Principles of gas transmission grid tariff setting in Belgium 19-9-2007 Principles of gas transmission grid tariff setting in Belgium Commission for Electricity and Gas Regulation (CREG) Department of Pricing and Accounts Tom MAES, Senior Adviser tom.maes@creg.be 4th February 2014 ECRB Gas Working Group, Vienna TMA, Voorstelling Koninklijke Besluiten Aardgas

Agenda Basic principles of grid tariffs Treatment of new investments 19-9-2007 Agenda Basic principles of grid tariffs Treatment of new investments Remuneration parameters used in grid tariffs Comments on remuneration parameters Framework Guidelines Tariff Structures Cost allocation to entry and exit points TMA, Voorstelling Koninklijke Besluiten Aardgas

Basic principles of grid tariffs (1) 19-9-2007 Basic principles of grid tariffs (1) Equal third party access conditions Single tariff structure No cross subsidization Between customer groups Between activities Basic Principles No discrimination Public sector pays same tariff as private sector Transparent Tariff covers real and reasonable costs + fair profit margin TMA, Voorstelling Koninklijke Besluiten Aardgas

Basic principles of grid tariffs (2) Costs Real value of operational costs depreciation costs financial costs allowance for tax Allocated to service or customer group directly via cost drivers Profit margin Return on RAB Regulated Asset Base economic replacement value of fixed assets +/- working capital Rate of return adjusted for optimal financial structure of 1/3 equity and 2/3 debt

Treatment of new investments Approval of investment plan Depreciation Basis = investment cost Rates corresponding to technical lifetimes (e.g. 50 years for cables and pipelines) Remuneration Return based on Capital Asset Price Model Return on equity = risk-free rate + βe x risk premium Cost of debt is entirely covered (embedded financial cost)

Remuneration parameters Rf : risk free rate (YTM: yield to maturity of the government bond used as risk free asset) t : tax rate Cost of debt is entirely covered (embedded financial cost) βe : equity beta EMRP: equity market risk premium βa : asset beta derived from initial βe with the Miller formula βe = βa (1 + Debt/Equity) or βa = βe (1-g) Cost of equity : Rf + βe EMRP βat : asset beta derived from initial βe with the Modigliani-Miller formula βe = βat [1+(1-t) Debt/Equity] g : gearing Debt/(Debt+Equity) i: projected inflation rate

Comments on remuneration parameters Rf 10-year Belgium government bond's YTM averaged over 4 years (Transmission) EMRP Based on the reference stock market in Belgium For other countries see Global Investment Returns Yearbook http://www.investmenteurope.net/digital_assets/6305/2013_yearbook_final_web.pdf βe Electricity transmission: based on the daily stock price of Elia SA Gas operations: βe conventionally equals to 0,65 (transmission) Beta per sector (e.g. 0,62 electricity distribution and 0,52 gas distribution) can be found on http://pages.stern.nyu.edu/~adamodar/New_Home_Page/datafile/Betas.html g 67% considered as optimal in an embedded financial cost model Variation of the WACC formula according to the actual operator's financial leverage Additional "illiquidity" premium (x 1.2) to the calculated return on equity for non publicly listed electricity and gas DSO

Framework Guidelines Gas Transmission Tariff Structures Ch. 1-2: General provisions, publication requirements Ch. 3: Cost allocation and determination of the reference price Ch. 4-8: Revenue recovery, reserve price, virtual interconnection points, bundled capacity products, payable price Avoid risk of discrimination between categories of network users Enable CAM: reserve price, revenue recovery and payable price Transparency: methodology, costs, congestion, tariff evolution Sep -Nov 2012 Jan -Feb 2013 29.06. 2012 18.12. 2012 26.02. 2013 15.03. 2013 non-discrimination, effective competition and the efficient functioning of the market cost-reflectivity, avoidance of cross-subsidies, promotion of efficient new investment, and greater transparency Wide range of provisions tackling all aspects of gas transmission tariff structures

What the cost allocation chapter is (not) Ensure that tariffs are set in a fair way, based on objective and transparent criteria Description on how the tariff is determined under the respective cost allocation methodology Description under which circumstances each cost allocation methodology can be used Bottom up approach 4 cost allocation methodologies: * Postage stamp * Capacity weighted distance * Distance to virtual point * Matrix 3 secondary adjustments: * Equalisation * Rescaling * Benchmarking Not a full harmonisa-tion ( ) Acknowledge the need for flexibility and possible trade-offs in achieving competing objectives when setting transmission tariffs in Entry-Exit systems

Cost allocation: capacity weighted distance method (1) TITLE OF THE PRESENTATION Variant A of the « Capacity Weighted Distance » methodology  cost allocated to each entry (exit) point depends on the weighted average distance from this entry (exit) point to each exit (entry) point Entry 1 Cost allocated to Exit X = Dist 1 Entry 2 Exit X Dist 2 Dist 3 Dist 4 Entry 3 Entry 4 Underlying assumption of this methodology  gas exiting at a specific exit point can come physically from any entry point

Cost allocation: capacity weighted distance method (2) TITLE OF THE PRESENTATION Assumption of variant B: at peak flow situations (most constraining for network investment), not all combinations are possible  E.g. gas at a specific exit point will not physically come from some of the entry points Entry 1 Cost allocated to Exit X = Dist 1 Entry 2 Exit X Dist 2 Dist 3 Dist 4 Entry 3 Some of the Entry-Exit combinations are excluded in the calculation of the cost allocations Entry 4

Thank you for your attention! 19-9-2007 Thank you for your attention! Commission for Electricity and Gas Regulation (CREG) Department of Pricing and Accounts Tom MAES, Senior Adviser tom.maes@creg.be 4th February 2014 ECRB Gas Working Group, Vienna TMA, Voorstelling Koninklijke Besluiten Aardgas