Fixed and Variable Pricing

Fixed and Variable Pricing

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We’re hearing some of you - our customers - believe our tariff structures are unnecessarily complex and difficult to understand.

We have 29 fixed charges and 18 variable charges relating to our core business of collecting, storing and delivering water alone. Nearly all of our network delivery costs are fixed, as in they do not vary in proportion to the volume of water delivered.  

What we are hearing?

We’re hearing some of you - our customers - believe our tariff structures are unnecessarily complex and difficult to understand. Others express a preference for flexibility like tiered charges that reflect a particular level of service.

“There needs to be a review of fees so that it really reflects costs within each category. Currently there seems to be acceptance of arbitrary divisions between fixed and variable costs. Within particular fees there also seems to be numerous hidden services.”

“Get serious about addressing the 'fixed cost' component of water delivery. Separating delivery share from entitlement has caused serious financial pain for subsequent land owners/purchasers. Making most undertakings uncommercial.”

“High fixed costs on farms using near to no water is unsustainable.”

“Reduce fixed cost of IAF, especially when water has been sold.”

What can we do?

For us - there is a constant struggle for balance between simplicity and flexibility in our fees and charges.

Previously about 20 per cent of our revenue was variable, but this created unsustainable cash flow issues for us during the Millennium drought.

Significant price increases were required to make up the revenue shortfall and the impact fell most heavily on active irrigators – those who use the most water.

After this we worked with you – our customers – and it was agreed to reduce the variable revenue component to 10 per cent.

Less than 10 per cent of our costs are variable but this figure (which equates to about $6 million) was determined the best balance between responding to your desire for a link between use and our charges, and the infrequency of years when allocation of high reliability water shares (HRWS) is less than 100 per cent.

With this in mind, we know cost is a major concern for everyone. We want to work with you to determine the levels of service and pricing arrangements that better meet your needs and priorities.

Our fixed vs variable analysis

The following analysis was completed on the five-district prices (excluding the Shepparton district). The average Infrastructure Access Fee (IAF) and Infrastructure Use Fee (IUF) are based on actual and projected results throughout the Water Plan 4 (WP4) period. The analysis looks at scenarios if we were to adopt 80/20 and 70/30 fixed vs variable splits.

We have then reviewed the changes to customers’ prices and our business sustainability under different water delivery conditions – these being 20 percent high deliveries that in the last water plan period, 20 per cent lower and 40 per cent lower and worst case.

The table below provides average statistics for the WP4 period Based on actual and projected results over the Water Plan.

The table below explains how we determine the customer size used in the following information.

Scenarios for average WP4 deliveries

The table below shows the expected bill impact (for the IAF/IUF bill component) in each typical customer groups if we had adopted an 80/20 or 70/30 fixed vs variable split for WP4. This assumes no changes in the deliveries from the average WP4 figures noted above.

You can see higher variable fee components broadly impact the larger customers more than smaller customers – this is because larger customers generally use more water.

The higher variable tariff components redistribute costs from customers who don’t use water onto active irrigators through reducing the IAF to offset the increase in the IUF. This is consistent for all scenarios below however the impact is moderated where there are high water deliveries as the price per ML is lower.

Favourable water deliveries (20% increase)

The table below shows the expected bill impact (for the IAF/IUF bill component) for each typical customer groups if we adopt an 80/20 or 70/30 fixed vs variable split for WP4. This assumes a 20% increase in the deliveries from the average WP4 figures noted above.

It’s clear in the above information that larger customers benefit from lower variable components and smaller customers benefit from higher variable components.  

Average IUF prices have decreased due to revenue sufficiency generated by increased throughput. There is no constraint on reducing prices therefore the IUF has been decreased to a level that would allow us to generate the required revenue from the projected higher deliveries.

Higher deliveries does not create additional risk for GMW’s sustainability as revenue is sufficient and not restricted by the 10% rebalancing constraint.

Unfavourable water deliveries (20% down)

The table below shows the expected bill impact (for the IAF/IUF bill component) for each typical customer group if we adopt an 80/20 or 70/30 fixed vs variable split for WP4. This assumes a 20% decrease in the deliveries from the average WP4 figures noted above.

As our costs are essentially 100% fixed, the impact of fixed vs variable components of billing leaves our business at risk when there is a significant decrease in deliveries. This is accentuated as the variable component becomes larger.

We are restricted by the 10% rebalancing constraint under our revenue cap,restricting prices from increasing by more than 10% in any one year.

This means that when there is a decrease in volumes, the prices cannot be increased sufficiently to maintain the base revenue required.  This has a negative impact on our sustainability ranging from mild for low fixed vs variable splits, to more significant as the variable component increases.

The example above looks at the impact of just one year. It can be seen that a higher variable component favours the smaller customer where a lower variable component favours the larger customer.

Highly unfavourable water deliveries (40% down)

The table below shows the expected bill impact (for the IAF/IUF bill component) for each typical customer group if we adopted an 80/20 or 70/30 fixed vs variable split for WP4. This assumes a 40% decrease in the deliveries from the average WP4 figures noted above.

Similar to the 20% lower scenario, this scenario further accentuates the risk associated with higher variable splits. Customer impacts are consistent as the price increases remain capped by the 10% rebalancing constraint. This means the impact to our sustainability is greater as the lower volumes result in insufficient revenue to cover the revenue requirement.

For each of the scenarios above, the price increase or decrease was calculated relative to the current 90/10 fixed vs variable split based on WP4 averages stated at the top of the document.

Time series – worst case scenario

 Each of the previous scenarios has looked at the impact on a single year. The following tables look at the impacts of the 80/20 and 70/30 scenarios if we were to suffer from a sustained decrease in delivery volumes. This scenario has been prepared based on a 40% decrease in delivery volumes as a worst-case scenario, however as can be seen in the single year examples above, while the impacts are more severe in this case, the impact to our business is consistent. This does assume the decrease was not forecast in our water plan, otherwise the variable price would have been set higher and the rebalancing constraint would not be an issue.

80/20 fixed vs variable split

Assumes IUF price increases each year by 10% as allowed under the rebalancing constraint, and no other changes to prices.

The typical customer analysis shows in the first year, the change in price associated with the change from 90/10 to 80/20, each subsequent year shows the year on year impact of the lower volumes and the increase in IUF price.  The total column shows the cumulative customer impact for the entire water plan period. As can also be seen in our sustainability section, with the rebalancing constraint, where there is a significant reduction in volumes, the ability for our business to generate sufficient revenue to cover expenditure is marginalised.

We cannot increase prices sufficiently over the four-year period to break even or recover the losses made in the early years of the water plan. This would require us to increase borrowings by $8.2m with limited mechanism to service unless specifically granted by the ESC.

70/30 fixed vs variable split

Assumes IUF price increases each year by 10% as allowed under the rebalancing constraint, and no other changes to prices.

The typical customer analysis shows in the first year, the change in price associated with the change from 90/10 to 70/30, each subsequent year shows the year on year impact of the lower volumes and the increase in IUF price.  The total column shows the cumulative customer impact for the water plan period. Similar to the 80/20 split example, the rebalancing constraint, where there is a significant reduction in volume,impairs our ability to generate sufficient revenue to cover expenditure. Our business cannot increase prices sufficiently over the four-year period to break even or recover the losses made in the early years of the water plan. This would require GMW to increase borrowings by $11.2m with limited mechanism to service unless specifically granted by the ESC.

During the development of our 2019 Pricing Submission we want to understand how important to our customers financial planning it is to have fixed and variable pricing. At our pricing and tariff summit (June 24-25) we’ll be exploring this topic. Here we’ll be asking for feedback on:

  • What do you think is the greatest impact and/or risk of changing the fixed and variable make up of your bills?
  • Understanding this, what do you think is the right mix of fixed versus variable costs?