Financeability tests and their role in price regulation - IPART - NSW ...

5 How should IPART respond when a business fails the
financeability test?
5 How should IPART respond when a business fails the
financeability test?
Where our financeability test indicates that a regulated business’s projected credit
rating will fall below investment grade during the determination period, we have to
decide how to respond. In particular, we need to assess whether the potential
financial viability issues are best managed by the business or its shareholders, or
whether we should adjust our building block model inputs (and thus the proposed
prices) to improve the business’s cash flows and thus prevent the deterioration in its
expected credit rating.
The sections below discuss a range of issues related to this question that we will
consider as part of this review. These issues include:
� whether we should allow for equity raisings in setting prices or suggest equity
injections to ensure short-term financial viability?
� the circumstances, if any, should IPART make adjustments to prices to address
financeability issues?
� the options for making such adjustments are available?
� whether any such adjustments be NPV neutral?
� the regulatory precedents for making such adjustments?
5.1 Should IPART allow for equity raisings or mandate equity injections
to ensure short-term financial viability?
One of the principles of incentive regulation is that it should seek to replicate the
pressures of a competitive market. In such a market, the participants are price-takers
and cannot set prices to directly match their specific financing requirements –
whether these are due to the asset cycle stage they are in, their level of efficiency or
their financing strategies. This principle suggests that, in the first instance, the
responsibility for managing short- to medium-term financeability issues should rest
with the business. This is also consistent with the principle of allocating risk to those
who can best manage it (in this case, the management of the business rather than its
customers).
As section 3.3 noted, there are a range of options available to businesses and their
shareholders to manage their financeability. One of these options is equity injections.
These may take the form of direct equity injections from existing or new shareholders
or through retained earnings. If retained earning are not sufficient to cover the
Financeability tests and their role in price regulation IPART 25