Internal consistency of risk free rate and MRP in the CAPM
Internal consistency of risk free rate and MRP in the CAPM
Internal consistency of risk free rate and MRP in the CAPM
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Multi net Group Hold<strong>in</strong>gs Pty ltd<br />
ACN 104 036 937<br />
29th March 2012<br />
By email: Tom.Hird@ceg-ap.com<br />
Dr Tom Hird<br />
Competition Economists Group (CEG Asia-Pacific)<br />
Suite 201<br />
111 Harr<strong>in</strong>gton Street<br />
SYDNEY NSW 2000<br />
Australia<br />
Dear Dr Hird,<br />
Multi net<br />
Registered Office:<br />
• 43-45 Centreway Place<br />
• PO Box 449<br />
• Mt Waverley Victoria 3149<br />
Australia<br />
• Telephone (03) 8846 9900<br />
• Facsimile (03) 8846 9999<br />
Our Reference: MN.PG.1 0.02<br />
Expert report <strong>in</strong> relation to <strong>the</strong> market <strong>risk</strong> premium <strong>and</strong> <strong>the</strong> cost <strong>of</strong> equity<br />
Background<br />
Rule 87 <strong>of</strong> <strong>the</strong> National Gas Rules sets out provisions relat<strong>in</strong>g to <strong>the</strong> <strong>rate</strong> <strong>of</strong> return (or<br />
weighted average cost <strong>of</strong> capital) as follows:<br />
"(1) The <strong>rate</strong> <strong>of</strong> return on capital is to be commensu<strong>rate</strong> with prevail<strong>in</strong>g<br />
conditions <strong>in</strong> <strong>the</strong> market for funds <strong>and</strong> <strong>the</strong> <strong>risk</strong>s <strong>in</strong>volved <strong>in</strong> provid<strong>in</strong>g<br />
reference services.<br />
(2) In determ<strong>in</strong><strong>in</strong>g a <strong>rate</strong> <strong>of</strong> return on capital:<br />
(a) it will be assumed that <strong>the</strong> service provider:<br />
(i) meets benchmark levels <strong>of</strong> efficiency; <strong>and</strong><br />
(j) uses a f<strong>in</strong>anc<strong>in</strong>g structure that meets benchmark st<strong>and</strong>ards as to<br />
gear<strong>in</strong>g <strong>and</strong> o<strong>the</strong>r f<strong>in</strong>ancial parameters for a go<strong>in</strong>g concern <strong>and</strong><br />
reflects <strong>in</strong> o<strong>the</strong>r respects best practice; <strong>and</strong><br />
(b) a well-accepted approach that <strong>in</strong>corpo<strong>rate</strong>s <strong>the</strong> cost <strong>of</strong> equity <strong>and</strong> debt,<br />
such as <strong>the</strong> Weighted Average Cost <strong>of</strong> Capital, is to be used; <strong>and</strong> a<br />
well-accepted f<strong>in</strong>ancial model, such as <strong>the</strong> Capital Asset Pric<strong>in</strong>g Model,<br />
is to be used."<br />
The revenue <strong>and</strong> pric<strong>in</strong>g pr<strong>in</strong>ciples <strong>in</strong> section 24(2) <strong>and</strong> (5) <strong>of</strong> <strong>the</strong> National Gas Law state:<br />
"24(2) A regulated network service provider should be provided with a<br />
reasonable opportunity to recover at least <strong>the</strong> efficient costs <strong>the</strong><br />
operator <strong>in</strong>curs <strong>in</strong> provid<strong>in</strong>g reference services; <strong>and</strong>