Consumers and energy retailers draw ahead of DNSPs in “behind-the-meter” market

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This article was written by Ava Hancock, Scott Gardiner and Vishal Ahuja.

Following requests from the Australian Energy Council (AEC) and the COAG Energy Council, the Australian Energy Market Commission (AEMC) has released a draft "more preferable" Contestability of energy services rule which restricts distribution network service providers (DNSPs) from earning a regulated return on "behind-the-meter" assets such as solar photovoltaic and battery storage - except where the Australian Energy Regulator (AER) grants an exemption.

This will be seen as a win for the retailers, but importantly, DNSP's affiliates can still own these assets and participate in this exciting new market.

The draft rule also provides that:

  • Exemptions cannot (except in extremely limited circumstances) be sought during a regulatory control period and the AER must consider the likely impacts on the development of competition in the energy market when making exemption decisions. It does not look like it will be easy for DNSPs to get exemptions.
  • The AER is currently required to apply the previous distribution classification or regulatory approach in classifying a distribution service unless a different classification is "clearly more appropriate". This is a high hurdle.  It is now proposed to be removed.  The presumption in favour of maintaining the status quo will go in favour of looking forward and embracing technology change.
  • The AER will now be able to reclassify a distribution services during the period between the framework and approach paper and the final determination where there has been "a material change in circumstances" – the previous "unforeseen circumstances" hurdle is being softened.
  • The AER must publish Asset Exemption Guidelines (developed in accordance with the distribution consultation procedures) by 30 September 2018. The AER must also publish Distribution Classification Guidelines by the same date.

Submissions on the draft rule can be made up to 31 October 2017 (there will also be a public forum on 27 September 2017 in Sydney).

AEMC promoting growth in the "behind-the-meter" market

The upcoming rule change is the latest move by the AEMC to promote competition in the growing distributed energy resources market. Battery storage, solar PV and other "behind-the-meter" technologies have become increasingly popular among consumers wanting more control over their energy.

The draft rule builds on the ring-fencing guidelines introduced last year that require DNSPs to separate their regulated monopoly services from other contestable business activities - the ring-fencing guidelines prevent DNSPs from cross-subsidising a contestable service with their regulated revenues.

Under the draft rule, capital expenditure on "behind-the-meter" assets cannot be included in the regulated asset base of DNSPs, but ring-fenced affiliates of DNSPs will be able to own and control "behind-the-meter" assets.

The energy retailers didn't quite get everything they wanted

Not all of the AEC's and COAG Energy Council's requests made it into the rule.  

The AEC requested further rule changes to:

  • lower the regulatory investment test for distribution by DNSPs from the current $5 million threshold to $50,000.
  • require the ring-fenced affiliates of DNSPs to publish information that would allow third parties to compete for contestable services.

The AEMC said that these requests were separate from the core focus of the current rule change and would "need to be assessed within a review of the overarching incentive design". A review of the incentive framework is due to take place next year.

AER classification of distribution services will now look forwards, not backwards

The COAG Energy Council submitted a rule change request to allow reclassification of distribution services during a regulatory control period. The COAG Energy Council think the pace of technology change creates a regulatory lag that negatively impacts the development of competition in the emerging energy services market.

The AEMC agreed that improvements in technology impact the classification process but stated that reclassifying services during a regulatory control period would place too much pressure on the resources of the AER.

The AEMC is instead proposing to lower the threshold for reclassification in the lead up to a regulatory control period. Under the existing rules, services can only be reclassified in the period between the initial framework and approach paper and final distribution determination for "unforeseen circumstances". The AEMC is proposing to lower the reclassification threshold to "a material change in circumstances" (for example, a technology change that justifies reclassification during that period).

The AEMC is also proposing to remove the existing requirements that prevent the AER from departing from a previous classification or a previous regulatory approach unless a different classification is "clearly more appropriate". The AEMC stated that if the changing energy environment requires a departure from the existing classification then it should be open to the AER to reclassify the service without the need to justify the change. This change will remove the presumption in favour of maintaining the status quo.

Finally, the draft rule also requires the AER to publish Distribution Service Classification Guidelines by 30 September 2018. The Distribution Service Classification Guidelines will set out the AER's approach to, relevantly and significantly, distinguishing between a distribution service itself (which can be classified) and the inputs that are used to provide that distribution service (which cannot be classified), "so as to provide clarity to the DNSP's as to the inputs in respect of which they have service discretion and in relation to which they can receive regulated revenue insofar as concerns direct control services".  This may be a bit of a sleeper, as it may enable the AER to effectively exclude other inputs from a DNSP's regulated asset base.

When do the Asset Exemption and Distribution Service Classification Guidelines apply from?

As the Asset Exemption Guidelines will not be published in sufficient time for the New South Wales, Australian Capital Territory, Northern Territory and Tasmanian DNSPs 2019-24 regulatory proposals, these states and territories will have until 31 March 2018 to submit exemption applications.  Adjustments will also be made for the lack of a published exemptions guideline.  Importantly though, the new rule will effectively apply for the 2019-24 regulatory control period for these states and territories.  

The Distribution Service Classification Guidelines will not apply to these states and territories for the 2019-24 regulatory control period.

The Asset Exemption Guidelines and the Distribution Service Classification Guidelines will apply to the next Queensland, South Australian and Victorian regulatory control periods.

Who will take advantage of this emerging market?

The proposed restrictions on the ability of DNSPs to benefit from "behind-the-meter" assets begs the question of who will take advantage of this emerging market. Consumers, energy retailers, third party providers or the ring-fenced affiliates of DNSPs?  Exciting times, as the AEMC seeks ensure a level playing field.

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