QCA Draft Decision: Queensland Rail Draft Access Undertaking

Overall outcome

QR started this process with the aim of achieving a light handed regulatory framework, more consistent with it being a vertically separated provider of freight services with little, if any, potential of earning monopoly rents given the nature of its users. While the QCA recommends a regulatory framework that is clearly less onerous than for the neighbouring Aurizon Network, we consider that the range of obligations on QR, together with the extensive regulatory audit provisions, creates significantly more intrusive regulation than for other Australian railways in a similar market position.

Western System Reference Tariffs

The QCA has rejected QR’s proposed reference tariff of $19.41/000gtk – which is equal to the current tariffs being paid, instead recommending $15.88/000gtk west of Brisbane, and $13.38/000gkt through the metropolitan network – an average reduction of more than 20%. This draft decision will allow QR to earn $276.7m in revenue from coal services over 5 years.

The tariff west of Brisbane is derived through a building block approach. In contrast to QR’s calculated ceiling price of $34.92/000gtk, the QCA’s estimated ceiling price is $18.88/000gtk, which it then reduced by $3.00/000gtk to reflect past over-recovery of access charges. Key elements of the draft decision are:

• The age and condition of the Western System means that the infrastructure standard is well short of that required for a modern, heavy haul railway.  The QCA has sought to recognise the high expenses incurred in sustaining this rail infrastructure, while acknowledging that these are driven by the nature of the underlying assets.
• The QCA has recommended a 20% reduction in QR’s proposed maintenance costs, allowing $114m over 5 years.  This primarily reflects concerns with QR’s cost of mechanised resleepering and its scope for track maintenance.  The QCA has accepted QR’s forecast capex, providing for $144.2m expenditure over 5 years.  QR’s forecast operating costs of $37.2m over 5 years are also accepted.
• While adopting a DORC valuation method, the QCA has predictably maintained its view that many of QR’s assets are already life expired, and only still in use due to high maintenance expenditure (noting that the QCA has largely accepted that expenditure).  As a result, the QCA has assessed an opening asset value of $272.2m – a 43% reduction to QR’s proposed $471.6m. 
• The QCA has accepted QR’s WACC of 6.93%, noting that this will be adjusted to reflect current market data near the time of the final decision, in accordance with the QCA’s standard practice.
• Reflecting its mixed use nature, Western System costs are allocated between coal and non-coal services.  In an environment where both coal and non-coal volumes have fallen, QR had proposed that the allocation of the opening asset value reflect a Government imposed constraint on the number of paths that can be contracted by coal services, but that forward looking costs (maintenance, opex and capex) should be allocated on forecast usage.  In a recommendation sure to concern QR, the QCA has allocated forward looking costs based on the Government’s contracting constraint – with around 77% of these costs allocated to coal and the remaining costs largely allocated to unused capacity and therefore unrecoverable.
• Contrary to prior expectations, QR’s 2015 DAU did not provide for retrospective application of the new tariffs to the expiry date of the previous ones (July 2013).  Reflecting its concern with this approach, the QCA has deducted $3.00/000gtk from the price ceiling to reflect QR’s revenue over-recovery, assuming the building block parameters in this decision were applied from 2013.

The QCA has also modified QR’s proposal to extend the Western System reference tariff to the metropolitan region, together with a separate charge to cover incremental capex for coal services, in order to remove what it considers to be double counting of past Western System capex. This has the result of reducing the tariff in this region by 30%.

Negotiation of access agreements

• The QCA has accepted QR’s general approach to negotiating access, but requires significant amendment to clarify arrangements and create more stringent obligations on QR in many areas.
• In order to encourage more balance in access negotiations, the QCA requires detailed annual reporting by QR on system costs (including maintenance, operating costs, past and forecast capex) and volumes.
• Noting concerns about how access charges may be set for renewing access agreements, particularly where the parties have sunk investments still to be fully recovered, the QCA has recommended constraints on access charges which effectively lock in QR’s cost recovery for these services at their current level.  This requirement only applies on the first renewal of the agreement, in order to encourage users to contract for a term that matches their remaining investment life.  We expect that QR – and potentially some users – will be concerned that this does not allow the level of cost recovery to be adjusted at the end of an agreement, where market circumstances have changed.
• The QR standard access agreement was proposed to apply to all freight products on its network, and be a tripartite agreement giving an end user the option of being a party to the access agreement alongside the rail operator.  This contrasts with the “split form” access agreements implemented for Aurizon Network and ARTC’s Hunter Valley, which provide for a separate capacity agreement with end users, and operational agreement with rail operators.  While the QCA has broadly accepted a tripartite form of agreement, it requires substantial amendment to:
• • allow either the rail operator or the end user to be the principle contracting party who holds the access rights, and where the end user holds the access rights, allow it to flexibly manage these access rights, including assigning them to one or more operators and to change this assignment throughout the term of the access agreement; and
  • create a more balanced assignment of risk between QR and the access holder, consistent with the approach that the QCA has recommended for Aurizon Network.

Investment in network expansion

• Considering recent declining network volumes and the substantial spare capacity that exists on much of QR’s network, QR’s DAU had proposed high level principles for how network expansions would be negotiated, but deferred development of detailed arrangements until such time that demand for the expansion eventuated.
• While the QCA has partially accepted this approach, it requires substantially more detail in the expansion principles, in order to provide users with greater certainty around how expansions will be negotiated and funded.  This includes:
• • acknowledgement that QR is required to permit, but cannot be forced to fund, an expansion;
  • an obligation on QR to advise when an expansion is required to provide requested access, including proving reasoning for its suggested indicative scope, standard and cost for the expansion project;
  • subject to execution of a study funding agreement, a requirement for QR to provide access to all reasonably necessary information to a user, together with project assistance, to allow that user to fully investigate the necessary scope, standard and cost for the project;
  • again subject to execution of a project funding agreement, QR will construct and own an extension project.
• The QCA has accepted that standard funding agreements need not be developed until demand arises.  However, we expect that the QCA will require any standard funding agreements to have close regard to the standard agreements currently being developed for Aurizon Network.

Next steps

Submissions on the Draft Decision are due on 24 December 2015.