent (if you take the book value at the end of the period) or 32.5 per cent (if you take the market value).

The study notes that Orion sold the line network to UnitedNetworks early last year for nearly twice its book value, even at ODV.

"A gas pipeline and retail business which had a market value of $77 million in 1992 [when Enerco floated] was sold eight years later for a total of $660 million.

"Along the way, $110 million had been spent on purchases of fixed assets, including replacement investment to make good wear and tear, and $32 million on the acquisition of Progas."

By any standards these returns are excessive, the report contends.

A comparable rate of return from the New Zealand sharemarket between 1992 and last year was 9.5 per cent. Between 1997 and last year it was 5 per cent.



"Rates of return which are consistently above the level required to meet the appropriate cost of capital are monopoly profits", say the analysts.

"They are pure transfers of wealth to the asset owners. They perform no economic function in relation to securing the continued supply of the service".

The report's authors see no sign that the analysis they have done is also being done by the ministry as part of its review of the gas industry.